Privatization of Social Security: How It Works and Why It Matters

Abstract

This paper uses the Auerbach--Kotlikoff dynamic life-cycle model (AK model) to examine the macroeconomic and efficiency effects of privatizing social security. It also uses a simple privatization proposal, the Personal Security System, as a framework to discuss a number of other issues associated with privatizing social security, including transition rules and changes in the overall degree of progressivity. According to the AK model's simulations, privatizing social security can generate very major long-run increases in output and living standards. These gains come largely, but not exclusively, at the expense of existing generations. Indeed, the pure efficiency gains from privatization can be substantial. The term efficiency gains refers here to the welfare improvement available to future generations after existing generations have been fully compensated for their losses from privatization. The precise size of the efficiency gain depends on the existing tax structure, the linkage between benefits and taxe...

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