How to Fix America's Broken Entitlements System

It's time to explore all options for entitlement reform.

For decades the political arithmetic of entitlement reform in Washington has run something like this: you can either raise taxes, or you can cut benefits.

President Obama has tinkered some around the edges. As part of Obamacare, he reallocated some planned Medicare spending and also increased the Medicare tax on the minority of Americans who earn more than $200,000 a year (or $250,000 for joint filers).

But notwithstanding Obama's re-election, the Scylla of tax increases and the Charybdis of benefit cuts are two monsters that most politicians, and, for that matter, voters, would much prefer to avoid, and understandably so.

The bill, however, is not so easily dodged. The Baby Boomers are going ahead and retiring, and aging, without doing much checking with Washington about whether the Medicare and Social Security benefits they have been promised are going to be sustainable on a long-term basis.

That has created an opening in the ideas market for policy entrepreneurs with concepts of how to solve the entitlement problem by doing something other than raising taxes or cutting benefits.

At least two such ideas are worth a look. Jonathan Last, a senior writer at the Weekly Standard, is the author of What to Expect When No One's Expecting. The book is coming out later this month, but it's already attracting attention; it was excerpted in The Wall Street Journal over the weekend and is the subject of Michael Barone's column this week. Last observes that there is a third possible solution to the entitlement problem: you can increase the number of workers, either through immigration or through somehow creating conditions in which the Americans already here want to have more children.

Because the workers support the retirees through payroll taxes, more workers could put the system on a sounder financial basis without requiring either tax increases or benefit cuts. For conservatives, the thought of having another child to help support New Deal or Great Society-era entitlement programs may seem grim—what's next, that the government ask that these additional children be named Franklin or Lyndon? And the chance that an increased population would put Medicare and Social Security on firmer ground doesn't have liberals rushing to reverse Roe v. Wade or even the free-contraceptives-on-demand provision of Obamacare, either.

Perhaps immigration reform, where some bipartisan consensus is afoot in favor of a new law, is more likely, though if prospective immigrants realize that we're offering to let them in so long as they agree to assume a share of the multi-trillion-dollar future entitlement obligations, it may prove to be a border control measure more effective than any proposed fence.

If population expansion is not a sure solution, neither is the solution offered by a second policy entrepreneur, the Nobel laureate economist Edward Prescott. With a co-author, Ellen McGrattan, of the Federal Reserve Bank of Minneapolis, Professor Prescott is out with a new working paper from the National Bureau of Economic Research, "On Financing Retirement With an Aging Population," modeling what would happen if the payroll tax and the tax rates on capital gains were both reduced to zero. They write, "The no-capital-income-tax policy results in a large increase in the value of private business equity …The increase in the market value of equity permits the financing of retirement consumption through savings, and there is no need to tax workers' labor income to finance lump-sum transfers to retirees."

Their idea, in other words, is to solve the entitlement problem not by increasing taxes, but by cutting them.

The paper sounded familiar, and it sent me to a 2005 New York Sun editorial, "The Prescott Plan," which was written after I attended a lunch talk sponsored by the Manhattan Institute at which Professor Prescott spoke on "Tax Policy and the Future of Social Security Reform."

Eight years later, the country is still looking for solutions to the same problems that President George W. Bush, with both his immigration and his Social Security reform plans, tried unsuccessfully to tackle in his second term.

If we're to avoid having the same discussion eight years from today—that would be in 2021—with the same low chances of success, it will be because someone manages to move the entitlement reform issue outside the frame of raising taxes or cutting benefits and onto the more promising topic of growth. As remote as the ideas of both Last and Professor Prescott may seem from the mainstream nuts and bolts of entitlement reform in Washington, in their own ways they each move us closer to a solution.