Financing entitlements and promoting work: Does policy encourage early retirement?

Reuters

Mark Findlay and his wife Delores Findlay, of Erie, Pennsylvania, read the morning newspaper inside their home at Limetree Park where they spend the winter months in Bonita Springs, Florida, March 23, 2012.

Article Highlights

  • Reduce fiscal burden of entitlement programs by encouraging longer working lives.

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  • Entitlement programs generate disincentives for older workers.

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  • Policymakers should remove barriers to work at older ages.

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Financing entitlements and promoting work: Does policy encourage early retirement?

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Introduction

Most policymakers are painfully aware that entitlement programs are becoming less solvent. The main factors contributing to this looming insolvency are rising health care costs, slower population growth, and longer life expectancies. Rising health care costs increase the cost of financing retirement. Slower population growth reduces the number of workers per retiree. And longer life expectancy—without a corresponding increase in the average number of years spent working—increases the length of retirement, pushing down the ratio of workers to retirees and increasing the cost of financing retirement per individual.

This paper focuses on the last of these three factors, the length of retirement. In 1940, soon after Social Security was introduced, men aged 65 could expect to live for an additional 12.7 years, and women aged 65 could expect to live for an additional 14.7 years. Today, remaining life expectancy at age 65 has risen to 18.9 years for men and 20.9 years for women.[1] In the meantime, Americans have been retiring earlier. According to Munnell and Sass, in 1940, more than 40 percent of men aged 65 and older were employed. By 1980, that fraction had fallen to less than 20 percent.[2] The average length of retirement has therefore greatly increased since the early days of Social Security. Although employment among older Americans at any given age has increased in recent decades, the increase has not been enough to decrease the length of retirement in the face of rising life expectancy. Cushing-Daniels and Steuerle show that labor force participation at any given remaining life expectancy, rather than age, has remained relatively constant.[3]

Policymakers concerned with the sustainability of entitlement programs frequently express interest in lengthening working lives. To achieve economic efficiency, government policy should be neutral with respect to retirement age—that is, retirement decisions should be based on productivity and preferences for leisure, rather than on taxes and government benefits. A large body of research, which we will discuss, shows that government programs, particularly Social Security and Medicare, inefficiently discourage work at older ages and lengthen retirement. Reforms that undo such distortions could reduce pressure on the federal budget by increasing tax revenue and reducing the need to pay retirement benefits.

We first examine trends in employment for workers at older ages, documenting the rise in employment that has occurred among older workers in recent decades. Despite these positive trends, entitlement programs still pose substantial disincentives to work. We then summarize the recent research about which factors influence work decisions for older workers, relating them to the observed trends in employment. Finally, we discuss policy options that could increase employment for older workers.

Notes

1. These figures come from Table V.A4 (Cohort Life Expectancy) in the 2012 Social Security trustees’ report, and they refer to individuals turning 65 on January 1, 1940, and January 1, 2013. The figures are based on the intermediate assumptions in the report. See Social Security Administration, The 2012 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Funds (Washington, DC: US Government Printing Office, 2012).
    2. Alicia H. Munnell and Steven A. Sass, “The Labor Supply of Older Americans” (Working Paper 2007-12, Boston College Center for Retirement Research, 2006).
    3. Brendan Cushing-Daniels and C. Eugene Steuerle, “Retirement and Social Security: A Time Series Approach” (Working Paper 2009-1, Boston College Center for Retirement Research, 2009).

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