Returns Paid to Early Social Security Cohorts

Article excerpt

I. INTRODUCTION

The combined benefit and contribution structure of the U.S. Social Security program generates substantial income transfers within and across generations. A highly progressive benefit formula transfers income from high-wage to low-wage earners, and the program pays benefits by transferring resources from current workers to current beneficiaries. The transfers implicit in this system do not always flow from high-income to low-income earners, however, and their magnitude may be higher or lower than intended. This causes concern over intragenerational and intergenerational equity and raises the question of whether the program is redistributing income effectively. A number of studies attempt to evaluate Social Security's relative generosity toward program participants--that is, the relationship between benefits and contributions--but a lack of appropriate data has hampered the studies. As a consequence, policymakers know little about the value of Social Security participation and its distribution across individuals and groups.

This paper reports on an empirical assessment of Social Security income transfers for early participants. The objective is to quantify the magnitudes of and variations in transfers that take place within and across cohorts. The analysis derives the present values of contributions and benefits (and net benefits) and the internal rates of return to contributions, for selected sex, race, household type, income, and age categories. The paper examines the sensitivity of results to the choice of discount rate series. The analysis decomposes benefit values into those benefits already received and those remaining to be paid to the sample workers after 1988.

Using the Social Security Administration's (SSA's) 1988 Continuous Work History Sample (CWHS) as the data base sets the analysis here apart from previous studies on this topic. The CWHS is an earnings history file for a 1 percent sample of Social Security records. Because it has not been publicly available since the 1970s, no previous analysis of these data has been possible. The file has over 2.5 million records with actual earnings histories spanning the period 1951 to 1988.

The CWHS permits a more complete analysis of the Social Security contribution and benefit base than previously has been possible. No other available file contains longitudinal earnings data for such an extended period and for such a large number of individuals. The file also contains benefit information that one can use to compute benefit histories for current and former Social Security beneficiaries. The individual account records allow examination of both the mean and the dispersion of contributions and benefits for actual (and appropriately weighted) beneficiary classes. In contrast to other research, the analysis here is able to estimate the returns that early cohorts actually received. In particular, findings indicate that the early participants under study here experienced real rates of return greater than 9 percent and received an aggregate income transfer of $3.5 trillion.

II. PREVIOUS RESEARCH

Previous studies on this topic differ in important ways but commonly conclude that early Social Security program participants fared very well financially. The preferential treatment of early cohorts is endemic to any maturing retirement system. Several studies also demonstrate that within birth cohorts the returns from the Social Security program depend upon marital status and family income. Previous studies base conclusions on calculations of rates of return and/or net present values either for case histories of actual workers or for "representative" workers.

Freiden, Leimer, and Hoffman (1976) use an early version of the CWHS to examine a sample of workers retiring between the years 1967 and 1970. They conclude that the Old-Age Insurance (OAI) program was strongly progressive for this particular group--that is, OAI redistributed in favor of low-income persons. …