00:00:00
Sylvain Catherine: We have known for
decades that at some point
00:00:03
during the— around the year 2033
or 2035— this date has moved a
00:00:09
little bit. At some point, the
Social Security Trust Fund,
00:00:12
which are the reserves of the
Social Security system, is going
00:00:16
to run out of money. When this
happens, Social Security will
00:00:21
not be able to pay the benefit
in full. Based on the current
00:00:26
estimate, it will be able to pay
75% of the benefits. So at this
00:00:30
point, there will need to be a
reform. Either you will have to
00:00:33
raise the level of payroll taxes
that form Social Security, or
00:00:37
you will have to lower the
benefits or to move the
00:00:40
retirement age.
00:00:42
- Welcome to <i>The Ripple Effect</i>,
the podcast that takes you on a
00:00:45
journey through the minds of
Wharton faculty. I'm your host,
00:00:48
Dan Loney, and in each episode,
we'll be diving deep into the
00:00:51
inspiration behind the
groundbreaking research that
00:00:54
Wharton professors have
conducted and exploring how
00:00:58
their findings resonate with the
world today.
00:01:01
When you think
00:01:02
about retirement, there's no
doubt that part of the
00:01:05
discussion ends up being around
Social Security and what it
00:01:09
means for Americans. But when
you factor it in when you're
00:01:13
looking at wealth inequality, is
there a difference in what it is
00:01:17
now compared to, say, a few
decades ago? That's part of the
00:01:22
research done by our guest here
today, Sylvain Catherine, who is
00:01:25
an Assistant Professor of
Finance here at the Wharton
00:01:28
School. Sylvain, great to talk to
you again. How are you?
00:01:31
I'm great. Thanks for having me.
00:01:32
Thank you. Let's start, I guess,
00:01:33
with the back story on looking
at this— these aspects of wealth
00:01:38
inequality tied to Social
Security.
00:01:41
right? So as you mentioned, when
people think of retirement, a
00:01:45
big part of it is Social
Security. Actually, for most
00:01:49
Americans, most of their income
during the retirement period
00:01:52
does not come from the stock of
wealth that they have at the
00:01:55
beginning, but comes from the
Social Security benefits that
00:01:59
they receive. Now, all those
promises that the government
00:02:04
make, they have value. So you
could think of it like, if you
00:02:07
were to go on the private
market, you could buy an
00:02:09
annuity, and that annuity would
basically offer exactly the same
00:02:14
type of terms as Social Security.
It would, like, provide a monthly
00:02:18
payment until the end of your
life. So there is a market value
00:02:22
for what the government
provides. And so one question
00:02:25
is, once you try to value those
benefits, the ones that you have
00:02:30
already accrued because you have
contributed into the system,
00:02:34
what's the value of this? How
does it change the level of
00:02:38
inequalities that we see today,
and does it change also the
00:02:41
trends in wealth inequality?
Because when we look at wealth
00:02:45
excluding Social Security, we
see a steady increase in wealth
00:02:49
inequality since more or less
the mid 1980s. But what we find
00:02:54
in our paper is that once you
factor in Social Security, this
00:02:58
positive trend in wealth
inequality basically disappears.
00:03:03
So when you think about value
for Social Security, how has that
00:03:07
changed over the last several
decades?
00:03:09
So it has changed
enormously, and this has
00:03:11
implication both for households
but also for the government.
00:03:14
Because, of course, what we
consider as an asset for
00:03:18
households is going to be a
liability for the government.
00:03:21
But we are talking about, I
think right now, something that
00:03:24
is close to $50 trillion, where,
like, the total stock of wealth
00:03:29
excluding Social Security in the
US would be slightly more than
00:03:32
$100 trillion. So you have, like,
1/3 of the total that is Social
00:03:36
Security, and which was not
considered in inequality
00:03:40
statistics before.
00:03:41
And so when you talk about the
different income brackets,
00:03:45
there's probably much more of a
reliance on Social Security as a
00:03:48
component of support in your
retirement years for lower-
00:03:52
income families than it is for
higher-income families.
00:03:55
Exactly. So in general, as you
move up in the income
00:03:58
distribution, people receive
higher benefits. But that slope,
00:04:02
that relationship, is much less
pronounced than if you look at
00:04:06
wealth in general. And because
there is much less inequality in
00:04:11
Social Security benefits, adding
it to the— to the— to the bucket
00:04:16
of the things that you consider
as wealth totally changes the
00:04:20
picture that you— that you have
when you trace the level of
00:04:24
inequality over time.
00:04:25
So then, with everything we've
seen, especially in recent
00:04:27
years, how then do we value
Social Security benefits right
00:04:31
now? And I guess maybe even more
importantly, how, potentially,
00:04:35
might we value them in the
future? Because obviously, there
00:04:38
are so many questions about what
Social Security might be in the
00:04:42
next decade or so.
00:04:43
Right. So that's— that's an
important consideration. So we
00:04:46
have known for decades that at
some point during the— around the
00:04:52
year 2033 or 2035— this date
has moved a little bit. At some
00:04:56
point, the Social Security Trust
Fund, which has the reserves of
00:05:00
the Social Security system, is
going to run out of money. When
00:05:04
this happens, Social Security
will not be able to pay the
00:05:09
benefit in full. Based on the
current estimate, it will be
00:05:13
able to pay 75% of the benefits.
So at this point, there will
00:05:17
need to be a reform. Either you
will have to raise the level of
00:05:21
payroll taxes that form Social
Security, or you will have to
00:05:24
lower the benefits or to move
the retirement age. Now, in our—
00:05:28
in our paper, we take this into
account. We have some— some tests
00:05:32
like— what if, like, we pay the
benefit in full, what if we cut
00:05:34
them by 20%. And we look at how
it changes the trends in wealth
00:05:38
inequality. But you have to
remember that this is not news.
00:05:42
This we have known, if you look
at the Social Security reports
00:05:46
that, like, the Social Security
Administration publishes every
00:05:49
year about the health of the
system, we have known that for
00:05:52
decades. And so that was, in a
sense, already known, 40 years
00:05:56
ago. And so it doesn't change
the trends that much.
00:05:59
But the concept of inequality,
though, has probably shifted
00:06:03
over the last few decades as
well.
00:06:06
So what do you mean by this?
00:06:07
Well, I mean, when you
think about the impact of the
00:06:09
inequality because of how Social
Security has changed, we're
00:06:12
seeing probably a much greater
impact on inequality than we
00:06:16
have in the past.
- Right. Right.
00:06:17
And so there are several
reasons for that. So one is that
00:06:21
you have many more workers that
are, like, well-covered by
00:06:24
Social Security, or, like, young
retirees, than 40 years ago.
00:06:29
Second, life expectancy has
increased. So it has stagnated a
00:06:34
little bit in— in more recent
years. But over, like, a long
00:06:36
period, it has increased. And,
like, the third thing, which—
00:06:40
which is, I think, the more
interesting point, I think, from
00:06:42
a finance point of view, is that
the level of interest rate has
00:06:47
declined enormously. And so when
you try to buy an annuity from
00:06:51
an insurance, for example, the
level of the interest rate is
00:06:55
going to affect the value of
this annuity. The lower the
00:06:57
interest rates, the higher the
value of the— of the assets, such
00:07:02
as Social Security— future Social
Security benefits.
00:07:05
Well, and even that level of
interest rate, as you kind of
00:07:08
alluded to, has shifted, what,
over the last 30 years or so. We
00:07:12
went for such a long period of
time with interest rates
00:07:15
basically at zero. Then we saw
that rise in and around the
00:07:19
pandemic. And we still are
seeing a higher rate of
00:07:22
inflation than we saw, say—
- Right. - 20 years ago. So—
00:07:25
so what really matters here is a
level of real interest rates.
00:07:29
That is a difference between the
level of nominal interest rates
00:07:32
That, like, you would see on a
mortgage contract, and the level
00:07:35
of inflation. Because Social
Security benefits are indexed on
00:07:38
inflation. So when— when— when—
when inflation goes up, it
00:07:42
doesn't really hurt retirees as
much as it hurts the rest of the
00:07:45
population, because they are
protected against it. Now, the
00:07:48
spread between the nominal
interest rate and inflation is
00:07:51
still very low relative to what
it was in the '80s.
00:07:54
We've obviously had a lot of
policy discussion around Social
00:07:58
Security, especially lately. One
of the things, obviously, that
00:08:01
the current administration
brought forward was not taxing
00:08:04
Social Security benefits. All of
these kind of ideas kind of
00:08:08
filter into the mix as to that
component of inequality and
00:08:11
Social Security benefits.
- Yeah,
00:08:13
this kind of policy has big
redistribution effects,
00:08:16
especially not so much between
rich and poor people, but more
00:08:21
so between different
generations. So for example, if
00:08:24
like— cutting what they call the
Social Security tax is
00:08:27
effectively increasing the
Social Security benefits. Now
00:08:31
there is no free lunch. Like,
Social Security benefits in a pay-
00:08:35
as-you-go retirement system, are
paid by workers. And so if you
00:08:40
decide that the current courts of
retirees will receive more
00:08:44
benefits, that means that the
deal is mechanically getting
00:08:48
worse for younger generations.
And so that's where— that's the
00:08:52
dimension on which the
redistribution along this kind
00:08:55
of policy operates. It's between
generations. - And
00:08:58
it's not a component of wealth
that's transferable to that next
00:09:01
generation as well.
- Well,
00:09:03
I mean, that's a choice for, like,
your parents or your
00:09:06
grandparents. If they decide that
these additional benefits are
00:09:09
like not having to pay the tax
on Social Security taxes.
00:09:12
Because just to be clear, the
Social Security tax is not going
00:09:17
to the federal government. It
feeds back into the Social
00:09:20
Security Trust Fund.
- Right.
00:09:22
And so it's
it's really like— I think the
00:09:24
right way to think about it is
an increase in benefits. - Right.
00:09:27
And so if your parents that are
currently retired decide to save
00:09:31
that money instead of spending
it, then you as an individual,
00:09:34
you would get it back for
inheritance. - Right. - Now, not all
00:09:37
Americans are equally situated
on— on that dimension. Because,
00:09:43
first of all, like, that Social
Security tax is only going to go
00:09:47
to— towards, like, high-income
Social Security recipients.
00:09:51
- Right. - And so effectively, what
would happen is that you would
00:09:54
have like— like, current workers
whose parents have low Social
00:09:58
Security benefits. So for them,
it means that they will have to
00:10:02
fund that increase in generosity
for current retirees, but their
00:10:06
parents will not be able to save
that money to return it to them
00:10:11
in the form of inheritance. So
yes, it's a transfer from, like,
00:10:15
young generations to older
generation. And potentially that
00:10:18
transfer is kind of like offset
by the inheritance mechanism,
00:10:22
but not equally for all young
Americans.
00:10:25
I found it interesting in
reading through the paper, and
00:10:27
you mentioned this a little bit
earlier— is the impact, or lack
00:10:32
thereof, of this component of
Social Security benefits to
00:10:37
inequality on the top 10%. Take
us through why that's so
00:10:41
important to this paper.
00:10:43
So because— because,
essentially, when you look at
00:10:46
the bottom 90%— so the rest of
the population, for them, Social
00:10:50
Security is more or less half
their wealth. Whereas for the
00:10:55
top 10%, it's much smaller. And
for the top 1%, it's like,
00:10:58
totally insignificant. - Right.
- And therefore, when you ignore
00:11:03
Social Security, you kind of
like totally overlook the
00:11:07
biggest chunk of wealth that the
bottom 90% has, and you fully
00:11:11
count the wealth of the top 10%.
Which is why including it really
00:11:15
changes the picture.
- I found
00:11:16
it interesting. You also
mentioned at the end of the paper,
00:11:19
we're still kind of at a point
where there's probably a lot
00:11:21
more research to do in terms of
looking into this and these
00:11:25
impacts as we move forward,
correct?
00:11:27
Right. Because, like, our paper
is mostly, in a sense, an
00:11:30
accounting paper. We are just
trying to measure how much
00:11:33
wealth people have. - Right. - So
it's not— it's not a measure of,
00:11:36
like, the causal effect of
Social Security on the
00:11:39
distribution of wealth. Because
if Social Security did not
00:11:42
exist, the behavior of people
would like totally change.
00:11:46
Presumably, people, knowing that—
so wages, net wages, would be
00:11:50
higher because you wouldn't have
to pay the Social Security tax.
00:11:53
And there is a question of what
people would do with the money.
00:11:56
Would they have saved more privately,
or would they have— would they have
00:12:00
chosen to consume it? And so
depending on the assumptions
00:12:03
that you are making here, the
causal effect of Social Security
00:12:07
on wealth inequality could be
very different. So our paper is
00:12:10
just measuring things. It's just
trying to get the accounting
00:12:12
right, but it doesn't really
tell you what Social Security is
00:12:16
actually doing in terms of
affecting inequality. - Is
00:12:19
there, though, a natural next
area that you would like to
00:12:23
build off of this research to go
look at next?
00:12:26
Right. So as you— as you
mentioned, one big source of
00:12:31
concern for the next 10 years is
this funding gap. And as I
00:12:37
alluded to, there are several
ways to solve that gap. Now,
00:12:41
whether you solve it by reducing
the benefit, changing the
00:12:45
retirement age, or by increasing
taxes, that does not affect all
00:12:49
Americans in the same way. And
since it's a big fraction of
00:12:53
their wealth, the actual policy
decisions will have a big effect
00:12:57
on the way the cost, the burden,
is, like, distributed among
00:13:00
Americans. So that's, like,
00:13:01
something that we are trying to
do right now.
00:13:03
And so that puts, as you kind of
alluded to— that puts more
00:13:05
emphasis on what's going to
happen on the policy side. - Yes.
00:13:08
- Over the next decade, to truly
00:13:10
understand the path
that we're gonna see. - Right.
00:13:11
Once you get the accounting
right, you can think of— okay,
00:13:14
if I change the rule, who gets
affected? Who benefits? Well,
00:13:18
most of like— in net, it's going to
be a burden, because there is
00:13:21
this money that is— that is—
that is just missing. - Yeah.
00:13:24
But like, depending on the policy
choice that you make to address
00:13:27
this problem, the— who is going
to be affected, in terms of
00:13:32
which cohort— and we mean a
cohort, whether it's high-income
00:13:36
people or low-income people—
that really depends on the way
00:13:38
we decide to solve that problem.
00:13:40
Is there enough of an understanding
by the policymakers about the
00:13:43
accounting side, so they can make
the proper decisions on the
00:13:47
policy side?
- So in a sense,
00:13:48
that's what we are
trying to provide in our future
00:13:50
research. I think a lot of
policymakers know about this.
00:13:56
Now, I think the problem is that
Social Security has been
00:14:00
described as like the third rail
of American politics. - Yes.
00:14:04
And so as long as long the trust fund
still has money, in a sense, I
00:14:09
don't think any of them will say
anything about this, because
00:14:12
it's just like— there is only,
like, political cost. But we know
00:14:16
that like— so we are in '25. So in
eight years, I think, based on
00:14:20
the latest estimate—
- Yeah.
00:14:22
there won't be any money left.
And so
00:14:24
at that point, policy makers
will have to say, "Okay, we
00:14:27
prefer to raise the retirement
age, or we prefer to cut the
00:14:30
benefit, or we prefer to raise
the taxes."
00:14:32
Those are going to be
our choices.
00:14:34
Sylvain, great to see you again.
Thank you very much. Thank you.
00:14:37
Thank you for having me.
- Thank you.
00:14:38
Sylvain Catherine, who is
00:14:39
Assistant Professor of Finance
here at the Wharton School.
00:14:43
- Thank you for listening to
<i>The Ripple Effect</i>. We hope you found
00:14:46
this episode informative and
engaging. Don't forget to
00:14:48
subscribe and leave us a review
so that we can continue to bring
00:14:52
you the best insight from the
Wharton School.
