The reality of private accounts

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(HOST) Proponents of Social Security reform argue that private accounts will yield higher returns than Social Security. But commen- tator Stephanie Seguino says that when you really examine the math and logic behind this claim, the numbers just don’t add up.

(SEGUINO) Current proposals would allow you to divert a third of your Social Security contributions to a private account. Here’s how it would work:

The government would, in effect, lend you some of your future retire- ment income to invest in the stock market. However, at the end of your working career, you would have to pay it all back to the government, plus three percent interest. When you retire, you keep any additional interest you might have earned and receive a reduced Social Security check. The hitch is, if the return on your private account is less than three percent, your retirement income will be much lower than without private accounts.

Advocates of private accounts say you could expect a return of six and-a-half percent a year on your stock market investments, after adjusting for inflation. But for that to happen, the economy would have to grow very rapidly for the next seven decades. In fact, it would have to grow at double the rate used in the Social Security Trust Fund projec- tions. But in that case, there would be no Social Security shortfall in the first place, and certainly no reason to enter the risky world of private investing.

Experts instead expect a mixture of stocks and bonds to yield about four and-a-half percent. From that you would have to deduct admin- istrative costs, which are much higher for small accounts than under the current system. Plus, turning assets into annuities that provide monthly payments – something the administration has said would be required of less well-off retirees – would also be costly to purchase in the private market, possibly costing an estimated 10 to 20 percent of your retirement savings.

So the realistic average return looks closer to 2.9 percent – less than what you would have to pay back to Social Security upon retirement. This is an average. You might do better, but about half of you would do worse. On average, then, private accounts make no contribution to a retiree’s expected benefit – except perhaps for the thrill of gambling with one’s retirement money.

Supporters reply that the system can’t pay all promised benefits anyhow. But if absolutely nothing is done – and that’s unlikely – the system should have enough revenue to pay out 75 percent of promis- ed benefits starting in 2052 – still a higher benefit than what you could earn if you contribute the maximum to private accounts.

Social Security was designed to provide a guaranteed benefit you can’t outlive, one that is also fully protected against inflation. And the current system also provides insurance. A young worker currently has $234,000 of disability insurance. That’s an important safety net, given that one in five young people can expect to become disabled during their working lives. It would be lost with a system based on private accounts.

It seems pretty clear to me that private accounts increase risk and don’t provide what we most need in our later years: security.

I’m Stephanie Seguino of Burlington.

Stephanie Seguino teaches economics at the University of Vermont.

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