Social Security: Productivity growth and scare stories about rising pension-to-worker ratios

In the wake of the release of the 2024 Social Security Administrators Report, we’ve seen a flurry of columns and news articles telling us that we won’t have enough workers to support a growing retiree population. The story is that all of us baby boomers are now retiring and subsequent generations are not having enough children, so we will see a decline in the ratio of workers to retirees.

While the mainstream media likes to push this line as a horror story, arithmetic fans know it’s just godless bullshit. I’m tempted to take this back to ChatGPT, but I’ll write it again myself, this time.

The first point is that the decline in the ratio of workers to retirees is not exactly a new story. If we go to our friendly Social Security Administrators Report, we’ll see that the ratio of workers to beneficiaries was 3.4 in 2000, when all young adults were still in the labor force. It is now down to 2.7. The ratio is projected to fall further to 2.2 by 2050.

I doubt most people feel they have been terribly burdened by the decline in the ratio of workers to retirees over the past quarter century. But the media somehow seems to think it will be a disaster for the next quarter century.

Of course, the full picture would take the total dependency ratio, both young and old, relative to the working-age population. This is also projected to increase somewhat, from 0.734 this year to 0.823 in 2050.

But this growth is also not a new story. We were at .669 in 2005. And we’re never projected to get anywhere near the .946 mark in 1965, when young adults were all children.

Increased productivity allows for increased living standards

But the bigger picture on demographics is the least important part of the story. The reality left out of these scare stories is that we are seeing productivity gains over time, which makes it possible for workers to support a larger population of retirees. The arithmetic for this is straightforward.

Suppose we want retirees to be able to receive benefits equal to 70 percent of the average salary. Note that this does not imply a sharp decrease in the standard of living of retirees compared to when they were working. A significant proportion of the working-age population supports children. They also face work-related expenses, such as travel, that retirees would not.

At the current ratio of workers to retirees we would need a tax of roughly 20 percent on the wages of the working population to support this level of benefits. (That would actually only get us 67.5 percent of the average worker’s after-tax pay, but that’s close enough for this exercise.) It’s also worth noting that the transfer of income from workers to retirees doesn’t have to be through a tax. on wages.

It’s the same story if retirees get their income from owning assets like stocks or homes. The point is that people who don’t work need to be supported by people who work. From an economic standpoint, it doesn’t matter whether retirees receive Social Security income paid by the government, dividends on shares of stock, or rents paid by tenants for the homes they own.

Suppose we left the tax structure in place, so we were still withdrawing 20 percent of workers’ wages to support the retired population in 2050. With the ratio of workers to retirees at 2.2 at that point, each retiree would receive only 55 percentage of the average wage of workers after tax.

That might sound like retirees would be really screwed, until we factor in productivity gains. Social Security trustees project that productivity growth will average just over 1.6 percent annually over the next quarter century. If this is fully passed on to higher real wages (long story here), that means wages will be more than 51 percent higher in 2050 than they are today. In this case, 55 percent of the average worker’s after-tax salary would be 23 percent more than today’s retirees receive. Should we cry for them?

The world is more complicated. Most people expect their standard of living in retirement to be close to their standard of living during their working life. Suppose we decide that in 2050 we need to tax workers at a rate of 25 percent to bring the living standards of retirees closer to those of the working population. (That would bring us to 73 percent of the average after-tax wage for retirees.)

We know the politics of this can be a problem, but if we’re supposed to worry about overburdening our young people to pay for pensioners, consider that a worker in 2050 paying a 25 percent tax on his salary will had a 42 percent higher after tax. wages than a worker today paying a 20 percent tax rate. It’s still hard to see the horror story.

Source: Social Security Administration report and authors’ calculations.

Accelerating productivity growth

Increasing productivity is extremely important to living standards, but the reality is that we are very bad at finding ways to speed it up. In fact, it is very difficult for us to know what the trend is.

The post-World War II productivity boom ended abruptly in 1973. No one saw it coming, and the slowdown wasn’t fully recognized until years after the fact. Even now there is no consensus about its causes.

The productivity acceleration of 1995 caught most economists by surprise, although there is at least general agreement that information technology was much of the story. When productivity growth slowed again in 2005, it caught many economists by surprise, and again there is no agreed explanation for the slowdown.

That means we can’t just snap our fingers and order an acceleration of productivity growth. But we know that trends change and it is at least possible that growth could accelerate (it could also slow).

We have seen very rapid growth in productivity over the past year, with an increase of 2.9 percent. It is at least plausible that artificial intelligence and other new technologies could support a faster rate of productivity growth in the future.

Suppose we see the growth rate rise 0.5 percentage points above the 1.6 percent rate predicted by the Trustees to 2.1 percent. This is still well below the roughly 3.0 percent rates we saw in the postwar boom and acceleration of 1995-2005.

In that case, the average wage will be 72 percent higher in 2050 than it is today. And, if we leave the tax rate at 20 percent, the average retiree will have a benefit that is more than 40 percent higher than retirees receive today, even assuming no tax increases. Where is the horror story?

Source: Social Security Trusts report and authors’ calculations.

To be clear, there is no way we can guarantee this kind of sustainable growth in productivity growth. Dealing with the effects of global warming will be a big factor in slowing growth, but it is at least a possible scenario. In any case, it is much more likely than not that there will be a massive shift in people’s willingness to have children over the next decade.

There is another dimension to this picture that is often overlooked. When we think about productivity growth, our thoughts tend to focus narrowly on economic output, which is appropriate since it is a measure of output. However, the same kind of technology that can allow us to produce more output in an hour of work can also allow us to live healthier lives.

Our current image of a typical person in their 80s may be someone who is frail and likely to need assistance with many activities of daily living. However, if we make improvements in nutrition and other aspects of health care, people in their 80s in the 2050s could be in much better health than they are today. This means that both are likely to enjoy better lives and require less medical care.

Again, there are no guarantees here. There are many forces pushing the other way. Poor diet and drug and alcohol abuse, along with an extremely wasteful health care system, may mean we see few gains in health status. But it is not absurd to think that the benefits are possible. In any case, this is not a matter that is in principle beyond our control.

In short, demographics will be a factor in determining living standards in the coming decades, but a relatively minor one. Besides, it’s not something we can really do much about. The media’s endless harping on demographics is a distraction from policy changes that could actually improve people’s lives.

This first appeared on Dean Baker’s Beat the Press blog.

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