Candidates' Plans Won't Ensure Golden Years for Everyone
By Noshua Watson

(FORTUNE Magazine) – Candidates usually get heartburn at talk of reforming Social Security, historically known as the "third rail" of U.S. politics: Touch it, and you're toast. But this election season the demands of aging voters, a strong economy and, perhaps, millennial delirium have led George W. Bush and Al Gore to grasp the third rail.

Though Gore and Bush have both announced plans to overhaul the 65-year-old pension system, neither addresses a more fundamental problem: Even if the next President makes Social Security fiscally sound, lots of Americans will struggle during their so-called golden years. Social Security just doesn't--and won't--provide enough money to ensure an easy retirement.

The Bush camp believes it can save Social Security (which is expected to run dry in about 2030) while maintaining current benefit levels and boosting future returns. How? By giving workers the option to open a privately managed account funded by one-sixth of the 12.4% payroll tax. The idea is that the stock market can be expected to pay better returns than Social Security, increasing benefits to retirees without increasing the payroll tax.

Bush advisor and Harvard economist Martin Feldstein figures that those who invest in the plan will accept a lower guaranteed Social Security payment if a combination of the benefit and their investments exceed it. The real winners under Bush's plan, Feldstein says, will be today's young workers, who can contribute to the private accounts throughout their careers. He figures that 17-year-olds have a 71% chance of getting almost half as much again under the Bush system as in the current one.

The Bush plan makes two major assumptions: First, that investment accounts will increase national savings, leading to higher corporate profits and thus to higher corporate tax revenues. Second, that Congress will plunk a large part of the additional revenues into Social Security (replacing the funds diverted into the individual accounts) in order to pay current obligations. If either fails to happen, the plan sinks.

In Gore's proposal, workers still pay the full payroll tax into the system, but they also can start a tax-deferred government account, similar to a 401(k), in which the government would contribute to their savings. A couple earning less than $30,000 would be eligible to receive $3 for every $1 they invest; higher-income workers would receive smaller contributions. Those accounts could be cashed in at retirement, for pre-retirement educational and medical expenses, or to purchase a first home.

Gore advisor Alan Blinder calculates that the program would cost $200 billion in the first ten years, funded by federal budget surpluses. The Gore plan also calls for spending another $100 billion for benefit increases to widows and people with interrupted work histories, such as women who quit the labor force to raise children.

Both candidates rely on large assumptions--enduring surpluses and congressional cooperation--to sell their ideas. Both use the surplus to fiddle with the system, so as to avoid doing anything that would make voters grumpy, such as increasing the payroll tax or the retirement age. But neither truly addresses the fact that modest enhancements of the current system won't do much. Bush's plan does not actually increase the volume of savings; it only changes where the savings are stashed. Even if rates of return on the private accounts are healthy, they affect only one-sixth of the payroll tax, itself about one-eighth of earnings. That's not likely to be enough to boost retirement income. Gore's plans do encourage people to save more, but Americans have proved heartily resistant to such inducements. Under his own team's projections, only a minority will sign up.

The $804 per month that the average retired worker currently receives from Social Security is not exactly plush, and of course many get much less. Moreover, the returns to Social Security are getting worse. If current and future workers want a comfortable retirement, they will need a source of income above and beyond Social Security. But that message has yet to reach many American households--almost one in five has no or a negative net worth. Almost six in ten lack retirement accounts. Among those that do have such accounts, even 55- to 64-year-olds have median savings of just $32,800. About a third of retirees rely solely on their monthly checks. Although Social Security has done much to alleviate poverty among the elderly, about one in ten old folks is officially poor.

The U.S. is not the only country facing the conundrum of financing the retirement of its elderly. In fact, compared with its peers in France, Germany, and Italy, America's pension system looks reasonably healthy. But the systems in Britain, the Netherlands, Denmark, and Switzerland look far healthier. Those countries not only have a basic pension akin to Social Security that is under fiscal control but also have a mandatory "second tier" of provisions, financed mostly through individual contributions. There have been some transition problems, but these places do not face a baby-boomer blowout when that generation retires.

Bush and Gore deserve credit for grasping the "third rail." But the problem of ensuring sufficient retirement income is larger than that of stabilizing Social Security. Touching that rail seems too dangerous for these candidates.