The Swedish Solution
CaPretta, James C.
The Swedish Solution A Social Security reform made in Scandinavia? BY JAMES C. CAPRETTA Where to turn next on Social Security reform? The presumptive Republican nominee for president, John...
...Pensions are still fi nanced on a pay-as-yougo basis, with payroll taxes collected today to cover monthly benefi ts for current retirees...
...James C. Capretta is a fellow at the Ethics and Public Policy Center and the author of “Global Aging and the Sustainability of Public Pension Systems,” published by the Center for Strategic and International Studies...
...They’re tracking devices...
...What’s different is the pension calculation at retirement...
...The retirement benefi t is set at the amount that would, when drawn monthly, deplete the worker’s “account” over his or her expected remaining life span...
...President Bush fell short on Social Security in part because it is diffi cult to move away from a pay-as-you-go system...
...Benefi t payments under the new system began in 2001...
...The U.S...
...The Social Security Administration expects the U.S...
...The only way younger Swedes can boost their pension entitlement is by earning higher wages and thus “contributing” more to their notional accounts...
...They track worker “contributions,” assign “investment earnings,” and report “account balances”—except there are no fi nancial resources in them...
...The presumptive Republican nominee for president, John McCain, like President Bush, supports introducing fully funded personal accounts within the program...
...Swedish social security is still too expensive, requiring a 16 percent payroll tax rate (not including a 2.5 percent tax for mandatory retirement savings or the cost of additional support for low-income elderly...
...Pushed to act by a faltering economy, Sweden’s leading political parties joined together in the 1990s to pass and implement a sweeping overhaul...
...By the late 1980s, it was apparent that rapid population aging would force tax hikes to an extent that even Swedish voters would fi nd unacceptable...
...Projections show Social Security’s costs will begin to exceed revenue in 2017, with the gap widening rapidly thereafter...
...Such a reform would be a signifi cant improvement over the existing U.S...
...system, most especially because it would make a damaging payroll tax increase unnecessary...
...These notional accounts look like 401(k)s...
...The Swedish reform should improve work incentives too...
...With populations aging more rapidly and financial problems even more pressing than in the United States, several European governments have moved aggressively over the past decade to implement conservativeleaning pension reforms...
...Social Security payroll tax rate is 12.4 percent, but the program has a $14 trillion unfunded liability...
...The Swedes face no such shortfall...
...Sweden’s reform, since copied by several other governments in Europe, demonstrates that it is possible to secure some of the benefi ts of personalization within a pay-as-yougo framework...
...The accounts are set by default to grow at the same rate as wages, but the rate of growth can be reduced if key demographic variables make such a return unaffordable...
...Surprisingly, the answer might be found in Europe...
...Still, the odds are against a push for such accounts anytime soon...
...The Swedish reform introduced a new concept—“notional defi ned contribution” accounts, assigned to every worker participating in the public pension system...
...For decades, Sweden maintained a conventional, pay-as-you-go, defi nedbenefit public pension, not unlike Social Security...
...Once up and running, workers would begin to wonder why they can’t invest their contributions themselves and have a chance at better returns than the government provides...
...population age 65 and older to increase by more than 40 percent between 2006 and 2020...
...For those nearing retirement, the automatic reductions in monthly benefi ts for an early workforce exit should encourage more to delay their retirement...
...For instance, if low fertility were to mean a smaller than expected workforce, the rate of return would be cut automatically to a level consistent with the smaller base of working participants...
...Too many Republican politicians believe, rightly or wrongly, that the president’s 2005 effort hurt them in 2006...
...But even if Bush-style personal accounts are beyond reach, Social Security reform remains necessary...
...Longterm projections confirm Swedish pension obligations can be met indefinitely without a tax increase, even with population aging...
...Switching to notional accounts would make a later switch to fully funded accounts simpler...
...Pressure is building for a sizable increase in payroll taxes...
...Similarly, if Swedes live longer than currently expected, the annuity calculation will cut monthly payouts to ensure notional account balances are not overdrawn...
...The Swedish reform is permanently solvent thanks to provisions which automatically adjust payouts to stay within available revenue...
...Sweden’s innovative social security plan is a notable example...
...But if not fully funded personal accounts, then what...
...New Swedish retirees get a pension based on the balance in their own notional account, which is converted into a monthly benefi t much as the balance in a 401(k) could be used to purchase an annuity...
Vol. 13 • March 2008 • No. 26
