As the buzz about President Bush’s Social Security reform plans continues to grow, the doom-and-gloom crowd is dooming-and-glooming.
Oh, the transition costs will be too high, they lament, and people may lose their money if they don’t invest it wisely. Benefits will have to be cut, cry the political strategists, which will lead to disaster at the polls.
But all this moaning is speculation and fear-mongering at its worst. Why? Because there is a private retirement system already in place that has tackled all these alleged problems with great success.
Too good to be true? Hardly, Chile has shown the world the way to reform its retirement system where everybody wins.
Passed almost 25 years ago, the Chilean system eliminated all payroll taxes and gave citizens the option of staying in the old system or participating in the new private system. Within five years, some 90 percent of Chileans had signed up.
The system requires each worker to put 10 percent of his or her pre-tax wages into a private account, and may put an added 10 percent.These accounts are managed by 15 different mutual fund companies and must comply with government rules designed to thwart fraud and minimize risk.
For instance, older workers who signed up had to invest in mostly short-term, fixed-income securities such as bonds.Younger workers, though, had more flexibility to invest in stock and money market funds. The government set a minimum monthly pension level that the accounts have to provide, and if a worker hasn’t accumulated enough in his or her account, the government makes up the difference.
The transition costs were addressed with a residual payroll tax that was phased out and a one-time sale of government bonds.
More importantly, the resulting economic growth boosted revenues from income and estate taxes making the costs much more “affordable.” The average annual real return on these accounts was 10 percent, and Chile’s economy grew at twice its average rate (7 percent vs. 3.2 percent) after the reforms were passed.
So, don’t listen to the doom-and-gloomers. Chile proves that a country can make the transition and everyone prospers.