2005 February 21 Monday
Bush Social Security Privatization Exercise In Mass Deception?
Robert Samuelson says the Bush Social Security proposal is an attempt to provide a benefit while hiding the future costs of the benefit.
The White House has crafted a clever bit of intellectual camouflage to do what's politically convenient: create a new government benefit at no obvious cost. True, borrowing is a cost, but it's largely hidden from the public. It's not as conspicuous as a tax. What we have here is an exercise in mass deception that, in a weird way, is encouraged by a public that prefers to be deceived rather than face the difficult choices posed by Social Security or the government's budget.
If personal accounts are worth having (they're not), then they're worth paying for through taxes or cuts in other government spending. Perish the thought. The administration created a massive Medicare drug benefit (estimated 2006-15 cost by the Congressional Budget Office: $795 billion) without new taxes, and why shouldn't it do the same for personal accounts? The White House estimates the needed borrowing at $754 billion in the next decade. Democrats on the House budget committee put the first full decade of borrowing at $1.4 trillion.
On the subject of cost estimates of entitlements program changes keep in mind that the historical record has been that the low estimates are usually wrong and greatly so. Though in this case the Democrats certainly have motive to inflate the costs because most of them want to maintain the current entitlements system and gradually increase taxes to pay for it. So it is not clear that their estimate can be trusted.
Entitlements programs can have their benefits cut. It can be argued that it is necessary to cut the entitlements programs for old age in America. Looked at from this perspective the biggest problem with Bush's proposal for private accounts is that he proposes to convert legislatively reducible promises to pay future benefits into legally firmer promises to pay back debts (i.e. US Treasury bonds). So Bush's proposal limits the extent to which benefits cuts (whether by raising retirement age or means testing or changing the formula for yearly increases in payment amounts) can be used as a way to reduce the size of the unfunded liabilities for old age entitlements.
A conservative can plausibly view Bush's proposal as an attempt to ensure the continuation of high tax big government. After all, the Bush proposal would greatly increase government debts and therefore increase the pressure to raise taxes even higher in order to pay down the debt. This would have the effect of racheting up the size of government once the debts have been paid down because taxes increased to pay for the transition costs to a private system would be hard to scale back after privatization costs were paid.
Charles Krauthammer is not exactly enthusiastic for the Bush Social Security proposal either.
We have to reform the system. There is no free lunch. Private accounts are a fine idea for other problems, such as dependency and transferability to heirs. They are irrelevant to the solvency problem. We would have to raise taxes or cut benefits -- or borrow, endlessly and ruinously.
What, we face only unattractive choices? Then why aren't our leaders presenting those choices to us? Well, democracy is only as good as the voters.
Faced with little support for his proposal Bush is putting forward the idea to increase the Social Security salary cap (currently at $90,000) to raise taxes only on upper income taxpayers.
Marshall Wittmann, a senior fellow at the Democratic Leadership Council, says Bush is testing the waters to see if there's any way to salvage his proposal. But "so far, not so good," he says. "That's why he floated the idea of raising the salary cap, to see if that would fly. He's desperate to find Republican votes as well as Democratic votes."
But, as expected, economic conservative activists such as members of Club for Growth are set against raising the salary cap. The president can't afford to lose that constituency - or worse, have it working against him. So, analysts say, by floating the salary cap increase, he has effectively killed the idea.
The best argument I can see in favor of Bush's proposal is that people would probably be more willing to work long hours to pay high and rising percentages of their incomes into a personal retirement accounts which they think of as their own than pay that same amount of money into the Social Security Trust Fund. Though it must be admitted that money earned that is put into a forced savings account is unlikely to provide as much of an incentive to work as money that is paid into a regular checking account and available for immediate spending. How much of a difference in incentive comes from forcing some portion of income into a personal savings account? I'd love to know the answer to that question.
The biggest problem we face from the Democratic Party's preferred solution of higher taxes is that peoples who pay high tax rates generally work fewer hours per year and their national economies do not grow as rapidly. To the extent that a partial privatization of Social Security would cause workers to think a larger fraction of their paycheck is for themselves this would avoid some of the decrease in incentives for work that will come as taxes are raised to pay for aging populations.
My own favored proposal for attempting to solve the fiscal problems caused by an aging population is to provide much higher government funding to develop better and cheaper medical treatments. More effective medical treatments that attack the underlying mechanisms of disease development will be cheaper than today's less effective treatments and also will increase health so much that people will be able to work longer and pay taxes longer before starting to collect old age entitlements.
Update: For those who are skeptical that medical advances can solve the Western nations' developing old age entitlements funding crisis See William Saletan's Slate essay Biology can solve the Social Security debate.
The decline of physical labor is only one reason why older
Americans can work more easily. The other reason is that these people
are healthier than folks their age used to be. Last year, Johnson analyzed
data on 55- to 60-year-old workers who said their jobs always required
physical effort. In 1992, a plurality of these workers said they were
in excellent health, and 17 percent said they were in fair or poor
health. By 2002, a majority were in excellent health, and less than 11
percent were in fair or poor health. Over the long term, the changes in
onset of disease are amazing. Two years ago, economist Lorens Helmchen
compared American men born between 1830 and 1845 to those born between
1918 and 1927 (they would be 78 to 87 years old today). On average, the
latter group got arthritis, heart disease, or respiratory disease a decade later in life than the former did.
An acceleration of the rate of advance of biomedical sciences would allow us to find ways to push out the onset of disability by still more years. Then people could work longer, pay taxes longer, and start collecting retirement benefits later. This would increase tax revenue while simultaneously decreasing outflows to pay for entitlements.
This post illusrated to me one of the major problems with american politics, the free lunch cocept.I agree with the statement if something is worth doing it ir worth paying for. Even though I am a democrat, who fully supports entitlements etc.I think it is only honest that the costs should be made clear to everyone. I am neutral on the personal acounts issue, I can see the benefits (I am quite happy with my 401k) but am not quite ready to put all my eggs in one basket. If we want personal accounts, lets raise taxwes to pay for them.
One more point I fail to see where all the people who have options to work all this overtime are, most everybody I know works for a wage, where overtime is given only as a last resort. The only 2 people I know who are self employed are a barber and a dvorce lawyer. I dont think either of them have much opportunity for greatly increased income regardless of taxes. Dan
"After all, the Bush proposal would greatly increase government debts and therefore increase the pressure to raise taxes even higher in order to pay down the debt"
I am not sure I understand this. Those debts are already there. But since they exist in SS and not the "real" budget, they ever have to be paid back (Krauthammer points this out). That doesn't mean that the debts aren't already there. The "no new taxes"-and-"much new spending" Bu$hies would just be putting the debts were they belong, in view of the public. So what if the federal debt increases $1.4 trillion? The government taxed us to build this problem up, they should be forced to admit what they have done. The debt that matters is foreign debt and if we don't admit the real costs of SS as it is today, then we will be using foreign debt to finance our retirement within the next twenty years. We should do everythign we can to avoid falling into that pit.
A combination of partial privatization and changing the economic factors that SS is indexed to is a smart plan, if implemented correctly. Republican leadership has wisely rejected the idea of raising the cap. Krauthammer is correct in saying 2042 is a bad date, 2000 was already almost too late. He is also correct in saying SS is broken and cannot go on existing as is.
It's smart to increase funding for age-releated illnesses, but that doesn't really equate to people working longer in their careers. Modern job requirements and technology change so rapidly that even if a 70 year old were as healthy as a 50 year old (Brave New World huh?), that doesn't mean they would be desirable employees. You would have to have jobs for them to fill, not just have them be able to work.
No, those debts are not already there. Under the Bush proposal large numbers of bonds would be issued that are not now issued either from the US Treasury to the Trust Fund or from US Treasury to the public.
Keep in mind that total US government debt is a small fraction of total unfunded liabilities. We have US federal debt on the order of about $8 or $9 trillion but unfunded liabilities estimates range from $50 trillion to over $70 trillion. Bush proposes to convert a chunk of those future liabilities into present day debts.
70 year olds as desirable employees: I just got back from Florida where checkers in grocery stores and dollar stores were in their 60s and 70s. I talked to an older woman who told me she wants to become a Wal-Mart greeter. I used to know a guy in another part of Florida over age 70 who was a Wal-Mart greeter - and an enthusiastic one at that. There are jobs some of these people can do. Granted, those jobs are not what they could do at their peaks. But there are lots of less difficult jobs.
OK. Maybe I am confused. Isn't what we are talking about the difference between what the SS tax takes in and what it pays out in benefits? The government automatically borrows (and of course spends) this amount. Why shouldn't that be accounted for and paid for by tax payers? We are receiving the spending benefits; we should face the reality of where that money comes from, or stop spending it. I don't think Bushie's plan is the answer. I think it's much closer to the long-term answer than anything else we have got. Fiscal responsibility has to start somewhere and it's about time we took a look at those trillions in unfunded liabilities, set some priorities, and do what is necessary to maintain the long term viability of the US.
You are reaching with those job ideas. It's inevitable that there will be fewer and fewer point-of-sale service jobs in the future. You would just shift the unemployment problem from the elderly to teenagers. You would have to pair the plan with a massive re-education program, say in nursing, so that there would be a niche for these new super-grandmas to fill.
Think through what Bush is proposing to do. Suppose he succeeds in getting private accounts enacted. Then some of the money that would be flowing into Social Security to pay current elderly (who did not pay enough when they worked to fund all their own benefits) would instead go into private accounts. The government would have to borrow more to fund those private accounts. Also, if the government gave you back some of the money you paid in in previous years (and I'm not clear on whether Bush is proposing this) the government would need to borrow even more money to pay for the money transferred into individual accounts.
This need to borrow to fund private accounts amounts to turning unfunded liabilities into debts. Is that a good idea? Debt interest has to be serviced by interest payments by the government in the present. Debts that are issued suck up capital. Though the money then goes into private accounts and right back into the capital markets.
The really big problem I see with this scheme, as I stated, is that it takes liabilities that Congress could walk away from and turns them into debts that Congress can not walk away from.
Currently if you are 30 years old and paying into Soc Sec the Soc Sec folks do not have to produce money for you until about 37 or 38 years later (not sure when a current 30 year old becomes eligible). Under the new system the need to do a portion of the pay-outs is basically accelerated into the present to fund the creation of individual accounts.
Job ideas: There are other service jobs: waiters, cooks, cleaners, etc. Also, if we stopped letting in illegal aliens the amount of service jobs for Americans would be greater. Also, the elderly themselves are going to be the ones who need services. Take the huge wave of coming 80+ year olds who will be too frail to cook or clean their own place and who needs to live in a nursing home. Well, 70 year olds could be the workers in those nursing homes.
Isn't an unfunded liability also a debt?
Short answer: No, an unfunded liability is not a debt.
Longer answer: Think about it intuitively. An entitlement's rules for eligibility can be changed at any time. Retirement age can be raised. A needs requirement can be introduced. The formula for increasing to adjust for inflation can be changed. Heck, Social Security does not even go up by inflation. It goes up by wages which rise more rapidly. So it has been proposed to change Soc Sec to go up by inflation. But which inflation index? All this stuff can be fiddled with.
By contrast, a debt is a contract. A Treasury Bond is a contract between the holder and the government.
Bush is proposing turning a lot of unfunded liabilities into debts.
I am neutral on the personal acounts issue, I can see the benefits (I am quite happy with my 401k) but am not quite ready to put all my eggs in one basket.
From an individual's standpoint you would not have to. The propsed plan is completely optional, and from what I understand it will work similar to a 401(k) (again from the worker's perspective) in which you can choose from a list of funds and mix and match or whatever.
Isn't an unfunded liability also a debt?
If you're a member of FASB it is, but the government could theoretically stop paying out benefits and end the system at any time, whereas borrowing incurs a debt that must be repaid (unless the government decided to default on its own bonds, etc).
I'd like to know why the growth rate estimates of these proposed accounts are so conservative. Less than 5%? That's awful. Why would the plan have to be modeled on the Thrift Savings with it's growthless funds instead of allowing for more risk. Since the 30s the market has grown at over 10% a year--presuming you could earn close to that through these accounts, the charge that you could lose out substantially if you retire during a recession is absurd. If you invested in 1970 and wanted to pull that out in 2002 during the recent recession you could expect about a 1000% nominal gain as opposed to the 1300% gain you'd stand to receive in 2000 (and that does not even take dividends into account). Either way you're exceedingly better off. The scare tactics alleging you might have nothing to retire on because the market gurantees nothing is disingenious. If you LOST nominal (or even real) dollars in the market over a thirty-plus year period (as I stand to do with social security), economic questions of any sort would be Lilliputian because everyone would be growing their own food in the backyard and living in consanguineous clans. That's something you couldn't pull off even if you tried.
I'm not sure how the $2 trillion of borrowing can be defended other than saying that if economic growth outpaces debt the country is in reasonable shape, and the infusion of capital into the market would help fuel private growth in the future. Do you see the federal budget decreasing anytime over... well, ever?
True privatization would be an option to opt out of the system altogether. I think the reason so much of my age group supports the idea is because it takes us a small step in that direction.
If you're a member of FASB it is
Actually that's not technically right, as cost estimates, depreciation expenses, and so on are not debts but they are liabilities. The terms are used interchangeably in the vernacular, but not amongst the erudite internet gurus (who are correct)!
"The really big problem I see with this scheme, as I stated, is that it takes liabilities that Congress could walk away from and turns them into debts that Congress can not walk away from."
I understand your position here. But it is my belief that so many people have believed that SS is a legally binding promise to them, that they altered their savings and spending behaviors based on that misconception. How many times have we heard politicians talk about a "contract between generations" or say so-and-so will "reduce your guaranteed benefits"? Much like the underestimates in calculating the cost of the Iraq War, we have set ourselves up for either massive debt increases or greater and greater lies to the American people.
I guess I have two points:
1.) Politicians have intentionally mislead people to believe that SS is a guaranteed benefit, like a federal pension, and owes the people who are close to retirement the money.
2.) The only way for the US to last another 100 years is to change the behavior of the citizenry to stop relying on the government to make up for their over spending and poor financial decisions. But how can we realistically expect people to do this when the government won't? SS presents a unique opportunity to hold the government accountable for it's spending behavior and hold the citizens accountable for their "entitlement mentality".
If this damages us in terms of tax rates and deficits (turning liabilities into debts), then we should accept that and call a "transition cost" to sound long-term fiscal policy.
BTW, I read your blogs daily, and they are among my favorites. Keep up the good work! =)
But people have also "altered" their behaviors based on today's tax rates. Raise taxes to pay for the coming waves of retirees (and that is the other big alternative to cutting benefits) and you will put all sorts of working people into positions where, for example, they can no longer afford their monthly car payments or mortgage payments or medical insurance.
I do not buy the argument that benefits can not be cut because people planned for those benefits. If we were to tell 55 year olds today that they have to work another year before being eligible for Social Security they could manage to do so. If we implemented co-pays or deductibles in Medicare based on ability to pay a lot of retirees could afford to pay the co-pays or deductibles. My own brother is a service manager for a marina in Florida and he sells several half million dollar boats to some of those Medicare-collecting and Social Security-collecting retirees every week.
The alternative to benefits cuts is taxes that will be so high that economic growth will slow and the more heavily taxed will therefore be doubly worse off.
One problem with high taxes to keep in mind: Take a 100% income amount and take off 10%. Well, you are still left with 9 out of 10 dollars. But suppose the tax rate is already 50%. Then taking off 10% takes away 1 out of 5 remaining dollars. Each increase takes a larger percentage of what remains while at the same time what remains becomes increasingly pared down to essentials with stuff like medical insurance no longer affordable. Then the workers go in Medicaid. Who pays for that? The workers who are most productive and pay the most in taxes.
One of the biggest inefficiencies that come from high tax rates is that they reduce the division of labor. If you have a choice between, for example, painting your own house or hiring a person to do so then the cost of hiring the person goes higher the higher your tax rate goes. Suppose you make $20 per hour and a painter makes $10 per hour. Suppose you can paint as fast as the painter but also can administer a computer network and that is why you make more per hour. It makes sense to hire the painter if your tax rate is 0. You can work 10 hours to pay for 20 hours of painting. But suppose your tax rate is 60%. Then you'd have to work 25 hours to pay for 20 hours of painting. Better to do it yourself. Income taxes reduce division of labor and decrease economic efficiency.
As for your point about intentional misleading: Yes, but the older retirees have intentionally forced the government to pay them more than they paid in and these retirees are shafting the younger folks.
Citizens are voters. The majority can and do vote for the "entitlement mentality". This is the problem with democracy. People can be Robin Hood voters and use the government to allow themselves to be irresponsible in their own lives.
C41, in general aren't "growth" investments more risky than "value" or "blend" investments?
Randall, the top marginal tax rate could be raised only for those who have adjustable gross incomes of greater than $100,000 for a single taxpayer and $200,000 for a married couple. In 1993 or 1994 weren't tax rates raised? In part due to these increased taxes Republicans candidates won most of the US House seats in 1994. From 1995 to 1999 (more accurately early 2000) the stock market did very well. It seems that higher taxes AND fiscal discipline can contribute to an improved stock market.
If the Social Security problem is so bad, why should people 55 and older be exempt from Social Security or Social Security related reforms?
Social Security benefits could be fully subject to taxation.
From what I've seen on the Internet there are four reasons for the current federal deficit. First, the economy is not as strong as it was a several years ago. Because the economy is not as strong as it was, a decreased amount of taxes are owed and paid by taxpayers (taxpayers here includes corporations). Second, the Bush tax cuts have reduced the amount of taxes that are owed and paid by American taxpayers. Third, the war and occupation costs of Afghanistan and Iraq have added to the deficit. Fourth, increased domestic spending approved by the Congress and President from 2001 to 2004 has also added to the deficit.
The top marginal tax rate should be raised for those individuals with adjusted gross incomes of $100,000 or more. All of these additional taxes could be used to pay for military programs, the costs of the Afghanistan and Iraq occupations, and homeland security. In other words raise taxes and use those taxes for security related purposes.
The stock market is priced high, cosniderably above historical price-earnings ratios - so it's that much harder to have a high long-term payoff. One problem with privatization is that it works best just after a stock market crash, but can only sell politically when stocks are near a peak.
"C41, in general aren't "growth" investments more risky than "value" or "blend" investments?" (Proborders)
In the short term, yes. But over thirty or forty years they are better however you look at it. A CD is less risky than a small cap growth fund and if you're investing towards the purchase of a home in two years you might consider the CD. Likewise, if you're three years from retirement the CD might be more prudent. But if you're my age and sticking $5,000 away that you have earned mowing lawns, you'd be crazy to stick it in successive long-term CDs. Fifty years from now at retirement the CD track will give you $40,000 or so (at 3.25%ish). The growth fund, however, will find you with over $5 million (that's at a conservative 10%). The difference is staggering. Even if your fund manager is drunk and inbred he's still going to find you half of that $5 million.
Social Security benefits could be fully subject to taxation. (Proborders)
Ha, that'd be efficient. I'm still for it nonetheless; anything that slices into benefits I have to pay but will never receive. Just indexing ss to wages instead of the cost of living would be grand, and it wouldn't technically be a cut in benefits but simply a slowing of their growth.
The stock market is priced high, cosniderably above historical price-earnings ratios - so it's that much harder to have a high long-term payoff. (gcochran)
True, but the P/E ratio has been increasing, albeit sporadically, over time in a continous fashion. That it has been growing faster than the index is a point of concern. Traditionally, however, that is the market's way of showing confidence in future growth--particularly through nations like China and India creating much more wealth than they have ever in the past. High P/E isn't necessarily a bad thing--every time some news comes out favorably and a company's stock jumps 12% in a day, it's P/E shoots up. That, of course, isn't negative. It shows that likely earnings are on the horizon. Most IPOs have high P/E ratios--and many bring those down in the future by performing even as their stock price rises.
Most IPOs can be had 6 to 18 months later for a fraction of the IPO price. The high P/E after a positive earnings suprise means the stock is much less of a bargain. "Buy on the rumour and sell on the news."
"Bargain" is a term for value stocks--it's difficult to translate the idea of a bargain to a growth stock. Growth investments assume more risk, but there is often a reason for the high P/E of one stock and the low P/E of another that explains why the former continues to rise in price and the latter is stagnantly "undervalued".
"Most IPOs can be had 6 to 18 months later for a fraction of the IPO price."
Where are you getting that? Here are the top five IPO over- and underperformers over the last twelve months:
% gain (loss)
Cogent, Inc 178.58
Interchange Corp 176.38
51 Job, Inc 150.00
Jed Oil Inc 107.27
Infosonics Corp (33.33)
Linktone LTD (38.43)
Camb Display (40.92)
KongZhong Corp (43.80)
IPO offerings are coveted for a reason. If it were the case that most stocks fall below their IPO prices, there wouldn't be such a clamor among investors to get in on them.
I've registered your advice, so let me allow you some of my own:
"Buy on insider trading, sell on stop loss." :) That is, of course, LEGAL insider trading that has to be disclosed five days after the occurence or whatever the specific Sarbanes-Oxley requirements are. I'm not talking about the Martha Stewart stuff.
Growth is just a determinant of value. One can put a present value on any future cash flow with a suitable discount for inflation.
IPO offerings are coveted for a reason.
What the market wants or doesn't want has nothing to do with reason. Investment banks 'reward' their best customers with allocations of IPO stocks that are predicted to trade at higher prices as soon as trading begins, and these buyers generally sell the shares immediately for the gain. The feeding frenzy surrounding many IPOs has more to do with hype than anything else.
Only a fool would compare only the p/e's of two unrelated stocks to determine which is a bargain, and I am no fool. I compared the relative bargain of a stock with the same stock a few days later trading at a much higher price and p/e. This is exactly the same as comparing sugar selling at 25 cents a pound on monday with sugar selling at 60 cents a pound on thursday. Would you rather pay 25 cents a pound or 60 cents a pound? The former would seem like quite the bargain to me.
"What the market wants or doesn't want has nothing to do with reason."
Such cynicism Bob.
That IPO takers would sell their stocks immediately at a gain only makes sense if the stock is going to dip from its opening in the near future. Previously you stated that to be the general case, but as I tried to show with the quick list above, IPOs have fared well over the last year or so. Selling right after an IPO would make little sense in this case if an investor could hold as the price continues to rise.
Only a fool would compare only the p/e's of two unrelated stocks to determine which is a bargain,
Even if the companies are industry-related, P/E as a stand alone measure is often misleading. Hersheys and ConAgra as example--HSY's P/E is 30ish, CAG is around 15 but the former is still the better pick because the earnings are likely to catch the price. The market sees growth there, whereas CAG has struggled sporadically for a host of reasons but might be errantly listed as "undervalued" b/c of the P/E. My initial point was simply that market-wide high P/Es shouldn't automatically be translated as presciently predicting a overall market tanking in the near future.