As Congress and the President begin to grapple with the looming “fiscal cliff,” the topic of Social Security reform could receive renewed attention as part of any effort to address the long-term budget deficit. Some have asked whether policymakers considering Social Security changes could learn anything from recent state and local pension reforms. One of these reforms involves reductions in cost-of-living-adjustments (COLAs) – a solution that seems fair to me. This approach raises the inevitable question of whether the traditional notion of protecting those 55 and older from benefit cuts is appropriate.
Many states and localities are facing substantial shortfalls in their pension funding. Experts argue about the extent that sponsors are at fault, but the fact is that public plans held substantial equities and were hit hard by the financial collapse of 2008. At the same time, the recession decimated state and local budgets by simultaneously reducing tax revenues and increasing demand for services. Because sponsoring governments could not make up for the drop in asset values, they enacted increases in pension contributions for both current and future workers, benefit cuts for new hires, the introduction of defined contribution plans, and – in six states –modifications of the yearly COLAs for current retirees.
In all six states, the COLA modifications have been challenged in court. In two of the states – Colorado and Minnesota – courts upheld the changes. In both cases, the judges found that the COLA was not a core benefit that participants could expect to receive for life, and in Minnesota the judge ruled that the COLA modification was necessary to prevent the long-term fiscal deterioration of the pension plan.
In the case with which I am most familiar – Rhode Island – suspending the COLA and then linking future COLAs to the investment returns was an essential part of the solution. Retirees vastly outnumbered current workers, so making changes only for current and future workers would have had little impact on the state’s dire fiscal situation. Therefore, everyone needed to contribute to the solution.
So, how can it be fair for retirees to help solve the pension problem in Rhode Island and the other states and yet, when thinking about Social Security reform, tell those 55 and over that they will not be expected to contribute to the nation’s long-term solution to future funding problems?
The conventional argument for protecting Social Security participants is that older workers and retirees do not have the flexibility to adjust to benefit cuts. That is true, and these individuals should not be forced to endure drastic cuts. But the argument for leaving them completely untouched also does not seem compelling.
It could be argued that in the case of Social Security, the over-55 crowd actually misbehaved. It has been very clear since the early 1990s that Social Security would need additional money to maintain current benefits. Yet, the baby boom generation, instead of raising taxes on itself, kicked the can down the road. Now that many of its members are over 55, they want to foist the burden on younger generations. That does not seem fair.
This idea may seem heretical, but I currently think that some sort of COLA suspension or modification should be part of any package to fix Social Security. Such an approach has a precedent: the 1983 amendments delayed the COLA for six months when the program needed money immediately.
Any change to the COLA would have to be applied judiciously. Many older people depend completely on their Social Security check for income in retirement. The vulnerable would need to be protected. Thus, COLA changes would have to be implemented on a sliding scale, perhaps based on family benefits. But leaving all those 55 and older untouched no longer seems like the right answer.
Alicia Munnell is the Peter F. Drucker Professor of Management Sciences at Boston College’s Carroll School of Management. She also serves as the Director of the Center for Retirement Research at Boston College. She was cofounder and first President of the National Academy of Social Insurance and is currently a member of the American Academy of Arts and Sciences, the Institute of Medicine, and the Pension Research Council at Wharton. (A slightly different version of this post was previously published in the Market Watch blog.)