week5 - VIII: SOCIAL INSURANCE PROGRAMS: SOCIAL SECURITY A....

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1 VIII: SOCIAL INSURANCE PROGRAMS: SOCIAL SECURITY A. What are social insurance programs? 1. Replace losses that are consequences of events that are beyond personal control. 2. Share several characteristics a. Participation is mandatory. b. Benefits depend on past contributions. c. Benefit payments begin with a clearly identifiable event (e.g., retirement, illness, unemployment). 3. Major social insurance programs. a. Social Security b. Medicare c. Unemployment insurance d. Railroad retirement. e. Black lung. f. Veteran’s disability. B. Rationale for public involvement / provision of social insurance. 1. Adverse selection. a. Private insurance charges a group of people premiums, and pays benefits only to those who need it. They make money by spreading risk – i.e., they include people not likely to receive payments in risk pool, and charge them premiums. b. If an individual knows he or she is more likely to need insurance, they will be more willing to pay premiums. Those who know they are less likely to need insurance are less likely to pay. And insurance company may not know who
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2 is who. Thus, only those who know they need the insurance select to purchase it – and the company loses money since they must pay benefits to all. c. The company raises premiums to make up losses, which drives out those customers least likely to need insurance – i. .e., they make matters worse. So the market provides too little insurance. d. Solution: mandatory participation makes pool large enough to spread risk. 2. Paternalism: people lack foresight to buy enough insurance, so government buys it for them. 3. Income distribution: benefits only partially based on past contributions; programs are used to redistribute income. C. Social Security 1. Funding history. a. System is partially funded: while originally fully-funded, it quickly went to pay-as-you-go to cover its costs. b. System expanded over time, bringing in more workers, which increased revenues, but also increased future obligations. c. System reformed in 1983 to plan for baby-boom’s retirement, moving towards a fully funded system: i Current retirees remain on pay-as-you go, with their benefits financed from current Social Security contributions. ii Future retirees’ (current workers) benefits will be paid in part by future workers and in part from a trust fund. “Crisis” is that trust fund will run out of money before baby boomers die.
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3 iii. Real issue is how to finance baby boomers’ retirement – i.e., how to increase national savings. A) One view: increase private savings (which is difficult for policy makers to affect) B) Second view: increase government savings; i.e., run a surplus (what if government spends the surplus, or what if surplus comes at expense of private savings?) 2. Distributional impact of Social Security. a.
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week5 - VIII: SOCIAL INSURANCE PROGRAMS: SOCIAL SECURITY A....

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