Two Computations to Fund Social Security

We use a general equilibrium model to study the impact of fully funding social security on the distribution of consumption across cohorts and over time. In an initial stationary equilibrium with an unfunded social security system, the capital-output ratio, debt-output ratio, and rate of return to capital are 3.2, 0.6 and 6.8%, respectively. In our rst experiment, we suddenly terminate social security payments but compensate `entitled' generations by a massive one-time increase in government debt. Eventually the aggregate physical capital stock rises by 40%, the return on capital falls to 4.4% and the labor income tax rate falls from 33.9% to 14%. We estimate the size of the `entitlement debt' to be 2.7 times real GDP, which is paid o by levying a 38% labor income tax rate during the rst 40 years of the transition. In our second experiment, we leave social security bene ts untouched but force the government temporarily to increase the tax on labor income so as gradually to accumulate private physical capital, from the proceeds of which it eventually nances social security payments. This particular `government run' funding scheme delivers larger e ciency gains (in both the exogenous and endogenous price cases) than privatization, an outcome stemming from the scheme's public provision of insurance both against life span risk and labor income volatility. 1