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Structural Reform of Social Security

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This is a summary of the Structural Reform of Social Security by Martin Feldstein. The article explains how the mixed system of social security pension -which involves both pay-as-you-go benefits and personal investment-based retirement accounts- has more economic gains than the pay-as-you-go system that is purely tax-financed. Some of the countries using the system are Chile, China, Sweden and Britain.

Social security program is a program in which current benefits are paid using the current tax revenue. The revenue received from this program goes to Social security trust fund, while the government lents all the receipts that remain after paying the current benefits to finance its other activities. If a mixed system was fully employed, each employee would participate in pay-as-you-go system and contribute to investment-based retirement account separately. However, differences in the plan’s design affects the  costs and benefits distribution across different generations. The assets and personal retirement of an individual who dies before hitting the retirement age would be handed down to his heirs. Those who reach the retirement age may allowed to annul the accumulated fund or take out some or all cash

The prevailing value cost incurred for the maintenance of the presently projected retirement benefits can be reduced by adding the investment-based component to the Social Security. Many policy analysts and economists recognize the long-run benefits associated with a shift from pure pa-as-you-go to a mixed system; but they believe the transition requires unacceptable costs. This is, however, not the case; it is more manageable than they suggest.

The article concludes that the shift from pay-as-you-go to a mixed system is likely to reduce the labor market’s distortions and increase present value of future consumption. It recommends that the transition should be done gradually such that it will not require a tax increase, a decrease in predictable retirement incomes or large deficits. The mixed system will provide greater benefits to the retiree groups; which, are poor under the current Social Security rules.


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