Jewish World Review March 7, 2005 / 26 Adar I, 5765
Lifting the Social Security cap isn't a solution but a short-term patch
To keep the prospects of Social Security reform alive, President Bush
recently indicated that, while he wouldn't accept an increase in the
payroll tax rate, he would consider increasing the wage limit on its
Although I'm a staunch supporter of personal retirement accounts,
establishing them at the expense of lifting the wage cap is a bad bargain.
The payroll tax of 12.4 percent currently applies to the first $90,000 in
wage income. The limit increases each year, at the same rate as average
As a result of the cap, the Social Security payroll tax does not apply to
about 15 percent of wage income. Obviously, the income of relatively
So, lifting the cap has an instinctive and superficial appeal. Why
shouldn't all the wages of the rich be subject to the payroll tax, as is
the case for the working poor and middle-class?
To the extent Social Security is a pension plan, and not primarily an
income-transfer program, the equity argument actually works the other way.
The wage cap not only limits taxes but also the wages on which benefits are
calculated. Social Security benefits are already progressive: low-income
workers get a larger percentage of their previous wage base in retirement
income than do high-income workers. Lifting the wage cap would accentuate
this redistributionist feature.
Moreover, lifting the wage cap doesn't do that much to make the Social
Security system more solvent. According to Social Security actuaries,
lifting the wage cap only delays the date at which current taxes are
insufficient to pay current benefits, now projected at 2018, by six or
It would do more to delay the point at which trust fund reserves are
exhausted, currently projected to be 2042. But that's in large part because
it would increase Social Security surpluses in the short run.
That would increase the trust's reserves, held in the form of special
treasury notes. But that exacerbates the already considerable problem of
financing the redemption of those notes as they are needed to pay benefits.
The trust is already projected to rack up over $5 trillion in such IOUs
Although the don't-worry crowd simply assumes these debts get paid,
figuring out how to do so is part of the Social Security financing problem.
Lifting the wage cap extends the long-term solvency of the system, but in
part by making this intermediate financing hurdle even higher.
The major reason lifting the wage cap is a bad bargain, however, is the
effect it will have on the economy.
If the country had a flat income tax, the argument for lifting the wage cap
would be much stronger. But the increased payroll taxes would come on top
of what is, despite the Bush tax cut, a sharply progressive federal income
The added payroll tax would hit incomes that are now subject to marginal
tax rates ranging from 25 percent to 35 percent. Just the individual part
of the payroll tax would increase these marginal rates to 31.2 percent to
And then there is the employer portion. Where the incidence of corporate
taxes actually falls is a mystery. I once read a book on the subject (yes,
I know, I do need to get a life) and the answer, as best I could discern
it, was: No one knows.
But it falls in some proportion on consumers, in the form of higher prices;
on shareholders, in the form of reduced returns; and on employees, in the
form of lower wages.
So, the tax effect of lifting the wage cap may approach increasing these
marginal rates to as high as 37.4 percent to 47.4 percent levels the
country hasn't seen for over two decades.
This would hit hard at the heart of the investor class. The top 20 percent
of income earners are responsible for around three-quarters of all private
savings and investment.
Lifting the wage cap would raise about $70 billion a year. But this is $70
billion currently going somewhere else, in significant part toward
providing investment capital. And at present, the only effect would be to
increase what the general treasury ultimately owes the Social Security
Eating the economy's seed corn just to accumulate future debt makes no
It's quite obvious the momentum for Social Security reform is dissipating.
That's in significant part because Bush ran on just the concept of personal
retirement accounts, while ignoring the knotty issues and costs of truly
adjusting Social Security to the demographic realities of the future.
The sooner personal retirement accounts get established, the sooner they
will accumulate sufficient resources to provide alternative retirement
income, easing the bite of what will be necessary to bring the
pay-as-you-go part of the program into balance.
Chances are, however, that the consequences of inaction will have to become
more obvious and acute before the political will can be developed to do
what ultimately has to happen.
Lifting the wage cap is an unacceptable price for accelerating this
03/04/05: Supreme Court legislates a death blow to constitutional fundamentals
02/27/04: How not to achieve a mandate