Despite its potential long-run problems, Social Security is any important retirement program for many people. And it has been successful in keeping millions of elderly people out of poverty. But many people think of Social Security as almost a bank account. You put your money in while working, earn some interest and then withdraw the funds when you are retired. Is that the way Social Security operates?
Dr. Mike Walden, North Carolina Cooperative Extension economist in the College of Agriculture and Life Sciences at N.C. State University, responds:
“No. … because there is considerable movement between the bank accounts of different people. Specifically, there is money that richer households have put into Social Security, in their so called bank account, that is taken out of that account and given to lower-income households. And what determines this is a formula that Social Security uses — and let me just give you a little inkling into that formula.
“First, what Social Security does is they will calculate for every person something called average monthly earnings — what you earned on average over your work career. They adjust that for inflation. And then, for example, if you were retiring this year, 2010, you would get 90 percent in terms of your Social Security payment — 90 percent of your average monthly earnings up to $761. Then you would get 32 percent of your average monthly earnings between $761 and $4,586. And then 15 percent of everything over $4,586.
“So you can see in this formula how the lower your average monthly earnings were, the higher the percentage of those earnings you get back in Social Security. The higher your average monthly earnings, the lower the percentage.
“So in this way Social Security does redistribute funds from higher income to lower-income households.”