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Global Aging and Fiscal Solvency

Countries that rely on pay-as-you-go public pension systems are running up against two problems: increasing life expectancy and rising old-age-dependency ratios. How can such systems be sustained without massive tax increases?

CAMBRIDGE – Government programs to support retirees are in trouble in every country, owing to increasing life expectancy and the rising ratio of retirees to taxpayers. The problem will worsen in the years ahead as the adverse demographic trend increases the fiscal burden of funding pensions and health care.

The problem is uniquely different in the United States, because America’s “trust fund” system of financing Social Security will create a crisis when the fund is exhausted. Though the options at that time will be different from the choices facing other governments, policies to avoid the US crisis are relevant to other countries that confront population aging.

Here’s how the US system works: by law, a payroll tax is dedicated exclusively to financing retiree benefits. Employers and employees each pay 6.2% of cash earnings up to an individual maximum of $128,000, an amount that increases annually with average wages. These tax funds are deposited into the Social Security Trust Fund and invested in government bonds.

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