Interesting article on Social Security

[West]

Efficient Frontier

William J. Bernstein

God Bless This Ponzi Scheme

For the past 30 years, the quintessential third-rail issue in American politics has been Social Security. And for most of that period, the Democrats have wielded it against the opposition with the same speed and devastation as a Mike Tyson right hook. But with the public’s increasing financial sophistication, the New Right has finally developed an effective counterpunch: Social Security is a lousy investment.

In the beginning, with the worker/retiree ratio in excess of 10, the average annualized real rate of return for the earliest participants was a robust 5%-6%. But with worsening demographics, returns fell. For future retirees, things will be even worse—real return rates steadily decline towards zero for most workers born after 1970. Moreover, certain family configurations are treated better than others. Married folks do better than singles. Men do worse than women because of their shortened life expectancy, and, for the same reason, black males do worst of all. Since benefits are not proportional to contributions, low-income participants do better than high-income ones; the real return for the latter group is now negative. A monograph from the American Heritage Institute plots the fall in real returns to later participants:

Writing in the Op-Ed section of the Wall Street Journal, former Fed governor Lawrence Lindsey pouted that he will not earn quite the return on Social Security as on his other retirement accounts:

Doing the math, I found that I would get all my money back three months short of my 83rd birthday. God willing, I will live well past this date, but the actuarial tables predict that I will fall about five years short. In other words, the expected real return on my Social Security contributions is negative. To add insult to injury, I will have paid taxes both on my contributions to the system and on 85% of the benefits I take out of the system. This makes the real after-tax return I can expect even more negative.

The problem with this sort of analysis is that not in anybody’s wildest imagination can Social Security be considered an investment operation. It is pass-through wealth redistribution, pure and simple. Today’s retirees are not paid from their past contributions; their checks instead come from currently-employed younger workers. The "Social Security Trust Fund" is merely a slip of paper denoting the part of the federal deficit owed by the Treasury to the Social Security Administration. It is no more an investment pool than the yellowing IOU from your cousin Bennie that resides in your desk drawer. The system is elegantly summed up by Jagadeesh Gokhale and Kevin Lansing of the Cleveland Fed:

Consider the following investment scenario. You turn over 10 percent of your salary each year to an investment manager who pools your contributions with those of others to form something that looks like a mutual fund. The manager assembles a portfolio that ends up earning a meager rate of return—less than 1 percent after adjusting for inflation.

Next, you learn that before you ever joined the fund, the manager made some unwise promises to the early investors. In particular, he guaranteed that they would receive very high rates of return—far exceeding the fund’s ability to pay, given its less-than-spectacular investment performance. Moreover, he handed out all sorts of cash bonuses along the way to keep the early investors happy. To maintain investor confidence, the manager used incoming cash from the new investors to make direct payments to the early investors.

This precarious setup actually worked for awhile. Now, however, like all pyramid schemes, the fund is on the brink of collapse because the supply of new investors has begun to dry up. Indeed, the manager informs you that you will have to increase your annual contribution to keep the fund solvent, and that you should reduce your expectations about future payoffs from this investment.

Personally, I find nothing inherently wrong with this. Long, long ago, around the turn of the last century, we lived in a world of unfettered Ayn-Randian capitalism, with minimal government interference in daily life and commerce. And no income tax¾ a gauzy sort of New-Right Valhalla. The only problem was that the reaction to this system's excesses and inequities led to a backlash that inflicted communism and fascism on most of the planet. The US escaped these modern plagues, but just barely. This was largely because our political leadership had the courage and foresight to modestly redistribute income and wealth via antitrust legislation, a progressive income tax, and finally, Social Security. Of course, social and political peace also require a functioning market economy—Bismark’s prototypical welfare system did not save German society from the depredations of the Versailles Treaty, and the social benefits of the communist state did not overcome its crippling economic and political disadvantages.

Social Security has not been a lousy investment; it never was an "investment" in the first place. It makes no sense to talk about the "rate of return" of a pass-through wealth redistribution scheme. But it also just may have saved the republic. (The ultimate irony of the interwar near-Götterdamerung of capitalism is that by severely depressing stock prices it set the stage for the spectacular returns now being drooled over by privatization enthusiasts.) When I become unhappy with the paltry reward I'm going to get from my FICA deductions, I think of my neighbor who lives down the road in a trailer park—call him Fred Smith. Fred's 75, has had a stroke, and worked all his life in a lumber mill, finding himself without a pension plan after a reorganization left him high and dry. Undoubtedly Fred has made a higher rate of return on his Social Security deductions than I'm going to make on mine. But unlike poor Mr. Lindsey, this doesn't bother me one bit. I'm as unhappy as everyone else with the huge crater made by the layers of deductions in my monthly paycheck. But the New Right just doesn't get it; that hole in our take-home is largely responsible for a prolonged period of social peace and prosperity nearly unique in world history.

The fact still remains that in two or three decades the system will be exhausted. The solution, say the critics, is simple: allow workers to opt out and invest in their own retirement accounts. After all, stocks have an annualized real return of 8%, right? Give Jim Glassman (Dow 36,000) a few minutes with a spreadsheet and he’ll show you how diverting just 2% of the FICA contribution into stocks will fund the plan. In short, in the words of the late John Raskob, "everybody ought to be rich." What's wrong with this picture? Plenty.

For starters, everybody cannot get rich investing in stocks at the same time. Consider the past 75 years in the capital markets. Yes, stocks have produced an 8% real return, but the real return of bonds has been only 2%. If you subsume the nation’s entire capital structure of stocks, bonds, real estate, and bank loans as a whole, its overall real return was probably closer to 5%-6%. The key point here is that a nation’s aggregate investment return is independent of its capital structure. In other words, if current stock valuations hold it is entirely possible that we may be sitting on the cusp of a new investment paradigm—one in which stock and bond returns are approximately equal. In addition, the flood of Social Security money into retirement and pension plans at the present demographic front end of the investment baby boom and the flood out at its back end in 20-30 years will further reduce the returns of both stocks and bonds. (For a fuller discussion of why everybody can't get rich with stocks at the same time, see The Heisenberg Equity Principle in the current issue of EF.)

Further, expecting the average worker to competently manage their own investments is akin to asking him or her to fly their own airliner. This is not an unfair analogy. Surveys show that a majority of people do not have a clear idea of the difference between stocks and bonds and have no grasp of their expected returns and risks. Even more importantly, there is no convincing evidence that the average investor has the knowledge and discipline to stay the course in tough times; as has happened so often in the past, they will most likely chase performance, buy high, and sell low. There are no high-quality data on the return of individual retirement accounts, but it is safe to assume that because of fund fees and frictional costs it will be at least 2% less than the aggregate national capital return—i.e., in the 3%-4% real range going forward.

A fast spreadsheet run shows that a worker earning a constant real salary from age 20 to 65 with a 10% savings rate requires a 4.03% real return to sustain a 20-year retirement at the same salary level. And even this is a wildly optimistic model, as most younger workers have relatively low incomes with zero savings. Start at age 30 and the required rate real of return is 5.74%, and if you delay retirement saving until age 40 you'll need an 8.86% real return. So, Houston, we have a problem¾ it is a mathematical certainty that privatizing even 5% of FICA deductions would prove woefully inadequate for most workers. At some point a government-sponsored privatized retirement plan would become The Mother of All Moral Hazards. Remember that there have been periods as long as 18 years with zero real stock returns. It is quite likely that this might occur between 2010 to 2030, as millions of boomers sell their securities. (And, as the old stockbroker’s joke goes, to whom?) It is hard to imagine the government not stepping in to rescue the armies of seniors with prematurely dry pension accounts.

Last, and not least, in a privatized system Fred Smith is not as likely to earn anywhere near the returns of the erstwhile Mr. Lindsey. While tolerable in a private retirement setting, a large disparity of returns in a government-sponsored system is politically and morally untenable.

Social Security privatization is not just fiscally risky, as suggested by Mr. Gore, but also socially and politically dangerous. Any national pension scheme must be executed in a uniform manner, if at all. Is such a system possible?

One tempting option would be to establish a government retirement fund. I imagine that Vanguard’s Gus Sauter could run the whole operation with a few dozen assistants for a fraction of a basis point. For starters, it would have to be established as a quasi-independent entity, a la the Fed, with its board serving long terms. Because of its prestige, it should have little problem attracting the cream of money managers, in spite of the modest salaries the agency would offer.

However, the possibilities for mischief at multiple levels are daunting. You don’t need a doctorate in political science to envision such an investment pool as the Mount Everest of pork; simply selecting the universe of eligible securities might prove to be a politically insurmountable task. And once you’re past that hurdle there would remain corporate governance issues to turn Fidel Castro's hair gray.

At the end of the day, it is wisest to conclude that in this arena the job of the federal government should be limited to maintaining social and political peace. It needs to be admitted, once and for all, that Social Security is simply a safety net, whose benefits will accrue most heavily to least fortunate. It is not now, and has never been, a retirement fund. (A modest suggestion. President Clinton should play to his strengths; appear on Oprah, tearfully confess that Social Security was in reality a vast Ponzi scheme, apologize for its sins, and beg the nation’s forgiveness.) Lastly, it should be accepted that the government should not be in the business of running or sanctioning retirement plans.

This is not to say that the government shouldn’t encourage private retirement saving as strongly as possible via legislation and education. It should dramatically expand pension portability and tax-deferred saving beyond the pitiful thicket of IRAs, 401(k)s, 403(b)s, and Keoghs we currently have. In an era when the 15th percentile of surviving spouse life expectancy is well north of age 90, it is monumentally stupid to mandate depletion of most retirement accounts by age 80.

But enmeshing Uncle Sam in the direct payroll funding of retirement is political and social napalm. Because of the coming demographic tidal wave, the safety net is badly frayed and unless reformed, it will break sometime in the next century. The FICA rate is already red-lined, so some combination of means testing and benefits reduction is inevitable. Let's do the job and move on.

[adios]

A few extracted quotes from the article:

[ QUOTE ]
Today’s retirees are not paid from their past contributions; their checks instead come from currently-employed younger workers. The "Social Security Trust Fund" is merely a slip of paper denoting the part of the federal deficit owed by the Treasury to the Social Security Administration. It is no more an investment pool than the yellowing IOU from your cousin Bennie that resides in your desk drawer.

[/ QUOTE ]



Yep that's basically S.S. in a nutshell.

[ QUOTE ]
Social Security has not been a lousy investment; it never was an "investment" in the first place. It makes no sense to talk about the "rate of return" of a pass-through wealth redistribution scheme.

[/ QUOTE ]

Yep that's what S.S. is.

[ QUOTE ]
But it also just may have saved the republic. (The ultimate irony of the interwar near-Götterdamerung of capitalism is that by severely depressing stock prices it set the stage for the spectacular returns now being drooled over by privatization enthusiasts.)

[/ QUOTE ]

I'm referring to his statement about severely depressing stock prices. He seems to have pulled this out of his butt somehow. Not saying he's wrong necessarily but I see no proof of this.



[ QUOTE ]
When I become unhappy with the paltry reward I'm going to get from my FICA deductions, I think of my neighbor who lives down the road in a trailer park—call him Fred Smith. Fred's 75, has had a stroke, and worked all his life in a lumber mill, finding himself without a pension plan after a reorganization left him high and dry. Undoubtedly Fred has made a higher rate of return on his Social Security deductions than I'm going to make on mine. But unlike poor Mr. Lindsey, this doesn't bother me one bit. I'm as unhappy as everyone else with the huge crater made by the layers of deductions in my monthly paycheck. But the New Right just doesn't get it; that hole in our take-home is largely responsible for a prolonged period of social peace and prosperity nearly unique in world history.

[/ QUOTE ]

I don't see how this refutes the argument that if money that Fred and his employers contributed to S.S. would have been put into some sort of private savings Fred would not be better off today. We'll discuss how the money would be invested later in the article. Your S.S. benefits depend on how much you put into it and there are strings attached to collecting those benefits besides age requirements.

[ QUOTE ]
The fact still remains that in two or three decades the system will be exhausted.

[/ QUOTE ]

And why is that a great system we want to keep intact?

[ QUOTE ]
The solution, say the critics, is simple: allow workers to opt out and invest in their own retirement accounts. After all, stocks have an annualized real return of 8%, right? Give Jim Glassman (Dow 36,000) a few minutes with a spreadsheet and he’ll show you how diverting just 2% of the FICA contribution into stocks will fund the plan. In short, in the words of the late John Raskob, "everybody ought to be rich." What's wrong with this picture? Plenty.

[/ QUOTE ]

Let's leave stocks alone for a minute. What about long term U.S. government bonds? The author said it himself:

The "Social Security Trust Fund" is merely a slip of paper denoting the part of the federal deficit owed by the Treasury to the Social Security Administration.

Why not lend this money to the government directly? Pool the money and have an interest in the bonds distributed in proportion to the individual contributions made and the interested collected on the bonds. Why does there need to be a big bureaucracy created to do this very basic thing?

[ QUOTE ]
For starters, everybody cannot get rich investing in stocks at the same time.

[/ QUOTE ]

What do we call rich? Anyway the author seems to be implying that long run returns on the stock market as a whole is zero sum and I don't think that's the case nor is that the prevailing thought in the markets or academia.



[ QUOTE ]
Consider the past 75 years in the capital markets. Yes, stocks have produced an 8% real return, but the real return of bonds has been only 2%.

[/ QUOTE ]

When the author mentions real return he's talking about net return after inflation. The "return" on Social Security is quoted as returns before inflation.

[ QUOTE ]
If you subsume the nation’s entire capital structure of stocks, bonds, real estate, and bank loans as a whole, its overall real return was probably closer to 5%-6%. The key point here is that a nation’s aggregate investment return is independent of its capital structure.

[/ QUOTE ]

I never thought about it this way and I'm not sure he's right. I would have to do more thinking about this. He seems to be implying that the aggregate investment return is more or less constant and that changes in the capital structure of those investments will proportion the returns differently but the aggregate return will remain constant.



[ QUOTE ]
In other words, if current stock valuations hold it is entirely possible that we may be sitting on the cusp of a new investment paradigm—one in which stock and bond returns are approximately equal.

[/ QUOTE ]

This may very well be true but it may be false. We don't know for sure. Forward looking returns on stocks I'm fairly certain indicate that the return on the stock market will be less than what we've seen over the past 75 years or so.

[ QUOTE ]
In addition, the flood of Social Security money into retirement and pension plans at the present demographic front end of the investment baby boom and the flood out at its back end in 20-30 years will further reduce the returns of both stocks and bonds. (For a fuller discussion of why everybody can't get rich with stocks at the same time, see The Heisenberg Equity Principle in the current issue of EF.)


[/ QUOTE ]

Ok I'll have to read that.

[ QUOTE ]
Further, expecting the average worker to competently manage their own investments is akin to asking him or her to fly their own airliner. This is not an unfair analogy. Surveys show that a majority of people do not have a clear idea of the difference between stocks and bonds and have no grasp of their expected returns and risks. Even more importantly, there is no convincing evidence that the average investor has the knowledge and discipline to stay the course in tough times; as has happened so often in the past, they will most likely chase performance, buy high, and sell low. There are no high-quality data on the return of individual retirement accounts, but it is safe to assume that because of fund fees and frictional costs it will be at least 2% less than the aggregate national capital return—i.e., in the 3%-4% real range going forward.

[/ QUOTE ]

I think this is a weak argument for many reasons. Again if there was no option but to buy government bonds that would still seem to be better to me. I realize that money earmarked for retirement in lieu of Social Security should probably be invested in stuff that is "less risky."

[ QUOTE ]
A fast spreadsheet run shows that a worker earning a constant real salary from age 20 to 65 with a 10% savings rate requires a 4.03% real return to sustain a 20-year retirement at the same salary level. And even this is a wildly optimistic model, as most younger workers have relatively low incomes with zero savings. Start at age 30 and the required rate real of return is 5.74%, and if you delay retirement saving until age 40 you'll need an 8.86% real return. So, Houston, we have a problem¾ it is a mathematical certainty that privatizing even 5% of FICA deductions would prove woefully inadequate for most workers. At some point a government-sponsored privatized retirement plan would become The Mother of All Moral Hazards. Remember that there have been periods as long as 18 years with zero real stock returns. It is quite likely that this might occur between 2010 to 2030, as millions of boomers sell their securities. (And, as the old stockbroker’s joke goes, to whom?) It is hard to imagine the government not stepping in to rescue the armies of seniors with prematurely dry pension accounts.

[/ QUOTE ]

False premise, false conclusion IMO. His point really is IMO, that privitization ought to have some strings attached to how the money can be invested so that people actually will make a return on their money. Anecdotal evidence suggests to me that people are actually very conservative with money invested in retirment.



[ QUOTE ]
Last, and not least, in a privatized system Fred Smith is not as likely to earn anywhere near the returns of the erstwhile Mr. Lindsey. While tolerable in a private retirement setting, a large disparity of returns in a government-sponsored system is politically and morally untenable.

[/ QUOTE ]

It's the old liberal saw that big government has to protect people from themselves. The rest of the article's conclusions are based on that old saw. My refutation of that is the author's own statement:

The fact still remains that in two or three decades the system will be exhausted.

This seems to be the undesirable result for the government that the author of this article was predicting for individuals who managed their privitized accounts. How can the author come to the conclusion that this is a workable system that we should perpetuate? Besides that in privitized accounts the money that you contribute is yours to do as you see fit with it more or less when you reach retirement. There are eligibility requirments for collecting Social Security besides age requirements. After working for many years and contributing your hard earned money to Social Security reaching the age of retirement is not enough. That sucks.

[tolbiny]

"Anecdotal evidence suggests to me that people are actually very conservative with money invested in retirment."

Your sample group is tainted because you can only ask people who are currently investing for their future. If you suddenly add a huge pool of people whose only experience with their savings is their 401k and SS then you have a very large very inexperienced group of people. All of them will likely know one person in the first 2-3 years of investing that dumped alot of money into penny stocks, quadrupled up and got out. There are going to be a large amount of inexperienced people trying to make money in a somewhat complicated system.

[adios]

[ QUOTE ]
"Anecdotal evidence suggests to me that people are actually very conservative with money invested in retirment."

Your sample group is tainted because you can only ask people who are currently investing for their future

[/ QUOTE ]

First of all notice the adjective anecdotal.

An operative definition of anecdotal:

Based on casual observations or indications rather than rigorous or scientific analysis: "There are anecdotal reports of children poisoned by hot dogs roasted over a fire of the [oleander] stems" (C. Claiborne Ray).

So my response is that in no way was I implying that my observations had any scientific support. Your implication is that I did and you're wrong.

[ QUOTE ]
If you suddenly add a huge pool of people whose only experience with their savings is their 401k and SS then you have a very large very inexperienced group of people.

[/ QUOTE ]

Why would that be? People make investment choices in their 401K all the time. Over 70% of U.S. households are home owners and if you don't think that represents a vital investment decision well ... Anyway I addressed the risk that should be allowed to be undertaken in these accounts in my post.

[ QUOTE ]
All of them will likely know one person in the first 2-3 years of investing that dumped alot of money into penny stocks, quadrupled up and got out.

[/ QUOTE ]

You try and tear down a statement I made saying it's not scientifically based and then you pull this out of your ass. Maybe you ought to visit that drug thread again on the other forum.

[ QUOTE ]
There are going to be a large amount of inexperienced people trying to make money in a somewhat complicated system.

[/ QUOTE ]

So what? I address the problem in my post. Try reading it again.

If this is the best case you make against privitizing S.S. it's pretty weak IMO.

[tolbiny]

adios,
i wasn't attacking your position as a whole, and i don't recall ever stating that i was for or aginst privitizing social security.
what i did take issue was not the word anecdotal, but thw use of "evidence". You used anecdotal evidence to support you position, and i felt that evidence was not strong enough to warrent bringing into this discussion. Thats all.

[natedogg]

It is flat out wrong to have a system where we force people to participate in a specific government-run retirement program.

Demolishing SS will certainly result in many people retiring broke. It´s their right to retire broke.

If we want to offer a national pension that is payable pretax through payroll we should do so. I´m all for it. Compulsory participation is simply an immoral use of state power.

natedogg

[tolbiny]

"Demolishing SS will certainly result in many people retiring broke. It´s their right to retire broke."

a couple of points, not saying i nessecairly aggee/disagree with you.
1. The US govt has already made pledges to people, when do we deomolish SS, before or after those pledges are paid?
2. Is the govt role such that it should protect all people's rights- even at the expense of the govt its self?

[Non_Comformist]

Typical liberal BS in which it is immoral for those with skill and knowledge to do better than those without combined with the all to common people are too stupid to help themselves, except for the author and himself.

Millions of people invest in some sort of pension program through their employer with minimal efforts and problems. Reducing the eligible investments to balanced, global, bond and index funds would sufficiently reduce investor risk.

[adios]

Maybe the opinion of the co-winner of the 2004 Nobel prize in economics will carry some weight with you:

Why Does the Government Patronize Us?

By EDWARD C. PRESCOTT
November 11, 2004; Page A16

Radicalism: The conservatism of tomorrow injected into the affairs of today.

--Ambrose Bierce, "The Devil's Dictionary."

Of all the economic issues facing Washington these days, one looms larger and larger as more time passes without a solution -- how to fund our Social Security obligations. We often hear that the main problem is our aging demographics or the political games that are played with Social Security funds. While these may be problematic issues, they are only symptomatic of the fundamental predicament: Government has made promises that it can't keep.

Heretofore, the government's solution has always been to make more promises: "Don't worry. We'll figure something out. You'll get your Social Security payments. Trust us." But to savvy citizens these are starting to sound like pie-crust promises: Easy to make and easy to break. Indeed, Social Security benefit payments are projected to exceed payroll tax revenue in the year 2018, with Social Security trust fund depletion to occur in 2042. I would hate to be a politician in office when that pie crust breaks.

The time is right to act, and we don't need a special commission to analyze the problem and recommend solutions because we already had one, and it submitted its report three years ago next month -- The President's Commission to Strengthen Social Security. The trouble is that little has happened since. It's time to dust off that report, sharpen our policy pencils and get to work on reforming our Social Security system before it's too late.

The main contribution of that 2001 bipartisan commission was to propose the establishment of a system of voluntary personal accounts, which would increase national savings as well as increase labor-force participation -- more on that later. But this contribution is also the commission's main flaw, for the proposal does not go far enough. We need to establish a system of mandatory savings accounts for retirement, not voluntary. Without mandatory savings accounts we will not solve the time-inconsistency problem of people under-saving and becoming a welfare burden on their families and on the taxpayers. That's exactly where we are now.

Before I describe the benefits of such accounts, let's begin by dismissing the notion that individual savings plans are somehow dangerous to U.S. citizens. Some politicians have vilified the idea of giving investment freedom to citizens, arguing that those citizens will be exposed to risks inherent in the market. But this is political scaremongering. U.S. citizens already utilize IRAs, 401Ks, PCOs, Keoghs, SEPs and other investment options just fine, thank you. If some people are conservative investors or managing for the short term, they direct their funds accordingly; if others are more inclined to take risks or looking at the long run, they make appropriate decisions. Consumers already know how to invest their money -- why does the government feel the need to patronize them when it comes to Social Security?

It would be one thing if the government's Social Security system paid a decent return, but as the President's Commission reported, for a single male worker born in 2000 with average earnings, the real annual return on his currently-scheduled contributions to Social Security will be just 0.86%. And for a worker who earns the maximum amount taxed (then $80,400), the real annual return is a negative 0.72%. A bank would have to offer a pretty fancy toaster to get depositors at those rates of return.

Further, about two dozen countries have reformed their state-run retirement programs, including Chile, Sweden, Australia, Peru, the U.K., Kazakhstan, China, Croatia and Poland. If citizens in these countries can handle individual savings accounts, especially citizens in countries without a history of financial freedom, then U.S. citizens should be equally adept. At a time when the rest of the world is dropping the vestiges of state control, the United States should be leading the way and not lagging behind.

An important benefit of individual savings accounts is that they are transparent, and transparency solves many problems. For example, naysayers may point to the pension funds of such cities as San Diego and Minneapolis, which are currently struggling with underfunded pension plans. But these are pensions where individuals have no control over their contributions and where politicians, with the aid of accountants, can hide inadequate funding for a long period. The beauty of individual savings accounts is that each person decides how his money will be invested and, with the advent of the Internet, he can then monitor those investments at any time and easily make changes to react to changing investment news. Individual savings accounts are transparency in practice.

The benefits of such reform extend beyond the individual retirement accounts of U.S. citizens (although that would be reason enough for reform) -- they also accrue to the economy. As noted above, national savings will increase, as will participation in the labor force, both to the benefit of society. On the first point, more private assets means there will be more capital, which will have a positive impact on wages, which benefits the working people, especially the young. More capital also means that the economy will have more productive assets, which also contributes to more production.

Regarding labor supply, any system that taxes people when they are young and gives it back when they are old will have a negative impact on labor supply. People will simply work less. Put another way: If people are in control of their own savings, and if their retirement is funded by savings rather than transfers, they will work more. And everyone is better off. These are the type of win-win situations that politicians and policy makers should be falling over themselves to accomplish.

And those policy makers need to get beyond the idea of creating only voluntary savings accounts. Voluntary accounts are not the full answer. There is nothing wrong with making a reasonable level of savings mandatory. Remember that our current Social Security system is mandatory, but as it stands it is a mandatory tax that perpetuates a welfare system. It doesn't have to be this way. We should separate retirement savings from a system of welfare, and the most efficient way to do that is to turn our mandatory transfer system into a mandatory savings system.

Some analysts have suggested that we can't move from a transfer system to a saving system because current retirees will be left in the lurch. Who will pay for them if workers' money is suddenly shifted to individual savings accounts? There will indeed be a period of time, likely no more than 10 years, when narrowly defined government debt relative to gross national income would increase before decreasing. But government debt is small relative to the present value of the Social Security promises that currently exist. Further, the sum of the value of government debt and the value of these promises will start declining immediately.

Under a reformed system there will always be some individuals who, owing to disabilities or other reasons that prevent them from working, will not have sufficient savings in their old age. The solution is to include a means-tested supplement to ensure that those citizens receive a required payment -- just like they receive today. Nobody gets left behind under this new system, and most will move ahead. U.S. citizens deserve more than a minimum payment, and the U.S. economy deserves more than to have its savings, capital and labor weighed down by an increasingly costly tax-and-transfer system.

So how would such a reformed system work? Here's a proposal: Have three-quarters of employer and employee Social Security contributions (currently 12.4% of wages, salaries and proprietors' income up to $87,900) put into an individual savings account. This would be deferred income with taxes paid when people receive their retirement benefits. The other one-quarter of Social Security contributions would finance welfare and increase the labor supply, resulting in higher output and an increase in tax revenues.

Reforming Social Security into a system of mandatory individual savings accounts is not as radical as it sounds. The world is moving in this direction, and here in the U.S. our citizens have been dealing with individual accounts for many years through their employers -- and some of these are mandatory. As Ambrose Bierce's definition of radicalism suggests, someday we will look back and wonder what all the fuss was about.

Mr. Prescott is co-winner of the 2004 Nobel Prize in Economics, senior monetary adviser at the Federal Reserve Bank of Minneapolis, and professor of economics at the W.P. Carey School of Business at Arizona State University.

It's really quite simple. The Democrats don't want any part of privitization because they lose potentially lose control of a constituency. Having control over someone's paycheck is in all powerful control.

[West]

[ QUOTE ]
It's really quite simple. The Democrats don't want any part of privitization because they lose potentially lose control of a constituency. Having control over someone's paycheck is in all powerful control.

[/ QUOTE ]

I don't pretend to understand all the complexities of the social security issue, but after reading that article, I'm having a hard time seeing how it leads to that statement. How do Democrats have control of someone's paycheck??

One point: maybe I'm misunderstanding things a bit, but it seems to me that the "problem" with the security system is simply the fact that the government runs it in such a way as to count on current contributors to pay for those who currently receive benefits, and may not be disciplined enough to manage it's budget deficit in proper accordance. It seems to me that a responsible government, understanding that population trends are such that the ratio of benefitees to contributors is going to vary, will simply budget approrpriately when it comes to it's deficit. Maybe that's asking too much. Of course, I seem to recall hearing something about a surplus not too long ago, but I guess I was dreaming.

[ QUOTE ]
U.S. citizens already utilize IRAs, 401Ks, PCOs, Keoghs, SEPs and other investment options just fine, thank you. If some people are conservative investors or managing for the short term, they direct their funds accordingly; if others are more inclined to take risks or looking at the long run, they make appropriate decisions. Consumers already know how to invest their money -- why does the government feel the need to patronize them when it comes to Social Security?

[/ QUOTE ]

He hasn't convinced me. I think there are a lot of people who don't have a clue and do what their family and friends tell them to do (maybe) and hopefully that's right.

[ QUOTE ]
Regarding labor supply, any system that taxes people when they are young and gives it back when they are old will have a negative impact on labor supply. People will simply work less. Put another way: If people are in control of their own savings, and if their retirement is funded by savings rather than transfers, they will work more. And everyone is better off.

[/ QUOTE ]

I don't get this. Aren't the payments that Social Security beneficiaries receive based at least to some degree on what they paid in to the system? In any case, how great of an effect could we be talking about anyway? People work because they need to pay the bills.

[ QUOTE ]
Remember that our current Social Security system is mandatory, but as it stands it is a mandatory tax that perpetuates a welfare system. It doesn't have to be this way. We should separate retirement savings from a system of welfare, and the most efficient way to do that is to turn our mandatory transfer system into a mandatory savings system.

[/ QUOTE ]

Is this his real problem with Social Security? The article I posted talked about how Social Security is really a form of wealth redistribution. I strongly suspect that what privatization is really about is reversing, to some degree, the wealth redistribution effects of Social Security. And if that is the ultimate effect, than my question is, why is that necessary? I'm not saying what's fair and what isn't fair, I'm saying given where we are today, why do we need to effectively redistribute wealth back to those who are already better off?

If I'm not mistaken, the gap between the haves and have nots has been increasing steadily over the years. Apparently not steadily enough for Bush and his conservative brethren. I think the article I posted gave some food for thought regarding this when it claimed that modest wealth redistribution from a progressive tax system, Social Security, and antitrust legislation has served as a catalyst for social peace and prosperity. Start taking that away with the corporations best friend for President, and we'll see where that leads us.

Oh yeah, and:

[ QUOTE ]
Some analysts have suggested that we can't move from a transfer system to a saving system because current retirees will be left in the lurch. Who will pay for them if workers' money is suddenly shifted to individual savings accounts? There will indeed be a period of time, likely no more than 10 years, when narrowly defined government debt relative to gross national income would increase before decreasing. But government debt is small relative to the present value of the Social Security promises that currently exist. Further, the sum of the value of government debt and the value of these promises will start declining immediately.

[/ QUOTE ]

Does someone want to explain how this isn't double talk for the government will have to write it off? Or someone gets screwed?