MACROECONOMIC MYTHS
We begin with myths in the macroeconomic arena, for these are perhaps the most vigorously propagated and also the ones in which a broad array of economists agree that popular slogans are misleading.
Myth #1: Private defined contribution plans raise national saving
It is common to assert that moving toward a system of "prefunded" individual accounts would raise national saving. To analyze the validity of this claim, we must introduce another distinction in addition to the ones delineated in the Introduction: "Prefunding" can be used in a narrow or broad sense. In its narrow sense, prefunding means that the pension system is accumulating assets against future projected payments.
In a broader sense, however, prefunding means increasing national saving. Prefunding in the narrow sense need not imply prefunding in the broader sense. For example, consider a system of individual accounts that is prefunded in the narrow sense. If individuals offset any contributions to the individual accounts through reduced saving in other forms, then total private saving is unaffected by the accounts. In other words, in the absence of the individual account system, individuals would have saved an equivalent amount in some other form. If public saving is also unaffected, then national saving is not changed by the narrowly prefunded set of individual accounts -- and so no prefunding in the broad sense occurs. Similarly, consider a "partially prefunded" public system with a trust fund. If the presence of that trust fund causes offsetting reductions in non-pension taxes and/or increases in non-pension benefits, and if private behavior is unaffected by the public pension system, then the public system would not affect public saving or national saving, and thus would not be prefunded in a broad sense (even though it is prefunded in the narrow sense). In summary, narrow prefunding can be a misleading guide to broad prefunding. Furthermore, narrow prefunding has no macroeconomic implications; only broad prefunding offers the potential for macroeconomic benefits.
Privatization and broad prefunding are distinct concepts, and privatization is neither necessary nor sufficient for broad prefunding. To see why, consider a pay-as-you-go system in which each individual's benefits are directly tied to contributions. Each individual has an account with the social security administrator, showing contributions at each date. These contributions are then translated into benefits using actuarial tables. Now assume the government decides to prefund these accounts in the narrow sense, transferring to each the full value of the cumulative contributions. The social security system thus becomes completely prefunded in the narrow sense. But to finance the contributions, the government borrows from the public. National saving is therefore constant: all that has happened is that the government has altered the form of the debt.
Such a switch should not have any real effects on the macro economy. To be sure, the implicit debt under the old system has become explicit. But in and of itself, that has no economic ramifications. A debt-financed privatization does not involve any macroeconomic consequences -- it does not engender broad prefunding -- assuming the new explicit debt follows the same time path as the old implicit debt. The key is what is happening to the sum of implicit and explicit debt; transforming one into the other does not effect broad refunding. Conversely, broad prefunding can be accomplished without privatization. In particular, the government can accumulate assets in anticipation of future benefit payments due under the public defined benefit plan. Such prefunding does not have to take the form of private market investments, about which many analysts have expressed political economy concerns (e.g., that the government would interfere unduly in private asset markets). Interestingly, those who argue that a public system cannot prefund have often pointed to the United States as their example of a country that has failed to do so. And yet over the past year, despite the lack of agreement on almost everything else, policy-makers in the United States have largely agreed to protect Social Security surpluses from the demands of the rest of the budget -- in other words, to ensure broad prefunding. Similarly, Bateman and Piggott (1997) argue that Malaysia's Employees Provident Fund has contributed significantly to national saving -- accounting for between 20 and 25 percent of national saving in the 1980s.
Note that this myth highlights the tabula rasa point above. A large academic literature exists on whether the introduction of a pay-as-you-go social security system reduces national saving. But that is a fundamentally different issue from whether shifting an existing pay-as-you-go system to one of individual accounts would raise national saving.