Free To Choose Network | Turmoil & Triumph: The George Shultz Years
Turmoil & Triumph: The George Shultz Years
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Entitlement Tsunami
A Review of Putting Our House in Order

The following review is excerpted from “The Right Prescription” by John R. Graham, for the Claremont Review of Books. The accompanying videos feature George Shultz and co-author John Shoven.

Government health care is driving America into bankruptcy. This is no secret. Indeed, the law requires that Social Security and Medicare trustees issue a report to this effect every year, to which Congress pays attention for about ten minutes and then goes back to its usual business.

George P. Shultz, a Distinguished Fellow at the Hoover Institution and U.S. secretary of state under President Ronald Reagan, and John B. Shoven, the Charles R. Schwab Professor of Economics at Stanford University and the Wallace R. Hawley Director of the Stanford Institute for Economic Policy Research, would like both Congress and the American people to pay closer attention to the impending fiscal storm. Putting Our House in Order is marketed as a "citizen's guide to all points of view" about how to manage the burgeoning unfunded liabilities of Social Security, Medicare, and Medicaid. The Congressional Budget Office (CBO) projects that these entitlement costs could reach 28.5% of GDP by 2050, whereas total federal revenues have never exceeded 21% in the history of the Union.

And it gets worse: state and local governments also have massive unfunded liabilities for their retired public servants' health benefits. Until recently, they have hidden these from taxpayers. The Government Accounting Standards Board (GASB) requires all public employers to have booked these liabilities by the end of 2008. The numbers are staggering. According to the authors, Maryland has an unfunded liability of $20 billion, nearly double its annual general fund budget. New York City's chief actuary has declared that its assumptions are so unrealistic that the official estimates are "meaningless."

Nor is the bleeding confined to the public sector. Many older companies also have defined benefit pension plans (often with retiree health benefits) that are on shaky ground. Although most companies have adopted defined contribution plans such as the 401(k) in the last 25 years, there is still a critical overhang of companies with defined benefit plans. Such plans are the liabilities of the firms rather than the property of the employees.

These schemes are not in good shape: between 2002 and 2005, over 20 companies defaulted on their "pension plans of more than $100 million in size." Although insured by the Pension Benefit Guarantee Corporation (PBGC), the PBGC's premiums have not kept pace with the rate of defaults. The biggest recent pension default resulted from the bankruptcy of United Airlines, which took from 2002 to 2006 to work out. Furthermore, because the PBGC's maximum insured pension is $45,000, pilots who retired with pensions of $100,000 suffered serious cuts in their pension income. Americans might not count retired commercial airline pilots among the suffering, huddled masses of the world, but their loss is symptomatic of a systemic crisis. Indeed, Shultz and Shoven fear that the PBGC might need a taxpayer bailout!

Remarkably and quite happily for their readers, Shultz and Shoven face this perfect fiscal storm with optimism, proposing solutions that restructure pensions without raising taxes. They note that while health care and pension liabilities form an increasing slice of the nation's fiscal pie, we have a number of methods to grow the entire pie (i.e., GDP). One benefit of our expensive, innovative health care is that people are aging better. When Social Security began in 1935, an average 65-year-old man could expect to live 12 more years, and a woman 13. In 2004, life expectancy at age 65 was 16 more years for men and 19 years for women. In fact, male life expectancy at age 65 has increased by one month per year for the last 30 years.

Unfortunately, a major difficulty in addressing the crisis of unfunded liabilities is that Americans' savings rate is now close to zero, having steadily declined since the 1980s. Shultz and Shoven's most promising recommendations to solve the problem involve increasing older workers' participation in the labor force through public policies that give them an incentive to do so. Indeed, all the extra years of life gained in the last 70 years have been spent in retirement. And these folks are actually "younger" than the previous generation. When observed through the lens of health status, a 78-year-old woman in 2000 was the same age as a 69-year-old woman in 1940.

How can we motivate more seniors to work? Shultz and Shoven's best ideas include abolishing Social Security and Medicare payroll taxes (but not income taxes) for seniors who take employment, eliminating the surtax on Social Security income for seniors who stay on the job, and pushing the eligible age for Social Security past 67 as life expectancy continues to increase. There are plenty of other suggestions throughout the book, and I think they get only one wrong: allowing employed seniors to use Medicare, instead of their employers' private health benefits, as their primary health care payer. Although this would reduce a firm's relative cost of employing a senior, the flipside is that it is relatively more expensive to hire a younger person, thereby risking increased unemployment or decreased wages for that group.

One hopes that this compelling analysis by one of the nation's leading statesmen and an equally gifted scholar will finally cause our politicians to take heed.