Social Security as Viewed through Micro-data

Part 1: Missing Viewpoints

Consulting Fellow, RIETI

Amid the rapid speed of population aging and the drastically worsening financial situation, the debates over the reform of the social security system are becoming increasingly intensified. However, there seems to be an impasse in these discussions.

Up to now, the future cost of social security has been calculated based on the Population Estimates, which is considered to be a relatively reliable source for population figures. Specifically, the cost of social security at a certain point of time in the future is obtained by multiplying the per capita expenses of pension, medical, and long-term care—which are the main components of the cost of social security—with the population in the corresponding age group. The expected shortage is then estimated by comparing this figure to the corresponding fiscal balance forecast. That is to say, the discussion has been focused on how to secure financial resources. Typically, the estimated range of increase in the consumption tax rate required to make up for the shortage is presented as a basis for discussion. A solid financial base is obviously essential to maintain the social security system. However, focusing solely on the financial aspect will not lead to an effective reform plan.

In the past discussion, some critical viewpoints have been missing. One of them is the diversity of individuals. When we discuss financial resources on the macroeconomic level, we implicitly assume the case of a "typical elderly person" as the basis of our discussion for the sake of simplicity. However, this is an unrealistic assumption. In reality, elderly people are not uniform; they differ in the ways of interacting with their families and local communities, and there are significant disparities across individuals in their financial and health conditions. Things are not so simple as to allow them to be discussed by assuming a uniform picture of the elderly people.

The past discussion has also failed to pay sufficient attention to the incentives of individuals, a factor that is important in economics. For example, if the copayment of medical expenses increases, the demand for medical and care services will generally decrease. However, the degree of this decline differs depending on the type of person and the facility used. Moreover, empirical studies from various countries have shown that a decrease in the amount of pension tends to increase the labor participation of the elderly. The aforementioned per capita cost of social security in the future assumed in the discussion on financial resources has been derived by mechanically applying a certain percentage of change to the current cost and thus is not supported by empirical findings obtained by taking the incentive structure into account.

It is often the case that a policy change in one sector has fallout effects on other sectors through incentives. However, the discussion on the social security system reform has been taking place on a sector-by-sector basis, failing to bring the entire picture into view. So long as we continue to take this approach, we will never be able to come up with ideas for an incentive-driven system, such as one in which people try to continue to work longer, stay in good health, and minimize the use of medical and long-term care services in order to pay less in social security premiums. Another problem with the ongoing discussion revolving around financial resources is its stationary assumption that the basic structures, which are in place today, will remain unchanged in the future. As exemplified by people's earned income and health conditions, there are remarkable differences across time and generations.

In order to incorporate explicitly the diversity of individuals and incentive mechanisms into analysis, it is necessary to take a micro-data approach in discussing and reforming the social security system.

>> Original text in Japanese

* Translated by RIETI from the original Japanese "Yasashii Keizaigaku" column in the September 9, 2011 issue of Nihon Keizai Shimbun.

September 9, 2011