Job Name:2178263 Date:15-03-05 PDF Page:2178263pbc.p1.pdf Color: Cyan Magenta Yellow Black Thelmpaet 01 SoelalSeeurlty on PrivateSaving TheImpact 01 SocialSecurity on Private Saving Evidenee from theU.S.Time Series RobertJ. Barro Withareplyby Martin reldstela American Enterprise Institute for Public Policy Research Washington, D.C. Distributed to the Trade by National Book Network, 15200 NBN Way, Blue Ridge Summit, PA 17214. To order call toll free 1-800-462-6420 or 1-717-794-3800. For all other inquiries please contact the AEI Press, 1150 Seventeenth Street, N.W., Washington, D.C. 20036 or call 1-800-862-5801. Robert J. Barro is professor of economics at the University of Rochester. Martin Feldstein is professor of economics at Harvard Uni­ versity and president of the National Bureau of Economic Research. Library of Congress Cataloging in Publication Data Barro, Robert J The impact of social security on private saving. (AEI studies; 199) 1. Social security-United States. 2. Saving and investment-United States. I. Feldstein, Martin 5., joint author. II. Title. III. Series: American Enterprise Institute for Public Policy Research. HD7125.B33 332'.0415'0973 78-16945 ISBN 0-8447-3301-6 AEI studies 199 ©1978 by American Enterprise Institute for Public Policy Research, Washington, D.C. Permission to quote from or to reproduce materials in this publication is granted when due acknowledgment is made. The views expressed in the publications of the American Enterprise Institute are those of the authors and do not necessarily reflect the views of the staff, advisory panels, officers, or trustees of AEI. Printed in the United States of America CONTENTS The Impact of Social Security on Private Saving: Evidence from the u.s. Times Series Robert 1. Barro 1 Introduction 1 Theoretical Considerations 2 Empirical Study of Aggregate Consumer Expenditure in the United States 4 Reply Martin Feldstein 37 Introduction 37 The Theoretical Framework 38 The Statistical Evidence 41 Understanding Barro's Estimate 44 Conclusion 46 The Impact of Social Security on Private Saving Evidence from the U. S. Time Series Robert ]. Barra Introduction In a recent study of consumer expenditure in the United States, Martin Feldstein's major conclusion is that IIsocial security depresses personal saving by 30-50 percent."l This startling result is based on aggregate time-series analysis of data since 1929. The present study reexamines the same general body of evidence but uses some additional variables, some changes in estimation technique, and a minor extension of the sample period. The major finding of this reexamination is that Feld­ stein's conclusion is unwarranted. The time-series evidence for the United States does not support the hypothesis that social security de­ presses private saving. The first part of the paper discusses some theoretical aspects of social security and private saving in a life-cycle model. It argues that the inclusion of private, voluntary intergenerational transfers can eliminate the depression of private saving by social security that would otherwise be predicted. Instead of responding to anticipated benefit payments during retirement by reducing their saving, individuals can respond by reducing their support of aged parents or by increasing transfers to their children. The second part reports on an empirical study of aggregate con­ sumer expenditure in the United States since 1929, with stress on the role of social security. There is a detailed discussion of the other vari­ ables-current and lagged disposable income, retained earnings, the unemployment rate, the surplus of the government sector, and meas- I have benefited from comments by Peter Diamond, Martin Feldstein, Robert Hall, and Selig Lesnoy. 1 Martin Feldstein, "Social Security, Induced Retirement, and Aggregate Capital Accumulation," Journal of Political Economy, vol. 82 (September-October 1974), p.90S. 1 ures of household net worth and durable goods stocks-that are in­ cluded as determinants of consumer spending. Social security effects are measured by two alternative variables-first, the gross social se­ curity wealth variable constructed by Feldstein and, second, a variable based solely on current benefit rates and current worker coverage under social security. The latter measure omits some relevant features of the social security program, but it does allow for the changes in benefit rates that were excluded from the former measure. A major conclusion is that neither social security variable has a significant positive influence on consumer expenditure (that is, neither has a sig­ nificant negative effect on personal saving). Even if the usual criteria for statistical significance are relaxed, the results provide no support for the hypothesis that social security depresses private saving. Theoretical Considerations By including social security, Feldstein2 has extended the life cycle/ permanent income theory of Modigliani and Brumberg and Friedman in an important way.3 In a model that excludes private, voluntary inter­ generational transfers, Feldstein concludes that the institution of a pay-as-you-go social security scheme would depress private saving and hence the rate of private capital formation, at least if induced retirement effects are neglected. With the expectation of receiving social security payments (financed by taxes on subsequent genera­ tions) during retirement, individuals have a reduced incentive to save during working years to provide for retirement consumption. Social security amounts to a governmentally imposed system of intergenerational transfers. In this respect, the program is analogous to public debt issue, as pointed out by me and by Miller and Upton.4 Since both programs involve transfers of claims across generations, it is not surprising that they have dramatic effects on private saving in theoretical models where private, voluntary transfers have been ruled out. In fact, the private economy is characterized by a variety of volun- 2 Feldstein, "Social Security, Induced Retirement, and Aggregate Capital Accumu­ lation," section 2. 3 Franco Modigliani and Richard Brumberg, "Utility Analysis and the Consump­ tion Function: An Interpretation of Cross-Section Data," in Post Keynesian Eco­ nomics, Kenneth K. Kurihara, ed. (New Brunswick, N.].: Rutgers University Press, 1954), pp. 388-436; and Milton Friedman, A Theory of the Consumption Function (Princeton, N.J.: Princeton University Press, 1957), chaps. 2, 3. 4 Robert J. Barro, "Are Government Bonds Net Wealth?" Journal of Political Economy, vol. 82 (November-December 1974), pp. 1095-1117; and Merton H. Miller and Charles W. Upton, Macroeconomics: A Neoclassical Introduction (Homewood, Ill.: Irwin, 1974), chap. 8. 2 tary intergenerational transfers. The private analogue to social security is the use of children's earnings to finance retirement consumption­ through transfers in cash or in kind from children to parents. Trans­ fers also occur in the opposite direction as bequests, parental expendi­ ture on children's education, and so on. To the extent that the introduction of social security results in offsetting adjustments in private transfers-reduced transfers from children to parents or in­ creased bequests-the effects on private saving would be diminished. One indirect empirical observation of this kind of effect, pointed out by Munnell, is the apparently strong influence of social security in reducing the fraction of retired people who live with, and presumably receive support from, their children.5 Unfortunately, the available data on intrafamily transfers are not satisfactory for obtaining a direct test of the private-offset hypothesis. Given the types of nonmarket, partly nonpecuniary transactions in­ volved, it seems that the data gap is a fundamental one that could not be bridged by more thorough surveying of individuals or by other data-gathering procedures. From the standpoint of private saving, the important issue is the extent to which a changing pattern of private intergenerational transfers operates to undo the effects of a publicly imposed transfer scheme. The present empirical analysis provides some evidence on that issue by estimating the net response of private saving to social security; however, it does not isolate the detailed pattern of private response to the social security program-especially the effect on private intergenerational transfers. In an earlier theoretical paper, I discussed the conditions under which the adjustment of private transfers would fully offset the gov­ ernmentally imposed transfers implied by social security or public debt issue.6 In a deterministic setting where families are identical in size, tastes, endowments, social security coverage, and tax liabilities and where changes in retirement age or hours of work are not con­ sidered, there is a full offset if current generations are connected to future generations by a string of private intergenerational transfers.7 5 Alicia H. Munnell, The Effect of Social Security on Personal Saving (Cambridge, Mass.: Ballinger Publishing Co., 1974), chap. 2. 6 Barro, "Are Government Bonds Net Wealth?" 7 I am neglecting the inefficiency ("free lunch") case in which capital is accumu­ lated above the Golden Rule level, with the real interest rate determined below the growth rate of the economy. See Robert J. Barro, "Reply to Feldstein and Buchanan," Journal of Political Economy, vol. 84 (April 1976), pp. 343-45; and Martin Feldstein, "Perceived Wealth in Bonds and Social Security: A Comment," Journal of Political Economy, vol. 84 (April 1976), pp. 331-36. I demonstrated in my reply to Feldstein that the conclusions about the private offset to social se­ curity are not affected by the existence of economic growth at a rate below the real rate of return. 3 The full offset occurs independently of the size or direction of the private transfers, the crucial condition being the absence of a corner solution where neither bequests from old to young nor gifts from young to old occur. As long as the corner solution is ruled out, there would be no net negative effect of social security on private saving. The implications of cross-sectional diversity in incomes and other characteristics have not yet been examined.