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Estimating the Real Rate of Return on Stocks Over the Long Term

August 8, 2001

Summary: This document includes papers by three distinguished economists that examine the key assumptions of proposals that would change the current Social Security system to include some form of investment of funds in private equities: the rate of return that can be expected on such investments. There is a question as to whether the historical rate for the last century should be used to make long-term projections over the coming decades or whether an alternative rate or range of rates is more appropriate. The included papers examine this important question, including the issue of how to reflect the higher risk inherent in stock investment relative to investment in U.S. Treasury securities. The papers are by John Campbell, Otto Eckstein Professor of Applied Economics at Harvard University; Peter Diamond, Institute Professor at the Massachusetts Institute of Technology; and John Shoven, Charles Schwab Professor of Economics at Stanford University. The Board is publishing them in order to make them available to policy makers and members of the public who are interested in the issue of how to ensure the long-term solvency of the Social Security system.

The papers (which have been updated for purposes of this document) were the basis for a discussion sponsored by the Social Security Advisory Board on May 31, 2001. The purpose of the discussion was to enable individuals from OCACT who have the responsibility of estimating the effects of changes in the Social Security system to hear a range of views on the likely real yields on equities over the long term. Participants in the discussion from OCACT included Stephen Goss, Chief Actuary; Alice Wade, Deputy Chief Actuary; Patrick Skirvin, Lead Economist; and Anthony Cheng, Economist. Participants also included three other distinguished economists who were on the 1999 Technical Panel on Assumptions and Methods: Eugene Steuerle, Senior Fellow, The Urban Institute; Deborah Lucas, Professor of Finance, Northwestern University and currently Chief Economist, Congressional Budget Office; and Andrew Samwick, Assistant Professor of Economics, Dartmouth College.




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