AGING: From Baby Boom to Bust

Monday, March 3, 1997

Hoover fellow David Wise and Stanford economics professor and Dean of the School of Humanities and Science, John Shoven, discuss demographics, social security, health care, and retirement savings.

Recorded on Monday, March 3, 1997

ROBINSON: Welcome to Uncommon Knowledge. I'm Peter Robinson, a fellow at the Hoover Institution. Today, the aging of America. When Franklin Roosevelt signed social security into law, back in 1935, men were expected to live to be only about 59, women only about 63 and their were 9 Americans in the work force for every one American who was retired. Today? Today, well, life expectancy has risen to about 73 for men and nearly 80 for women and there are only 3 Americans in the workforce for every one American who is retired, a ratio that will fall even farther from 3:1 to only 2:1 as the baby boom generation begins to retire. Now, what does all this mean? It means that social security and other programs for the elderly are now projected to go bust. With us today, two guests. David Wise is a professor of political economy at the John F. Kennedy School of Government at Harvard University. John Shoven is Stanford University's Dean of Humanities and Sciences. But before turning to these two guests, a very brief telephone call to a social security expert who I happen to know quite well.

MRS. ROBINSON: Hello?

ROBINSON: Mom? Hi, it's Peter. Remember that show about social security I told you about?

MRS. ROBINSON: Mm, hmm.

ROBINSON: Well, we're doing it right now and I'd like to ask you two questions. And the first question is this. Now, when you get your monthly social security check, where do you think that money comes from?

MRS. ROBINSON: Well, I assume it comes from the money which was taken out of your father's and my income over the many years.

ROBINSON: Okay, don't feel bad about it, I didn't know this myself until just recently, but that's wrong. The money you receive comes out of the paychecks of people who are working now, and the money that was taken out of your paycheck and Dad's paycheck went to pay people who were retired at the time. It's all gone. Alright, here's the second question, what would you think if the government tried to fix social security by cutting people's benefits?

MRS. ROBINSON: Oh, I wouldn't like that too much because my social security means so much to me. I would hate to see people have to go with less.

ROBINSON: I see. Well, thank you very much, Mom. I'll call you again later. We've got to finish up the show now. The grandchildren send their love.

MRS. ROBINSON: Okay, love to you.

ROBINSON: Love to you. Bye-bye.

MRS. ROBINSON: Bye-bye.

ROBINSON: David Wise and John Shoven began our conversation by talking about perhaps the most important demographic fact of our times.

BABY BUST
ROBINSON: So we have the baby boom generation working its way through the demographic charts so it looks like a snake that ate a rabbit, a big bulge here. And the baby boomers are getting older. And this, the two of you contend, I guess a lot of people contend, creates problems for the country. And the problems are?

SHOVEN: Social security cannot deal with the baby boomers, the numerous retirees that we can foresee twenty years from now. Medicare and Medicaid, particularly Medicare, is in extremely-

ROBINSON: Distinguish between those two.

SHOVEN: Medicare is the health program that the government provides for the elderly. You become eligible at age 65. Its current finances are projected to bankrupt in four years from now. Medicaid is a program of health support for the poor. It's actually less vulnerable to demographic changes. But Medicare is under terrific pressure, must be fixed within four years. The whole federal budget is going to be under pressure as the population ages. One thing to note is all the goal is right now is to balance the budget in 2002. Well, 2002 is still in the heydays where the demographics, the baby boomers, still have not reached the elderly ages. Ten years later it's going to be much harder to balance the budget. The point is if we succeed in balancing the budget in 2002, it's going to be difficult to balance the budget as the baby boomers age.

WISE: I think it's important to have a sense about what is this problem, what's the nature of the problem. In 1990, for every person 70, there were 3 persons 30. In the year 2030, there'll be 3 people 70 for every 3 people 30. That is, there'll be as many 70-year-olds as 30-year-olds. That means there are many fewer people working and a lot more people retired, who in principle are supported by those working.

SHOVEN: That's problems for social security and Medicare-

ROBINSON: Now, three generations ago, when social security was put into effect, there was no demographic bulge working its way through the demographic chart. People were living?

SHOVEN: Roughly today, there are about 3.2 workers for every retiree. That ratio is scheduled to go to 2 workers per retiree when the baby boomers retire. But when social security was started, it was about 9 workers per retiree. So it's easy to have a retirement program that's generous for the retirees if there aren't many people retired. The demographics are hard to exaggerate. The federal government is actually conservative in its forecast, the census department, but even they say that in 2030, there'll be roughly the same number of women over the age of 85 as there are women living today between 45 and 49. So you can think about it, middle age cohort, 5 year cohort of women today in that population in the country is around 7 or 8 million people. That's how many women we'll have over the age of 85, by 2030. That will put demands on health care, long-term care, nursing homes, all kinds of expenses.

ROBINSON: Now, one of the things that's going on here is that people- we have a huge demographic bulge, a jump in birthrates of baby boomers, but people are also living longer. But presumably between now and the year 2030, they'll be living even longer. Does the government- does anybody take into effect that we could have people living even longer. We could have people living until 110 or 120.

SHOVEN: Actually, there's a debate. We might not have people living that long.

WISE: There are two pieces to this aging population. One is the one we were talking about, mostly driven by birthrates, so a larger portion of the population is old. But the other piece that's important, we think about retirement for example, is the fact that individuals are living longer. So, for example, say between 1960 and now, the, I guess you'd say the life expectancy of people 65, has increased by about 20%. Essentially, it increases a little bit over a year every ten years. That's been going on for some time. So now people live about three years longer at 65 than they would have in 1960.

ROBINSON: A huge demographic bulge of workers, the baby boomers, is on the verge of retiring, threatening to overwhelm social security and Medicare. But wait a minute, aren't there elements of good news here?

SILVER-HAIRED LINING
ROBINSON: So far the two of you have described events that, in most ways of looking at things, ought to be good news. The baby boom's a wonderful thing. The depression ended. We won the Second World War. People were able to raise families. That's terrific. Older people are living longer. That's seems terrific to me now at this age and by the time I hit 65, that will seem terrificer. So, how now do we dig out of this remarkable good news about the buoyancy of the American economy, our victory in the Second World War, medical advances that let Americans live longer, how do we dig bad news out of that?

SHOVEN: You've got to be an economist to do it.

WISE: Well, of course it is good news. We all like it that we're living longer but living longer means that you have to be better at planning. That means that you'll probably out of the labor force longer. So in principle, how am I going to support myself when I'm out of the labor force? Unfortunately, a very large proportion of Americans rely on social security. And in fact a very large fraction of Americans reaching retirement now, have virtually no personal savings.

ROBINSON: Now at that age, people tend to own their homes or have a lot of equity in their homes.

WISE: Well, people own their homes, but if you set aside, for the moment, social security and say employer-provided pension plans and you ask, how much does the typical family have in bank accounts, like money, that you can go and spend? Well, the typical family approaching retirement now, has about $10,000. About $10,000. And if you take away IRA funds and 401K plans, these are the special retirement programs, the number is about $4,000.

ROBINSON: Now when you say the typical family, that excludes any claim on their kids income. That's just Mom and Dad, after the kids have left home.

WISE: That's right. That's what they have accumulated.

ROBINSON: What they have liquid, what they can write a check on is $4-10,000 which is not enough to retire, to live 25 years on.

WISE: It's hardly enough to do anything. So that means that there's almost nothing among many families to meet any kind to meet any unforeseen contingency. That is, people just have not saved on a personal basis, a large proportion of people.

SHOVEN: Of course there is a sizable minority of retired people who are well-off financially, but-

ROBINSON: You see them on the Stanford golf course at seven o'clock every morning.

SHOVEN: You see them on the Stanford golf course. But what David was referring to was the sort of median or middle average, if you want to call it that, family and they simply have not provided for their own retirement in this country.

ROBINSON: Because they've been relying on social security.

SHOVEN: Absolutely.

WISE: And that's, of course, what puts even greater pressure on social security. And if you think about what you're going to do about the problem, what you realize of course is that right now, a very large proportion of people are essentially entirely relying on social security.

ROBINSON: Social security and Medicaid, put together-

SHOVEN & WISE: Medicare.

ROBINSON: Medicare, excuse me. Medicare is for the older folks, fine.

SHOVEN: Now social security, when it was introduced, was never expected to be the sole source of income for the elderly. It was also thought to be a three-part solution. There was social security, then pensions, which would be employer-related, and private savings, which people would do on their own. What David is saying is that for at least half of the elderly population, those two lengths of the stool, employer-provided pensions and private savings don't exist. They're living on one leg of the stool, social security and they're living at relatively modest levels of income, just barely above the poverty line.

ROBINSON: So young folks are being forced to support old folks and will be forced to support more and more old folks in the years ahead.

NIGHTMARE AT DEL BOCA VIST
ROBINSON: My next question is, in general terms, how bad is this for folks in the next generation? But let me get to this question in this way. There's an article in the current Forbes magazine in which Peter Drucker, the management guru, is interviewed. And Drucker points to a couple of fascinating population statistics. Italy, which has a population of 60 million today is projected to go down below 40 million in 2050. Japan, which has a population of about 125 million, projected to be cut in half within a century on current birthrates. Interesting? What's going on? Here's what Drucker says what's going on. The main reason for the decline in births is the enormous burden on people of working age supporting older people in retirement who are hail and hearty. You cannot cut the social security payments of older people because that's the law, so they cut where they have control which is having babies. Now this is a kind of Bladerunner, nightmare vision, in which the older people in effect prey on the younger people. Give me medical care, give me income. It's not quite that bad in this country, is it? Or is it?

WISE: Well, the problem here is mild compared to most industrialized countries. The problem in Germany is much worse than here. The problem in Japan is much worse. That is, the problem that the populations in these countries are aging more rapidly than ours and their social security systems are, if anything, more generous than ours, especially in Germany. And it's true in almost every European country.

ROBINSON: And how are those countries grappling with the problem?

WISE: Well, they're facing the same issues we are. The question is, what do we do now?, except that their problem is bigger and it's more immediate. That is, hard times will come much sooner in those countries.

SHOVEN: Believe it or not, they already have higher tax rates than we have.

ROBINSON: Germans and Japanese?

SHOVEN: Germans in particular. Japanese are comparable to ours. But when you ask, what is the bottom line of this? How can the baby boom, the good times, longer lives, how can that be bad news? Well, it's not all bad news, but the bottom line is, tax rates are likely to be higher in the future. The government's going to need more money. Benefits are likely to be less generous in the future. It's a tough transition we face, and this is something that's going to occur for the next thirty, forty, fifty years.

WISE: And people will have to work longer.

SHOVEN: Yes, the baby boomers are going to be here for another fifty years.

ROBINSON: You've just named three solutions to this problem, one is people working longer. So, at present, you can begin collecting social security at the age of 65.

WISE: 62. Early retirement at 62.

ROBINSON: 62, if you want to take reduced benefits, full benefits at the age of 65. How much should those ages be raised?

WISE: You might raise the ages at the rate that the life expectancy is increasing, say at 65. That would suggest about a month a year.

ROBINSON: So start at 65, so you wouldn't have to suddenly jump it up to 70.

SHOVEN: 65 was Bismarck's idea. This is 100 years old, or longer.

ROBINSON: How old was Bismarck when he got the idea?

SHOVEN: I don't know.

WISE: Currently, we propose raising the so-called normal retirement.

ROBINSON: We, the two of you.

WISE: No, the federal government. There's a prospect that the 65 age will raise to 67.

ROBINSON: That's already in the legislation.

WISE: That's in legislation.

ROBINSON: And that'll happen in the next twenty, thirty years?

WISE: Well, presumably that will happen. But there are two things about it. I think it's not enough.

SHOVEN: I think it'll go to 70.

WISE: But it probably- probably we should be thinking about 70. But we also have to think about the early retirement age because that's what will really matter. Most people now, who aren't covered by an employer-provided pension plan, and that's about 50% of employees. Most of those people will not retire before the social security retirement age.

ROBINSON: Early retirement age of 62.

WISE: Yeah, many of them now retire between 62 and 65. If the age 62 were raised, say 'til 65, few people would retire before 65, that is few people that rely only on social security.

ROBINSON: You'd agree that that's the real trigger age, the early retirement age.

SHOVEN: That is an extremely important trigger. Make no mistake about it. Raising the retirement age is a way of cutting benefits. That is, you're going to receive your social security for a shorter period, obviously, if you'd started at a later age in life. It probably is the most palatable way to cut benefits. People may simply have to work longer and particularly when we say people, we're talking about the baby boomers. This is the group which is going to have to make adjustments. It should, and the government should encourage baby boomers to begin to save for themselves. Time's running out.

ROBINSON: But surely it's going to take a lot more than the retirement age to fix social security. Why not engage in dramatic reforms? Why not overhaul the entire system?

BUT I PROMISED MOM . . .
ROBINSON: Let me ask about fixing the way social security is financed. As it is now, money goes out of my paycheck and goes to my mm, you've just informed me which raises one question, why don't I just write the check to my mom myself and get the government out of the picture. Because you don't trust me to give my mom the money, I know that's the case. Now, but getting the government out of the picture is something that is under consideration, right? The President appointed a commission to look at social security and the commission recommended lots of different things. They couldn't quite agree on it. They recommended privatizing social security to a greater or lesser extent. And I now need to ask, what do they mean by privatizing social security? Whether it's good or bad, just tell me what they're talking about, John.

SHOVEN: Well, privatizing would mean switching to a system where people do save money which goes into their own accounts which is invested in the United States capital, stocks and bonds in other words, very much like a real pension plan. Then when you retire, you would get your assets back with the earnings.

ROBINSON: So my money instead of going to Mom gets set aside for me.

SHOVEN: Now the question is who is going to pay Mom.

ROBINSON: I had you in mind, actually.

SHOVEN: Well, let me tell you how big Mom's promises are. The current elderly think that they are going to be supported by today's workers. Now if today's workers say, 'well, we're going to save for ourselves, we're not going to give the current elderly the money', they how many promises are going to be broken? Well, it turns out that the current elderly and the rest of us that are into social security, expect to get something from social security, have about $11 trillion worth of promises from the younger generation. That is, everyone thinks the younger generation is going to give them money because we've been in the system. If you simply privatize it, that's it, everyone's going to save for themselves from now on, you break 11 trillion dollars worth of promises. That's not going to happen. That is, we have to have a transition and it has to be done very, very carefully.

ROBINSON: Before we get to transition, would you be in favor, then, in principle of privatization? In which my money gets set aside for me and goes into some mix of stocks and bonds. In principle? I want to know in principle would you agree before we get to the transitional problem.

SHOVEN: In principle, I am for privatization. At least for a strong what I call partial privatization, yes.

ROBINSON: What's the partial bit of it?

SHOVEN: I think that the government may continue to need to supply a safety net, of minimum standard of living. We're not going to have elderly that are out in the streets homeless, I hope.

ROBINSON: And, David, you would agree in principle?

WISE: I would agree in principle. I think most people I don't think we should do away with social security all together. I, like John, think we ought to do some partial privatization. But the point I want to make is in some sense, that process is underway without social security sort of being almost aware of it. One version of privatization is instead of putting all the social security tax money, 14%, to pay current retirees, put some of that money in a private account. So people would often say, well, put it in a 401K-like account, so that's my own private account. So that's a form of privatization. So that's an account that's in my name and is my money.

ROBINSON: Right, I see. So that's your argument, that it's already happening to some extent.

WISE: That's a version of how privatization would happen. But that is underway in some sense to a large extent. Right now, about 45% of employees are eligible for a 401K plan, about 35% contribute. All that is happening in the past 15 years. That's all happened since 1982. So a large fraction of people who didn't use to have this kind of account now do.

ROBINSON: What David is saying is dramatic. The government basically gave a couple little soft tax breaks to people to induce them to save more and lo and behold, they did. There are savings taking place that wouldn't have taken place before and all it required was a little peeling back of tax penalties. Is that correct? And if so, why don't we simply peel back the tax penalties more on savings?

SHOVEN: Well, it is correct, although the glass is half full, the glass is half empty. 65% of the American workforce do not have 401K. Roughly half do not have a pension of any kind. And just like on the health care system, pretty soon we're going to be concentrating on the have-nots and most partial privatization systems that I'm aware of are universal, mandatory savings in accounts like 401K's. Let me go back to the transition. You know in real estate, the slogan is there are three things that matter- location, location and location. Social security, when you're thinking about reforming social security, I think the same thing can be said, except it's transition, transition and transition. This is a difficult system to just- we can't walk away from the current system to get out of. We have 11 trillion dollars in promises that we've made. We'll be paying off those promises for at least another 50 or 60 years. So this is not going to be a simple transition. It's going to be a very lengthy transition. We're going to have to continue to have relatively high payroll taxes not to finance the new system, but to pay off the old promises.

ROBINSON: 11 trillion dollars worth of promises to Mom. To put it mildly, that is an enormous amount of money. Why haven't we done anything about this crisis already?

THE LITTLE ENGINE THAT CAN'T
ROBINSON: You two are at the front of the train. You can see the rail busted, ten miles or thirty miles up ahead and you go running back to tell all the passengers and they say, 'Don't disturb us, we're having a fine time in the dining car'. So doesn't that- in fact you buy that analogy, that little illustration?

SHOVEN, WISE: Yeah. Sure.

ROBINSON: Doesn't that say something quite profound and disturbing about American democracy in the final years of the twentieth century.

WISE: Well, it does but I must say that it's not only American democracy that has this problem. Other countries face the same problem and as I mentioned before, worse than ours. We still have to deal with our problems, but just to point out that we aren't the only country with politicians who can't face up to the facts.

SHOVEN: In the American public there is a certain irrationality in the following way. If you ask them, particularly if you ask younger Americans, 'Do you think you're going to get anything from social security?' And they say, 'Don't think we're going to get very much.'

ROBINSON: So the message is getting through.

SHOVEN: Oh yes, the American public, particularly the younger Americans, know or think they aren't going to get much of social security. You ask them, 'Are you saving enough?' 'Oh, not saving enough. I should be saving 10%, I'm only saving 2%.' You ask them a number of questions like that and they say, 'The future looks bleak.' Then you say, 'Well, how well off do you think you'll be when you retire?' And the answer is, 'I'll be fine.'

WISE: If you ask people who are on the verge of retirement now, 'Did you save enough?', 75% say no.

SHOVEN: They know it.

WISE: 75% say, 'No, I didn't save too much, I wish I'd saved more.' Almost no one says, 'I saved too much.' In fact, no one says 'I saved too much.' 25% say 'I saved enough.' I think the spread of 401K plans in particular and any other thing we did along those lines could change this quite a lot.

ROBINSON: So 401K's work?

WISE: I believe they do work. They do work. And as John said a while ago, only 45% of people are now eligible. But if that expands, and it will, I think it could have a very substantial effect not only on how much is saved but on a pattern of saving. Because while young people are not inclined to get a paycheck and then put $10 in the bank, young people are inclined to tell their employers, 'Take money out of my paycheck before I get it.'

ROBINSON: David Wise, John Shoven, thank you very much.

WISE: Thank you.

SHOVEN: Thank you.

ROBINSON: Something certainly has to be done about social security and other programs for the elderly. But as our guests made quite clear, it isn't going to be easy. I'm reminded of one of my mother's recent remarks. She said that when she was younger, her favorite Bible verse was this, 'Lord, be merciful to me, a sinner.' Now, she has a new favorite verse, 'Lord be merciful to me, a senior.' I'm Peter Robinson, thanks for joining us.