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Taxes Would Have to Go Up by HOW Much?!

May 17th, 2009 . by economistmom

Bruce Bartlett had another great Forbes column last week, explaining what the latest Trustees’ reports on Social Security and Medicare imply about the tax increases required to cover the currently projected gaps between the spending in these programs and the revenues dedicated to funding these programs.  His answer is prominently highlighted in the title of the column:  “The 81% Tax Increase.”  Pretty shocking, mainly because when you hear “81%” right next to the word “tax,” what comes into your mind is maybe an 81% tax rate–or maybe even an 81% tax rate levied in addition to whatever effective tax rate you’re already paying.  But let’s look at how Bruce comes up with this 81% tax increase:

[T]he personal income tax [will raise] about 10% of GDP in coming years, according to the Congressional Budget Office… [and] taxpayers are on the hook for Social Security and Medicare by these amounts: Social Security, 1.3% of GDP; Medicare part A, 2.8% of GDP; Medicare part B, 2.8% of GDP; and Medicare part D, 1.2% of GDP.  This adds up to 8.1% of GDP. Thus federal income taxes for every taxpayer would have to rise by roughly 81% to pay all of the benefits promised by these programs under current law over and above the payroll tax.

The math is correct:  if federal personal income taxes start at around 10% of GDP, and an additional 8.1% of GDP is needed to fill the gaps, then if the gaps in Social Security and Medicare are to be filled entirely by an increase in federal personal income taxes, they would have to be increased by 8.1/10.0 = 81%.  But the psychological framing that goes on in one’s mind which may lead one to envision an 81% tax rate is way overblown, because the bottom line is that even if we did fill all of the Social Security and Medicare gaps (going out over the “infinite horizon” by the way) with an increase in the personal income tax only, the overall effective personal income tax rate would be 10 + 8.1 = 18.1% of GDP–or an overall effective personal tax rate of 18.1%, which is far less scary (and much smaller) than 81%.  Also, when you consider that all federal taxes currently add up to about 20% of GDP, the increment to the overall effective federal tax rate would be just over 40 percent of the 20% rate, rather than 81 percent of a 10% rate.  So adding 8.1% of GDP to federal taxes overall would imply raising the level of taxation from 20% of GDP to, yes, closer to 30% of GDP (20% + 8.1% = 28.1% tax rate)–but nowhere near something as scary-sounding as an “81% tax increase” (which sounds like an 81% tax rate).

I love Bruce’s straight-forward math and his bottom-line point that people have to start facing the reality that either we’ll have to be willing to see benefits pared back at least somewhat or else we’ll have to put up with this level of tax increases:

The reality, which absolutely no one in either party wishes to face, is that benefits are never going to be cut enough to prevent the necessity of a massive tax increase in the not-too-distant future. Those who think otherwise are either grossly ignorant of the fiscal facts, in denial, or living in a fantasy world.

But I just worry that emphasizing a figure like “The 81% Tax Increase” just keeps those anti-tax, tea-party-loving folks–and maybe even the bulk of more open-minded Americans–resistant to the idea of any solution involving any part of the tax side of the equation.  I mean, wouldn’t it evoke a much different reaction if Bruce had titled his column something like “The 28% Tax Rate to Keep Our Current Commitments to Social Security and Medicare”?

21 Responses to “Taxes Would Have to Go Up by HOW Much?!”

  1. comment number 1 by: Paul Rothstein

    Peter Diamond of MIT and Peter Orszag published a report awhile back that emphasized the need to adjust social security taxes and benefits for life expectancy. It’s a much more complicated answer to the question of “what to do” than simply “tax more,” but there is a lot of merit to this plan. You could call it a benefit cut, or you could call it a minor reduction in the gross benefit of greater life expectancy itself ;)

  2. comment number 2 by: Tim

    Spending cuts are as inevitable as a tax increase. The American people are not gonig to tolerate and 81% tax increase if quantified by him, or in your case, a 40% tax increase without massive political scrutiny.

    We must face reality. We cannot afford the government that we have. more is not an option.

  3. comment number 3 by: Brooks

    Diane,

    It was indeed refreshing to see someone (Bartlett) explaining to people the fiction of the “trust funds” and the irrelevancy of their balances to the magnitude of our overall fiscal imbalance, related trade-offs and policy alternatives. He does an excellent job.

    I would add that, given the dynamic effects of substantial tax increases — negative impact on GDP and increased tax avoidance, and thus a lower tax base, ceteris paribus — (1) the tax rate increases would have to be more pronounced than the increase in effective tax rate in order to yield that higher effective tax rate (i.e., taxes would have to rise to a level associated with an higher static revenue gain in order to account for adverse dynamic effects), and (2) if we were targeting particular levels of (publicly-held) debt-to-GDP (as a metric of our fiscal imbalance), we would have to raise tax rates higher still, since GDP would be lower, making debt-to-GDP higher than it would be under static analysis.

    So getting from 20% effective taxation to 30% effective taxation would require more than a 50% increase in tax rates (if done across all taxes, just for simplicity of illustration), and if the target were both 30% effective taxation and a given debt-to-GDP level, the tax rate increase would have to be higher still.

  4. comment number 4 by: B Davis

    But I just worry that emphasizing a figure like “The 81% Tax Increase” just keeps those anti-tax, tea-party-loving folks–and maybe even the bulk of more open-minded Americans–resistant to the idea of any solution involving any part of the tax side of the equation. I mean, wouldn’t it evoke a much different reaction if Bruce had titled his column something like “The 28% Tax Rate to Keep Our Current Commitments to Social Security and Medicare”?

    I agree that the use of the 81% figure is a weakness in an otherwise well-written article. The number appears only in the title and the following paragraph toward the end of the article:

    To summarize, we see that taxpayers are on the hook for Social Security and Medicare by these amounts: Social Security, 1.3% of GDP; Medicare part A, 2.8% of GDP; Medicare part B, 2.8% of GDP; and Medicare part D, 1.2% of GDP. This adds up to 8.1% of GDP. Thus federal income taxes for every taxpayer would have to rise by roughly 81% to pay all of the benefits promised by these programs under current law over and above the payroll tax.

    Hence, it seems very likely that many readers will be left with the wrong impression of what the 81% figure signifies. I have found myself that it is very confusing to describe the increase in a percentage as yet another percentage. When describing such an increase, I’ll usually try to avoid using a percentage (such as saying that the tax rate would nearly double) or clearly list all the numbers in a simple sentence. For example, one could replace the last sentence above with the following:

    Thus federal income taxes for every taxpayer would have to rise from 10% to 18.1%, an increase of roughly 81%, to pay all of the benefits promised by these programs under current law over and above the payroll tax.

    The first two graphs at this link show that the average effective individual income tax rate is about 10% but the average total effective federal tax rate is about 20%. Hence, “The 28% Tax Rate” would have been an equally valid title but would likely have gotten a much different response from many readers. That goes to show that one absolutely must read beyond the headline. That’s especially the case since many headlines are arguably designed to grab a reader’s attention as much as to accurately summarize the story.

  5. comment number 5 by: economistmom

    Brooks: yes, but there are many ways to get to add that 8.1% of GDP in revenue without just jacking up marginal tax rates. My hope is that policymakers will come to realize that before they are backed into that “must raise revenue NOW” corner, having run out of time to more thoughtfully consider the smart ways to both raise revenue and reduce spending.

  6. comment number 6 by: Brooks

    Diane (EconomistMom),

    Yes, certainly. I only used across the board tax rate increases for simplicity of illustration, to point out that, other things equal, the increase in tax rates would have to be greater than the corresponding increase in effective tax rate, due to dynamic effects. And even at that higher effective tax rate, debt-to-GDP would be higher than static analysis would indicate. The point being that static analysis understates how much the tax burden on individuals and businesses would need to increase increase to hit a target effective tax rate.

    But again, yes, in addition to reductions in projected spending, a more efficient, less distortionary, more long-term-growth-oriented, (and while we’re at it, more environmentally friendly), etc., tax structure, as you recommend in http://www.taxfoundation.org/research/show/24335.html

  7. comment number 7 by: Bruce Bartlett

    I am all for describing the problem any way that is accurate. I think every person who cares about this issue should try their hand at explaining it in a way that gets peoples’ attention. It’s basically a marketing problem. My hat will be off to anyone who figures out a way of presenting the problem that leads to action.

  8. comment number 8 by: Brooks

    One other way to look at an increase in effective tax rate — one that is actually more taxpayer-centric, albeit subject to wide variation across individuals — is to think in terms of impact of the decreased after-tax income on each individual’s (or an “median” individual’s) standard of living and ability to save (the latter affecting one’s future standard of living).

    Leaving aside the reasonable assumption that a 40% increase in effective tax rate (from 20% to 28%) would leave a substantial number of people unemployed, (1) many would be underemployed or doing the same work at lower wages/salaries, and investors would earn lower investment income than without such a increase in taxation (and without the accompanying spending — i.e., neither borrow & spend nor tax & spend to that degree), and (2) with higher tax rates and/or new types of taxes, after tax income would be a smaller percentage. Thus, gross income would be lower and a greater portion of that (lower) gross income would be paid in taxes.

    Picture an individual or family that is, even under current tax rates, only able to save (or spare to pay down debt) 5% of gross income at their current standard of living. Depending on their type and level of income, tax status, etc. (and thus how much of their income is hit by the tax increases), the increase in effective taxation of the magnitude Bartlett describes could, say, cut in half the amount they are able to save each year (at their current standard of living) or perhaps wipe out their ability to save entirely and/or force a tangible decline in their standard of living. What would he/she/they have to forego to be able to continue saving money (or paying down personal debt), or to even make ends meet? How would their quality of life change?

  9. comment number 9 by: Anandakos

    Brooks,

    You have mentioned “feedback” loops in the economy in several of your posts, but it seems to me that you always assume them to be negative if overall taxes are raised. This is certainly the Macroeconomic consensus here in America, but if it were genuinely and universally true Sweden and The Netherlands would be bankrupt.

    Needless to say, they’re not. In fact, they have highly productive and innovative societies.

    On another thread we pretty much agreed that a major problem with our government is that political campaigns are completely funded by private donations, and that produces unavoidable corruption.

    It may be that in America, where it seems that all the greedy and “me first” people immigrated from other places, higher taxes do cause economic inefficiency because the government pisses away the money. Instead of acting as a prudent fiduciary, Congress indulges in a wank fest of “you scratch my back, I’ll scratch yours” mindless spending. And each of their constituents is only concerned that she or he gets “my share of the pie” while screaming about the “pork” of his neighbor’s subsidy.

    IRV and mostly publicly funded elections MAY provide a way out of the mess. If not then the future of American is roughly that of Argentina (which had about the same GDP per capita as the US in 1900): sclerotic statism leading to national imbecility.

  10. comment number 10 by: Jim Glass

    “Entitlements would have to be cut by How Much to close the coming fiscal gap 50% with tax increases and 50% by spending cuts?”

    Being that….

    (1) It is totally implausible that Congress will enact ever-increasing tax hikes to fund entitlement costs that are projected to rise indefinitely into the future — voters surely will insist on split-the-difference benefit cuts to contain the tax rise. We have precedent for this in the 1983 bailo^h^h^h Reform of Social Security, which closed its funding gap 50% with benefit cuts. And that…

    (2) This fiscal gap is going to have to be closed by 2030, else in GDP terms it will then equal >50% of all income tax revenue today, and the credit rating of the US will be “junk”, as per projection by Standard and Poors. And that…

    (3) The gap to be closed by 2030 is caused by the demographic bulge of retirees newly eligible for benefits, not by rising cost of medical services, as Andrew Biggs has noted. Both Moodys and S&P project that on current law the credit rating of the US will start falling in 2017. That’s only eight years from now. If the credit rating of the US starts to fall bad things will happen. And in 2017 surging entitlement costs are near 100% due to demographics, the growing number of retirees owed benefits. So that’s the problem to solve.

    …. it follows inevitably, as water flows downhill, that by 2030 there’s going to have to be another round of major entitlement benefit cutbacks, as was started with Social Security in 1983. Be it by postponing the retirement age for Medicare as was done with Social Security, means testing (which has already been started on a small scale for Medicare), making benefits taxable as was done with Social Security … whatever, something will happen.

    Thus, following the political logic that applied in 1983 — the incentives of politics have not changed — I did a back-of-the-envelope estimate of how much Medicare benefits, the main driver of all this, would have to be cut to close its share of the funding gap 50% with spending cuts.
    ~~
    Medicare cost is projected to grow by 3.2 points of GDP by 2030, to 5.9 from 2.7 in 2007. “Split the difference” thus would require reducing its cost then by 1.6 points of GDP to 4.3 points. But since 5.9 points is projected as needed to continue providing the current level of benefits, “split the difference” requires reducing Medicare benefits provided to individuals by more than 25% from today’s levels …while also increasing income taxes by 27% across the board on everyone, businesses and individual (including on seniors, of course — their pensions, IRA distributions, investments, and so on). And 2030 is just the start of the process…
    ~~

    Cutting benefits as part of a deal to save them can be done — it was done in 1983 with Social Security. Medicare just has to catch up.

    Cutting benefits as part of a deal to save them must be done — it is every bit as delusional to think that the voters will tell Congress to keep raising taxes on them forever with no benefit cuts, as it is for the anti-taxers to think fiscal balance can be reached by cutting benefits with no tax increases.

    I think every person who cares about this issue should try their hand at explaining it in a way that gets peoples’ attention. It’s basically a marketing problem. My hat will be off to anyone who figures out a way of presenting the problem that leads to action.

    Well, as marketing messages go, I suggest presenting the full truth — it’s the hardest to refute and so the most credible over time. And people are going to have to deal with it sooner or later, so it’s best to introduce them to it as soon as possible. (At worst, if everyone ignores you and things go to hell, you’ll be able to say “I told you so!”)

    And the full truth is: “taxes will have to go up AND benefits will have to be cut.”

    There’s a growing number of people going around now telling a half-truth: “taxes must go up”, as if that is a brave thing to say. But there’s nothing brave about that, which is why so many people are saying it.

    The brave thing to say is “benefits will have to be cut!” — which is why near nobody is saying it.

    Really, does it take so much courage to pick on the Tea Partyers, does a lot of blowback really come from them when one says “taxes must go up”? Compared to the amount of blowback that comes from the AARP and the Democratic left when one says “benefits must be cut”? It’s really not seemly to mock the weak, and pretend that is being bravely responsible, when not having like words for the strong.

    A half-truth can be as misleading, and even as intentionally deceiving, as a lie.

    “Marketing” budget reform by saying only that “benefits must be cut” leaves the Tea Party & Cato crowd thinking, “that’s great, taxes don’t really have to go up” … and equally, saying only “taxes must go up”, leaves the AARP Democratic-left political alliance thinking “that’s great, no compromise on benefits ever be needed!”

    They are equally wrong — but the latter is much worse because the benefit-cut deniers are the much bigger obstacle to the tax-benefit compromise that eventually MUST come — and the longer they are that obstacle, the worse the final outcome will be for everybody. Smaller benefit cuts could be utilized if negotiated today.

    And let me repeat this reality: there is NO CHANCE this fiscal gap of 2030 can be cut just with tax increases. The benefit funding gap faced in 1983 was only *1/12th* as large, and Congress cut it 50% with benefit cuts after great trauma. The tax increase needed by 2030 is in GDP terms *7 times larger* than the Clinton tax increase of 1993 that passed a Democratic House by *one* vote, and a Democratic Senate only on a vice-presidential tie breaker. To think that a tax increase seven-times larger (as part of a scheme of “more tax increases forever”!) will be enacted without benefit cuts is denial of reality as bad as anybody else’s.

    So the marketing message I would use is the truth: “Taxes are going to have to go up a lot, an historic amount, AND entitlement benefits are going to have to cut back seriously.

    In fact, giving only one half of that message seems to me seriously misleading, so much as to be effectively partisan, supporting one side or the other’s denials, making things worse. And so, at best, IMHO not serious (at worst, a truly partisan dealing in half-truth).

    Both sides of the message should always be delivered together.

    And if one side of the message is the more important to deliver it is the “benefit cuts” side, because it is absolutely the side facing rock-hard political denial today, whether there are other people around enjoying tea parties or not.

  11. comment number 11 by: Brooks

    Anandakos,

    It is indeed true that some government spending (funded via taxation) has a net positive effect effect on GDP even over time vs. foregoing such spending and leaving the money in taxpayers’ hands. There are some things government can do more efficiently than private actors.

    That said, I am strongly inclined (intuitively) to think that increasing taxation and spending to the degree and for the purposes described in Bartlett’s column would have a substantial net negative impact on GDP over several years/decades.

    Re: public funding, it would help, but let’s not forget that even with public funding, there will still be different segments of voters with different, conflicting sets of interests and priorities, and there will still be a “tragedy of the commons” dynamic (and the very important need and challenge of reducing the degree of that dynamic and gaining acceptance of shared sacrifice). For example, recipients of Social Security and Medicare benefits will still be generally more resistant to spending restraint in those programs than will be, say, 20-somethings.

  12. comment number 12 by: Anandakos

    Brooks,

    The conflicting interests and viewpoints you describe in paragraph 3 is simply the fundamental nature of human society, and the reason that democracy (small “d”) is the least bad form of government. That said, the inertia of entitlements can’t be denied. They create their own constituencies rendering them extremely difficult to alter.

    However, I honestly believe that voters are are so resistant to cuts in “their” entitlements because they perceive that other voters have bought and paid for Congresscritters to do their bidding. They suspect — usually rightly — that the “savings” taken out of their hides will become grease for another group.

    And I’d assert that in The Netherlands and Sweden government does many things that we here in the US would categorically reject as “things government can do more efficiently than private actors”. For instance, both companies have fully nationalized transportation systems.

    Although private companies provide the vehicles and drivers, even rural intercity buses are mostly funded by the central governments. Yes, there’s a fare, but it’s pretty modest. My wife and I rode from Apeldoorn to Arnhem, a distance of about 70 kilometers for one euro fifty per person each way. That’s two euro cents per klick, pretty darn cheap.

    Sure, Holland is the most densely populated country in Europe so they simply have to have an extensive public transportation system, or they’d never get anywhere. As it is there’s a freeway about every thirty clicks in any direction even in the really rural areas. Even still they have staus; do they have staus!

    I wouldn’t advocate a similar level of public transportation in the US, because we don’t have the density to support it outside New Jersey, Long Island, and the two megalopoli in California. But here in America we’re still yelling at each other about privatizing the Acela. Since doing so would raise the fares by at least a factor of two, I-95 would grind to a halt.

    This is just an example of how the concept of “things government can do …” is not an absolute, but rather grows entirely from the conceptual framework of the thinker.

  13. comment number 13 by: Brooks

    Anandakos,

    Re:
    I honestly believe that voters are are so resistant to cuts in “their” entitlements because they perceive that other voters have bought and paid for Congresscritters to do their bidding. They suspect — usually rightly — that the “savings” taken out of their hides will become grease for another group.

    I agree that the distrust you describe is part of the problem. I don’t know if you saw or missed what I wrote the other day here: http://economistmom.com/2009/05/how-health-care-reform-is-sort-of-like-a-costco-membership/#comment-2862

  14. comment number 14 by: Anandakos

    Jim,

    Since you have shown yourself in several posts to be implacably opposed to government involvement in any activities other than police, fire, and empire, I would like to know what you propose to do about those of us nearing Medicare age.

    Our whole working lives (I graduated from high school in 1964, the year before Medicare was enacted) we have been told that our health care needs would be met in retirement primarily by Medicare. Yes, premiums and co-pays have been increasing, but not at a ruinous rate. Most people can afford effective and useful care as retirees as a result of the program.

    There’s no denying that it suffers significant funding issues. The tax rate was set too low when it was established. The architects did not foresee the enormous advances in electronic and pharmaceutical medicine, both of which themselves increase the cost of treatment but also increase the life spans of the covered participants.

    So what is to be done?

    I would suggest that a truly consistent approach for those of you in the Republican party would be to advocate “thinning the crop”. We oldsters don’t really add much to the economy except a little consumption spending (and lots of demand for expensive health care). Wouldn’t it be more economically efficient if we were just composted and our assets passed on to the younger generations?

    Since “economic efficiency” and private gain seem to be the basis for all your proposals, an honest admission that this is indeed your favored solution would be much appreciated. Caveat emptor.

  15. comment number 15 by: Brooks

    Anandakos,

    Re:
    I would suggest that a truly consistent approach for those of you in the Republican party would be to advocate “thinning the crop”. We oldsters don’t really add much to the economy except a little consumption spending (and lots of demand for expensive health care). Wouldn’t it be more economically efficient if we were just composted and our assets passed on to the younger generations?

    First, send $10 in royalties to the heirs of Jonathan Swift http://en.wikipedia.org/wiki/A_Modest_Proposal (public domain be damned!)

    Second, if you don’t mind another nudge from me, you might want to give Jim Glass a bit more benefit of the doubt as far as his humanity. Yes, people have different priorities and values, but often what seem to be great differences in values (e.g., merit vs. compassion; individual opportunity and wealth vs.the interests of society as a whole; etc.) are really, at least in part, differences in assumptions about what the trade-offs associated with policy alternatives really are.

    I can tell you, for example, that on many occasions I have tried to introduce a rational framework for discussing whether or not we should at some point means test entitlements for seniors — and by rational framework I just mean acknowledging that not adopting such a policy requires sacrifices elsewhere on the spending and/or taxation sides, and trying to assess the types, nature and magnitude of trade-offs — and some on the left have responded as if I was some extremely selfish, evil person who wanted half our nation’s seniors to be eating dog food and dying in the streets so that I could buy more shiny gadgets.

    All I’m saying is that it’s best to try not to quickly assume what you consider the worst on the values dimension, and go with more discussion of what the trade-offs are.

  16. comment number 16 by: Anandakos

    Brooks,

    You’re absolutely right from six miles up; being respectful and soft-spoken is a good thing in political economic discussions. And I don’t believe for a minute that you would want to buy more shiny gadgets with money taken from starving people. I doubt that Jim Glass would either. I will even go so far as to admit that my “suggestion” was an exaggerated straw man.

    However, down on the ground where people live an honest extrapolation of the obsession with economic efficiency, growth at any cost, and America uber alles that the Republican platform shouts about leads one to the irrefutable conclusion that if they were honest they would “disestablish” everyone who does not meet their idea of an “economically viable citizen.”

    They may very well be horrified at the thought of killing unproductive citizens and in extremis they would very likely rise to their humanity and stay their hands. It cannot be denied, though, that the logical conclusion of the paean to corporate Valhalla that is their platform does not differ that much from that of our traditional totalitarian enemies.

    There’s a growing clamor from the Mighty Wurlitzer to go back to the immediate post-Colonial period when a person had to own real property to vote (and of course, to be a white man, but they haven’t gotten quite that crazy bold yet).

    I personally believe that the end does not justify the means. If including everyone who lives here in the decisions of state means that we miss a few dozen basis points of growth through blundering, so be it. In the end we’ll never know whether we actually did limit our growth or not, and even if we did it’s worth it to have everyone on board. In any case, any “alternative” result is an academic hypothetical.

    I think people matter more than theories.

    P.S. At least I didn’t accuse Republicans of cannibalism …

    P.P.S Do I really owe Swift’s heirs $10? I would have expected the royalty to be in sovereigns.

  17. comment number 17 by: Jim Glass

    Jiim, Since you have shown yourself in several posts to be implacably opposed to government involvement in any activities other than police, fire, and empire…

    Perhaps you could point to those specific posts?

    I don’t recall them.

    If you can’t, perhaps you can try to cut back on the name calling … and maybe substitute staying on topic?

    I would like to know what you propose to do about those of us nearing Medicare age.

    Social Security went broke in 1983. Congress closed that hole 50% by significantly cutting benefits and 50% by significantly increasing taxes.

    What did it do about the people then nearing Social Security retirement age?

  18. comment number 18 by: Bruce Bartlett

    Re 1983, I would remind people that the only reason benefits were cut at all is because of the leadership of one guy, Rep. Jack Pickle of Texas. Neither the Reagan Administeration nor the Greespan Commission proposed any cuts in benefits whatsoever; it was tax increases only. But Pickle offered an amendment to the legislation to raise the reirement age and to everyone’s amazment it passed both the House and Senate. What I learned from this incident is that one can cut benefits–a lot–so long as it is in the relatively distant future. This is not nothing and an insight that those concerned about entitlement spending can learn from.

  19. comment number 19 by: Jim Glass

    Neither the Reagan Administration nor the Greespan Commission proposed any cuts in benefits whatsoever; it was tax increases only.

    Yes…. except that the tax increase was a cut in benefits via a disguised means test.

    That is, the “income tax” imposed on SS benefts did not go back to the Treasury like regular income tax to be spent on paying for wars and welfare and paper clips, it went back to the SSA to reduce the SS participant’s net benefit.

    That is in function identical to a means test — it is a means test — albeit one carefully disguised to look like a new income tax. And reading the documents from the Greenspan Commission on the SSA’s web site reveals that the commission members knew it was a means test.

    The effect of this disguised means test has grown dramatically over the years, due to (1) the Clinton tax increase extending the taxable portion of SS benefits to 85% from the 50% level set in 1983, and (2) the fact that the income threshold levels at which “income tax” applies are not inflation adjusted, so in real terms a larger portion of benefits has been taxed/means-tested every year since this provision first applied. (The same thing that increases revenue every year from the Alternative Minimum Tax).

    What I learned from this incident is that one can cut benefits–a lot–so long as it is in the relatively distant future. This is not nothing and an insight that those concerned about entitlement spending can learn from.

    Yes, I agree the 1983 SS fix is very important, and indeed shows us what we can expect in the future for Medicare, as all the same political incentives that operated in the 1980s will be in play circa 2030.

    And the 1983 fix shows it is short-term incentives on politicians that drive these programs (as I keep harping on) not at all concerns about fiscal responsibility, inter-generational fairness, best medical practices, etc.

    To start with, the 1983 fix was put off to the very last moment. Politicians never want to impose a new tax or cut a benefit until a gun is at their heads. (Do we see anything different today?)

    Then the 1983 delay in the retirement age for the then-young was a variation of “don’t tax you, don’t tax me, tax the fellow behind the tree” for benefits …. “cut the benefits of the persons who aren’t voting yet”, or who if voting, are so young not to be thinking about them.

    The exact same political incentives will be at work in the 2030 — preserve most current retirees’ benefits uncut, while dropping some new cuts/taxes on the rich (”fairness”) and big new taxes and benefit cuts on the young (”they have time to adjust, and don’t vote”) — so we can predict a like model resolution then for Medicare:

    (1) Benefit cuts for “the rich”, via either overt means testing or new taxation of benefits (how are Krugman and the progressives, who are so against tax cuts for the rich today, going to then support major tax hikes on everyone else to make transfer payments to the rich?). Plus, (2) Major tax hikes and benefit cuts for the young.

    But the problem with put-off-to-the-last-moment fiscal saves on this model is that in the long run they destroy the programs they are indended to save.

    E.g.: SS has been hugely popular in the past because it paid to recipients at all levels of wealth more money than they put in — about $16 trillion(!) more in our dollars — and who doesn’t like getting free money from the government???

    But when the ‘83 change hit the then-young with both a far higher SS tax *and* sharply reduced benefits, it reversed that. Persons who retire starting about now get less from SS than they put in — and its going to pile up to $16 trillion less.

    That’s a $32 trillion swing! How popular is a progam going to be that makes everyone poorer on a lifetime basis, by charging them a double-digit payroll tax for life and then giving them back less than they put in?

    Twenty years from now, that’s going to create tremendous political pressure to cut the program back into a true rich-pay-for-poor welfare program, and let everyone invest the payroll tax they save for themselves to get a positive return.

    After all, Social Security has always been sold to the voters as “social insurance for the unfortunate and needy” not “transfer payments to the rich” … so why not hold it to that? Voters then will ask: Why should we masses of young workers take lifetime losses to let the older upper middle class retire early and sail off on their yachts? What’s progressive about that?

    Ironically, it is the hard-line denialist defenders of SS, now steering by the rear view mirror (”SS has worked great until now, why change it at all”?) who are driving it to this fate. Even modest-size private accounts adopted when first proposed after the ‘94 Advisory Commission — as in Sweden (!) — would have kept SS providing positive net returns to participants forever, and have kept it in almost its present form forever.

    I’m digressing, but we can see Medicare and National Health Care running down the very same political track.

    Right now the poltical forces are all for national health caret, “Medicare for Everyone!”, and will likely drive its enactment without paying for it — with just that “down payment” Obama proposes — while ignoring the tidal wave of Medicare costs rushing toward us 20 years from now.

    That’s because all the political incentives are to ignore future costs: “The beauty of social insurance is that it is actuarially unsound”(!) — Paul Samuelson, 1967. And Pearlstein today: Why let budget deficit worries delay national health care???

    But 20-odd years from now, when the cost tidal wave hits, and the rich and the young are told: “you are going to have to pay for yourselves, either directly or through taxation of your benefits”, they of course will respond by demanding more control-and-choice over what they pay for, which means driving things right back towards market provision of care.

    All of which could have been avoided if Teddy Kennedy had started Medicare off by collectng enough from taxpayers to pay its full accruing cost from day one. On a fiscally sound basis.

    But that was never going to happen — just as Bush wasn’t going to pay for Part D, and today’s polticians aren’t going to raise taxes now or in the next decade, even as the fiscal tsunami approaches and they add national health care on top of it all — because it is against their DNA and all their polticial incentives to ever pay now any cost that they can drop on the future instead.

    Why should they? The problem will arrive on somebody else’s watch.

    “The beauty of social insurance is that it is actuarially unsound” — Samuelson.

  20. comment number 20 by: Bruce Bartlett

    It is undoubtedly true that the bulk of benefit cuts in entitlement programs will be done in the form of means testing. However, the political strength of SS and Medicare has always been in their universality. To the extent that they are increasingly means-tested the more they will resemble welfare–and we know what happened to that. In the very long run, means testing could be the path whereby entitlements can be abolished as the Cato crowd would like.

  21. comment number 21 by: Anandakos

    Courtesy of Matt Yglesias at Think Progress:

    Free Market Health Care

    An excellent brief summary of the problem with a free market approach to health care from James Kwak:

    I happen to think that a free market for insurance works pretty well in most circumstances (and I did co-found an insurance software company); for example, if you can afford the house, you can generally afford the insurance for the house. But it doesn’t work very well for health care, because many people are simply uninsurable under free market principles (expected health care costs exceed their income, let alone their ability to pay), and hence would be left to die. We think we have a private, for-profit insurance system today, but we can only avoid its disturbing implications by hedging it in with public backstops and regulations.

    Since nobody is proposing a true free market system, we tend not to dwell on these facts. But I think they’re more important than people realize. If you think about free markets’ ability to, say, deliver falling prices for high-definition televisions I think you’ll quickly see that one key element of the process is that our society is very sincerely prepared to say that if you can’t afford an HDTV, you’re going to have to do without one. Consequently, when the technology is introduced you wind up with a larger number of people who would buy the HDTV at some price but not at the price being asked. This creates a large market incentive for someone to come up with a lower price point for HDTVs, and to invest in technical research that will make it profitable to sell cheap HDTVs.

    This process works really well. But when you replace “has to watch the game at a friend’s house if he wants to see it in HD” with “gets sick and dies” then suddenly the process looks not-so-good. But absent a strong and firm social commitment to the “gets sick and dies” part of the equation, the whole process starts looking different. You wind up with a scenario where there’s a strong case for much more systematic government intervention, because whatever kind of “market” dynamic you’re willing to unleash on the health care sector is going to be substantially distorted by the baseline government interventions needed to meet our core social values.

    A related part of this is that medicine has never really been understood as a commercial enterprise. A doctor is, in our social understanding, not a “medical treatments salesman” any more than a soldier is a mercenary.