Plan for Social Security would shrink benefits

WASHINGTON — The Bush administration has signaled that it will propose changing the formula that sets initial Social Security benefit levels, cutting promised benefits by almost half by 2075, according to several Republicans close to the White House.

An administration official also said yesterday that the plan would allow younger workers to invest nearly two-thirds of their payroll taxes in private accounts, with contributions limited to about $1,000 to $1,300 a year.

A proposal is expected to be unveiled in late February. But the White House cautioned that President Bush has not decided on a specific plan.

Under the latest scenario, first-year benefits for retirees would be calculated using inflation rates rather than the increase in wages over a worker's lifetime. Because wages tend to increase considerably faster than inflation, the new formula would stunt the growth of benefits, slowly at first but more quickly by the middle of the century. The White House hopes that some, if not all, of those cuts would be made up by gains in personal accounts that would harness returns on stocks and bonds.

But by embracing "price indexing," Bush for the first time would detail the painful costs involved in closing the gap between the Social Security benefits promised to future retirees and the taxes available to pay for them.

"This is going to be very much like sticking your hand in a wasp nest," said David John, a Social Security analyst at the conservative Heritage Foundation and an ally of the president. "And the reaction will be similar."

In informal briefings on Capitol Hill, White House aides have told lawmakers and aides that Bush will propose the change in the benefits formula, an approach recommended by his 2001 Commission to Strengthen Social Security, according to congressional aides and lobbyists.

Initial benefits currently are set by a complex formula that calculates workers' average annual earnings in their 35 highest-paid years and adjusts those earnings up to reflect standards of living near a worker's retirement age. So the adjustment is based on wage growth over that time span. Under the commission's plan, the adjustment would be based instead on the increase of consumer prices.

The change would save trillions of dollars in scheduled expenditures and solve Social Security's long-term deficit, but at a cost. According to the Social Security Administration's chief actuary, a middle-class worker retiring in 2022 would see guaranteed benefits cut by 9.9 percent. By 2042, average monthly benefits for middle- and high-income workers would fall by more than 25 percent. A retiree in 2075 would receive 54 percent of the benefit now promised.

A former senior administration official who recently discussed Social Security strategy with Bush aides said the change in the indexing formula "is assumed to be a part of any final solution."

"You've got the bitter medicine of changing the indexing, but to go along with that you've got the sweetener of the accounts," the former official said.

The administration official, who spoke on condition of anonymity yesterday, said the size of the private accounts could be similar to those in a proposal by Sen. Lindsey Graham, R-S.C., and a plan from the Social Security commission.

Both plans let workers divert 4 percentage points of their 6.2 percentage points in payroll taxes into accounts. The federal 12.4 percent payroll tax is split between workers and employers. Workers' remaining 2.2 percentage points in taxes would continue going into the system.

Graham's plan calls for annual contributions to be capped at $1,300, while the commission proposed a lower limit of $1,000.

The White House has been slowly building the case for change. Last year's Economic Report of the President, written by the Council of Economic Advisers and signed by Bush, uses the Social Security commission's primary proposal to advocate overhauling the retirement system. Last month, the council's chairman, N. Gregory Mankiw, fingered the current system of "wage indexing" as a culprit for Social Security's problems.

Opponents of the proposal also have been mobilizing. Under an inflation-linked formula, benefits would keep up with prices, but wage levels determine standards of living, said John Rother, policy director of AARP, the powerful seniors lobby. Social Security benefits currently equal 42 percent of earnings of an average worker retiring at 65. Under the new formula, that benefit would fall to 20 percent of a worker's earnings. Future retirees, in effect, would be consigned to today's standard of living, opponents say.

"It's like saying elderly people today should live at a 1940 standard of living," said Robert Greenstein, executive director of the liberal Center for Budget and Policy Priorities. "Part of our social contract has been to allow seniors to participate in rising standards of living rather than consigning them to some second-class status in retirement."

But proponents say the shift to price indexing has to be viewed with the addition of private accounts.

"If this was a case of just price indexing and doing nothing else, frankly, some of the [opponents'] charges are pretty valid," said John, of the Heritage Foundation. "But if you give the personal accounts as well, you're giving people the opportunity to make up the difference."

White House spokesman Trent Duffy said benefits under a revamped system should be compared with benefit levels that are possible under the current system, not benefit levels that are promised but cannot be financed. "A solution has to be compared to current law, and current law will guarantee huge tax increases or huge benefit cuts, or both," he said.

Administration officials note that future retirees face a gap between two numbers: the amount of benefits the retirees were promised and the amount that actually can be paid.

If workers are allowed to divert 4 percentage points of their payroll tax into personal investment accounts, future retirees probably will be able to raise their total benefits above the amount that taxes would allow the government to pay under the current plan, according to the chief Social Security actuary. But those increased benefits still would not match benefits currently promised because future tax levels cannot keep pace with the increase in the number of retirees.

A retiree in 2032 would see a promised monthly benefit of $1,343 drop 8 percent to $1,231. But by 2052, returns on personal accounts could push total benefits for a middle-income worker to 129.4 percent of what the government would be able to pay out under the current plan. That still would be about 6 percent less than promised because of the rising number of retirees.