What Can We Learn from Other Countries About the Why's and How's of Individual Accounts in the U.S.?

Abstract

This paper describes the structural reforms to their social security systems that many countries have adopted in recent years. In addition to a publicly managed social safety net, this strategy includes a funded component (retirement savings), with the funds privately managed. The basic rationale is that relying on partial pre-funding enhances system sustainability and has a positive impact on the broader economy by increasing long term national saving and labor market incentives. The paper contrasts how the funded pillar has developed in Latin America (where individual accounts prevail), the OECD countries (where group plans at the company or occupational level are common), and elsewhere.

The relevance of these experiments in other countries for the social security debate in the U.S. is explored. If a portion of the current contribution rate to social security were "carved out" and placed in individual accounts that earn a market return, this would help to keep over-all benefits at their present level without a tax increase. It would increase the sustainability of the system and, under conditions specified in the paper, would also enhance economic growth. Based on empirical evidence from other countries, private competitive management of the funds would yield the highest return and the most productive allocation of capital.

Once a country has made the political decision to move in the direction of pre-funding individual accounts, it faces a number of difficult implementation issues. Chief among these are: how to avoid undue risk and high administrative costs, how to achieve an equitable distribution of costs and benefits, and how to finance the transition. The paper describes the variety of solutions to these problems adopted by the countries that have already undergone structural reforms to their social security systems.