Options for Administering Individual Accounts in Social Security

Individual accounts have become a popular feature in Social Security reform proposals during the past several years. However, the precise meaning of "individual accounts" is unclear, as approaches vary greatly in their financing, management, and structure. Proposals differ in large part because some objectives conflict with others. Two such conflicts are of particular importance: the implications of a centralized administration and the implications of allowing workers to make relatively unconstrained investment choices. Designing a system of mandatory individual Social Security accounts involves balancing these conflicting objectives. This brief details how the Latin American, United Kingdom, Swedish and federal Thrift Savings Plan models balance these objectives. A decentralized approach like that followed in the United Kingdom can offer workers a wide range of investment choices and create an effective barrier to political interference in fund management, but it is likely to mean higher administrative costs. The Latin American model is almost as expensive and offers workers fewer investment choices, but it also minimizes the risk of low benefits as a result of poor investment choices by workers. The relatively new Swedish model aims to produce worker choice almost as great as that in the United Kingdom but with lower administrative costs and more consumer protection. This requires giving the government a greater administrative role than in the U.K. or Latin American models. Administrative costs can be lowered with more centralized management of the process, most notably through the Thrift Savings Plan model. These lower costs are possible, however, in part because fewer investor services and investment options are offered, and they include a somewhat greater risk of political interference in investment management decisions. No model is superior on all criteria. If individual accounts are to be incorporated into the U.S. Social Security system, a consensus will have to be developed about the proper balance among these various objectives