Economic Efficiency

Relations between social security and various aspects of economic efficiency are disputed.^[20] With respect to social security's effect on work incentives for working-aged adults, some economists see a substitution effect: As taxes reduce the return from work, individuals increasingly prefer leisure. But other economists see an income effect: Higher tax burdens increase the need to work in order to take home enough to meet fixed or rising household expenses.^[21] Under the latter assumption, however, off-the-books moonlighting may seem preferable to labor that is taxed—a phenomenon that undermines social security's revenue base.^[22]

Social security entails some work incentives, but their importance is disputed. The central incentive is that a steady work history will be rewarded by an economically secure retirement.^[23] However, a worker armed with "economic man" preferences and good information would not necessarily produce steadily over a working life of thirty or forty years on the basis of this incentive alone, since social security does not require more than ten years of effort for any category of benefit. Clearly, other incentives—eating in the interim—come into play, and the middle-class character of social security recipients probably reinforces these incentives. By and large social security beneficiaries believe, in part on the basis of their life experiences, that effort returns a variety of encouraging results. Also, in contrast to private or union pensions, social security facilitates labor mobility, easing for instance, the process of mid-career workers shifting from sunset to sunrise industries.

For recipients, the program provides modest work incentives. For example, the earnings test that defines retirement has risen steadily over the years, and the current $7,500 disregard provides an incentive for productive labor. But overall social security appears to act as a work disincentive for those eligible for retirement or disability.^[24] This disincentive is probably stronger for those whose jobs offer few if any intrinsic rewards and for those whose jobs entail hard physical labor. Whether these disincentives are bad is a separate question. During the Great Depression a program that enticed older workers into retirement and made room for unemployed younger workers in the labor force was desirable. As the worker-beneficiary ratio continues to decline, however, these same disincentives may be undesirable. To contain costs, Congress is likely to raise the age at which people become eligible for benefits. But such a move could threaten program work incentives if people, especially low-income workers, cannot reasonably expect to collect benefits for more than a few years.

Some aspects of the survivors and particularly the disability portions of social security have been criticized as sufficiently generous to discourage recipients from working, especially if their options for work are dreary, dirty, or dangerous jobs that offer no rewards other than money. In seeking to protect working-aged adults from episodic social hazards, this argument runs, social security may create "unintended rewards" for experiencing such hazards.

The question of how social security influences the risk-taking decisions of corporate managers or entrepreneurs involves subtle judgments about the relative strength of other factors—such as social security's consequences for work incentives and saving—that are themselves hotly disputed. One smaller issue is, however, clear: social security does increase the cost of doing business. The costs related to handling the paperwork afflict all employers roughly equally, but economists disagree on the effects of the payroll tax. To the degree that this tax—particularly the employers' portion—is considered an added expense necessitated by the program, social security does raise the cost of doing business and thus discourage some risk taking. But to the degree that the payroll tax is considered deferred wages that would go directly to the employee in the program's absence, this deleterious effect disappears. This latter interpretation seems less applicable on the fringes of the labor

market, among small-scale employers or relatively unskilled workers, but even in the mainstream economy social insurance costs may contribute to incentives to move jobs offshore, particularly to third-world countries.

Because payroll taxes contribute to the costs of production, one might also argue that social security hampers the international competitiveness of American goods and services. But cost is by no means the sole determinant of competitiveness. BMWs are not clogging American highways because they are less expensive than Mercurys or Buicks. More importantly, the people who manufacture BMWs pay higher social insurance costs than do American producers. Thus it does not seem appropriate to lay any significant portion of the blame for America's competitiveness problems on social security taxes.

Although the United States does not spend as large a percentage of GNP on public social provision as do most other advanced industrial societies, against the consciousness of American political elites and the population generally, social security commands impressive resources.^[25] And there is the temptation to think that somewhere in the $202 billion that SSA expended in 1987 there exists waste. In response, SSA has repeatedly boasted that administrative operations consume only 1 to 2 percent of revenues, a low rate by comparison with most other social programs or private insurance operations. SSA has also reminded the public that, since no general revenues are used, the costs of the system are borne entirely by the beneficiaries. While this is in a sense true, the pay-as-we-go funding means that current workers are paying for current beneficiaries, and in turn they hope to be supported by the next generation of workers.

During the program's early years, these intergenerational transfers did not attract great attention or create funding difficulties. The program was largely perceived as facilitating a life-cycle redistribution, with old-age benefits bearing a direct and sensible relationship to a recipient's prior contributions. But once benefits substantially exceed contributions—even when adjusted for interest, inflation, and greater productivity with higher standards of living—systematic disparities develop and the intergenerational redistribution cannot easily be recouped.

American social security, like the social insurance systems of

many other advanced societies, currently faces this difficulty. To the degree that Americans take their individual claims to benefits on an "I paid for my benefits!" criterion as opposed to a more general good-faith effort approach, their claims are dubious.^[26]

In order to reduce these intergenerational transfers to reasonable proportions, several changes regarding program taxes and benefits have already been legislated for introduction later. Further changes seem likely. Overall, the program will probably continue to shift further away from a defined-benefit approach and toward a defined-contribution approach.^[27]

Finally, on the criterion of target efficiency, the degree to which benefits are focused on the neediest, social security by design gets generally low marks. Unlike a public assistance program intended to help the impoverished, a system of social insurance serves a socioeconomic cross-section of the public and aims to keep those who confront various episodic hazards from falling into poverty. Thus target efficiency is not among the criteria relevant to the evaluation of social security.