Increased Burden on Elderly Necessary for Success of Unification Reform of Taxes and Social Security

Risaburo Nezu, Senior Executive Fellow

August 30, 2011 (Tuesday)

In the autumn of 2010, Prime Minister Kan flew his two administrative banners, Tax and Social Security Unification Reform and the TPP, and promised a reform proposal by June, 2011. In order to do this, he made a daring and surprising personnel choice when he appointed Kaoru Yosano, who had strongly criticized the JDP’s economic policy, and showed his strong desire to bring about this proposal by gathering minds from across party lines. When the Great Tohoku Earthquake hit on March 11, it seemed as though discussions had stopped, but intensive debates were reopened at the end of April and the framework was released as planned at the end of June. My opinions concerning the vital points of the issue are as follows.

1. Social Security in Fact Supported by Taxes

Taxes and Social Security are by nature separate things. Taxes are when the country forcibly takes part of citizens’ incomes and uses the funds to build infrastructure and provide public services. But, looked at from the individual’s point of view, the amount paid and the benefit received do not necessarily correspond. In contrast, Social Security is when citizens pool designated funds which are then distributed as cash to people who fulfill certain criteria, e.g. elderly people or sick people. In other words, social security is a reallocation of income and the government does not itself use the funds. Social security is a type of insurance, so the amount of money someone receives is not always the same as the amount he invested. Someone who lives a long life may receive more than the amount he paid, but someone who dies young will receive almost none of what he originally put in. Nevertheless, one must not think that unless he recovers all the money he paid then he has lost something. In Japan’s case, many people think that “whatever I pay should be returned to me”; this is because there was a time in the past when pensions were called “reserve funds”. In other words, the country used a “reserve system,” which is a system in which the money each person puts in is eventually returned to him. However, that is not how things are in Japan now. The funds generated from the insurance payments of working people are immediately used to pay out the elderly of today. The problem with this so-called “pay-as-you-go” plan is that there is no link between the amount one pays in the present and the amount one will receive in the future, and many want to return to the “reserve system.” However, such a system would be no different than saving money in a bank, and the risk hedging and reallocation functions of insurance would not be fully utilized. Which system is better is an eternal theological debate.

Regardless of whether it is a reserve system or a pay-as-you-go system, the reason that taxes and social security, which have different aims and systems by nature, must be linked is that the number of working people—who pay insurance premiums—is decreasing and the number of elderly—who receive pensions and medical insurance—is increasing. Already, insurance premiums are not enough to cover the growing pension payments and medical costs, and only by expenditures from the national coffers is the slack being picked up. Japan’s social security was on the order of ¥100 trillion in 2010; however, insurance premiums collected yielded only ¥59 trillion, and the remaining ¥40 trillion was supplemented using tax revenues. In the future, the working generation will grow smaller and collected insurance premiums will continue to decrease while insurance payouts increase, which means that the burden borne by taxes will necessarily increase at an alarming rate. Japan’s debt, which is already the greatest in the world, will continue to grow, but it must be stopped somehow. How, you ask? Either by increasing tax revenues or by reducing social security payout amounts, or a combination of the two. It is therefore necessary to open both taxes and social security for discussion. The main current of debate runs toward raising sales tax and applying the resulting revenue as funding for social security. This argument is convincing because Japan’s sales tax is much lower than that of most other countries, and this method would have the secondary effect of bringing Japan one step closer to international tax standards.

2. Income Limit on Elderly Social Welfare

If we were to deal with increasing social security costs by raising sales tax alone, tax rates would increase without end due to the continuously aging society. In order to avoid this state of affairs, payout amounts must be reduced in parallel. As things stand, elderly people currently over 70 years old will receive 8.3 times what they paid in premiums while young people currently under 20 will receive no more than 2.3 times. This gap between generations is clearly unfair. In order to reduce the burden on future generations, we must reduce the payout amounts currently received by the elderly; this is the true meaning of social security reform. 80% of Japan’s social security expenditure is targeted at the elderly while expenditures targeted at the working generation, such as childcare, education, unemployment insurance, make up only 20%. Compared to other developed countries, this is grossly unbalanced in the favor of the elderly.

For this reason, unification reform of taxes and social security must be a very difficult topic for the elderly. Slogans like “A reform the elderly can take comfort in” can’t be taken to the bank. Some of the possible difficult topics are: cuts to pension payouts; raising the starting age for receiving pensions; and raising the amount a patient himself must pay. People will no doubt complain. However, if we look at household budget savings by age, the households with the most savings are those in which the head of the household is over 70 (Figure 2). This should be the generation which is dipping into its savings, but in fact they receive ¥400,000-500,000 per month in pensions and interest/dividend income, and their savings continue to balloon. The working generation is made to work long hours and still they earn less than their parents. No matter how you slice it, this is ridiculous. Once people pass 70-80 years of age, ¥300,000 per month for a couple is plenty. We must grasp the overall income of the retired generation and either levy a cumulative tax relative to income or set an income limit on pension, nursing care, and medical care insurance payouts.

3. A Society Where the Elderly Work, Too

Currently, many developed countries are moving toward raising the age at which pensions can be received. Japan, which has the highest average life expectancy, could even raise it as high as 70, and redistribute the freed-up funds to the generation raising children. Of course, employment opportunities will have to be provided to the elderly, but they should not become burdens by staying too long in private companies which are involved in fierce international competition. They should cede their places to younger people with plenty of spirit and energy. Why not have the elderly work at care facilities for wages that can cover their everyday needs. If they work at a facility at which they will one day receive care as a form of quasi-social contribution, they will be able to lead meaningful lives. If we set the condition that only those who have worked at a public care facility for approximately two years would be qualified to enter, the elderly would gain a better understanding of old age and there would never be a shortage of help.

Japanese people’s spirit of helping each other was realized after the Great Tohoku Earthquake and applauded by the world. That spirit will be necessary for the unification reform of taxes and social security, too.