Les Jones

Privatizing Social Security

Kevin Drum spells out the part of Social Security privatization that bugs me, too.

This is one of my biggest problems with Social Security privatization. It's not really clear to me that it benefits anyone except the well-off to begin with, and I'm certain that if private returns collapsed the government would rush in to make up the shortfall anyway. That's just the political reality. But if the government is essentially guaranteeing a minimum rate of return, why bother with privatization in the first place? Just let the feds fund Social Security out of current revenues the way they do now.

Yep. I'd be happier with an expansion of IRAs and 401Ks, with only minimal social security privatization.

The De-population Problem

Foreign Affairs examines declining birthrates around the world. It's not just Europe, Japan, and the U.S., anymore. Birthrates have fallen dramatically in Iran and Mexico. Puerto Rico's birthrate is now below replacement levels. Populations are aging everywhere, with potentially ruinous consequences for pension and healthcare systems.

Some biologists now speculate that modern humans have created an environment in which the "fittest," or most successful, individuals are those who have few, if any, children. As more and more people find themselves living under urban conditions in which children no longer provide economic benefit to their parents, but rather are costly impediments to material success, people who are well adapted to this new environment will tend not to reproduce themselves. And many others who are not so successful will imitate them.

So where will the children of the future come from? The answer may be from people who are at odds with the modern environment -- either those who don't understand the new rules of the game, which make large families an economic and social liability, or those who, out of religious or chauvinistic conviction, reject the game altogether.

In a biological system, fitness is defined by reproducing. But certainly it's financially advantageous today to not have children.

In the United States, the direct cost of raising a middle-class child born this year through age 18, according to the Department of Agriculture, exceeds $200,000 -- not including college. And the cost in forgone wages can easily exceed $1 million, even for families with modest earning power. Meanwhile, although Social Security and private pension plans depend critically on the human capital created by parents, they offer the same benefits, and often more, to those who avoid the burdens of raising a family.

Democrats Were for Social Security Reform Before They Were Against It

So the Democrats are opposing Bush's proposed partial privatization of Social Security as part of an effort to save it in the long run. That's fine, but if it's such a bad idea then why did so many Democrats previously support some variation of privatization or investment in the private sector?

Sen. Dick Durbin (D-IL) Press Release: “Durbin Said Due To The Increasing Number Of ‘Baby Boomers’ Reaching Retirement Age, Social Security Will Be Unable To Pay Out Full Benefits … But The Sooner Congress Acts To Avert This Crisis The Easier And Less Painful It Will Be.” (Sen. Dick Durbin, “Reforming Social Security,” Press Release, 9/15/98)

Sen. Byron Dorgan (D-ND): “Fixing Social Security Is An Urgent Priority. It Ought To Be At The Top Of Both Parties’ Agendas.” (Sen. Byron Dorgan, “Fixing Social Security Must Top Both Parties’ Agendas,” Roll Call, 12/6/99)

Sen. Byron Dorgan (D-ND): “The Potential [Social Security] Crisis Should Be Viewed As An Enormous Success, Because It Means That We Are Living Longer And Healthier Lives.” (Betty Mills, Op-Ed, “What Would You Do About Social Security?” Bismarck Tribune, 8/5/98)

Sen. Kent Conrad (D-ND): “I Was At The Social Security Summit At The White House, Along With 40 Of My Colleagues, Republicans And Democrats. And There Was Virtual Unanimity Of Opinion That We Simply Have To Get A Higher Return From The Social Security Investments.” (Fox News’ “Special Report,” 1/20/99)

House Members: Rep. Sander Levin (D-MI): “People Can See, I Think, A [Social Security] Crisis Where There Immediate Family Is Affected Even If Not Immediately … This Is Something That Affects Almost Everybody’s Immediate Family.” (Richard A. Ryan, “Social Security Reform Stalls,” The Detroit News, 2/2/02)

Rep. Charles Rangel (D-NY): “I Am One Democrat That Truly Believes That Democrats Will Not Benefit By Doing Nothing On Social Security.” (Rep. Charles Rangel, Press Conference, 1/21/99)

Rep. Edward J. Markey (D-MA): “I Am An Advocate For Investing A Portion Of The Surplus In The Private Sector …” (Rep. Edward J. Markey, Committee On Commerce, U.S. House Of Representatives, Testimony, 2/25/99)

Rep. Jerrold Nadler (D-NY): “[I]t’s A Way Of Getting More Money – A Higher Return On The Trust Fund, And Is A Prudent And Good Thing To Do.” (Rep. Jerrold Nadler, Press Conference, 1/21/99)

Former Rep. Dick Gephardt (D-MO): “Why Should Social Security Recipients Be Disadvantaged By Not Getting To Be Able To Have Higher Returns Out Of The Stock Market?” (Rep. Dick Gephardt, Press Conference, 1/21/99)

Clinton: President Clinton: “[Investing] Will Earn A Higher Return And Keep Social Security Sound For 55 Years.” (President Bill Clinton, State Of The Union, 1/19/99)

President Clinton: “[W]hat I Believe We Should Do Is To Invest A Modest Amount Of This In The Private Sector, The Way Every Other Retirement Plan Does. The Arizona State Retirement Plan Does; Every Municipal Retirement Plan Does; Every Private Plan Does.” (President Bill Clinton, Remarks To The Citizens Of Tucson On Medicare And Social Security, Tucson, AZ, 2/25/99)

President Clinton: “[E]ven After You Take Account Of The Stock Market Going Down And Maybe Staying Down For A Few Years, Shouldn’t We Consider Investing Some Of This Money, Because, Otherwise, We’ll Have To Either Cut Benefits Or Raise Taxes To Cover Them, If We Can’t Raise The Rate Of Return.” (President Bill Clinton, Remarks Via Satellite To The Regional Congressional Social Security Forums, Albuquerque, NM, 7/27/98)

Bill Clinton in 2002:

Charles Krauthammer on Social Security Reform

Think 2018, not 2042:

2042. I do not know if President Bush's Social Security reform will pass, but if it does not, its demise will be traced to that point in the president's State of the Union address when he warned that the system would go bankrupt in 2042. It was a disastrous moment.

First, it is hard to rally people to a crisis that you have located 37 years out. People 45 and older figure they will be dead anyway. And younger people have such a short time horizon that 37 years in the future is utterly meaningless. It does not matter if you have young children. A parent with young children can barely imagine them as teenagers, let alone as pre-menopausal fortysomethings. [...]

The really important date is 2018. That is when this pay-as-you-go system starts paying out more (in Social Security benefits) than goes in (in payroll taxes). Right now, workers pay in more than old folks take out. But because the population is aging, in 13 years the system begins to go into the red. To cover retiree benefits, the government will have to exhaust all of its FICA tax revenue and come up with the rest -- by borrowing on the world market, raising taxes or cutting other government programs.

Social Security Reform Debate

Informative debate on Social Security reform between James Glassman and Tyler Cowen. Both agree that Social Security should be indexed to prices rather than wages, and that indexing to wages is one of the causes of the current predicament. Cowen raises my main concern with privatization:

Whether we like it or not, government would come to be seen as offering an implicit guarantee for these accounts. If the stock market were to stay low for 10 or 15 years, retirees would demand that government supplement their returns. Government would feel pressure to cough up additional revenue exactly when the budget would be in the tightest squeeze. The result would be higher taxes in times of recession, exactly the opposite of what is appropriate. (It is true that government does not end up guaranteeing current IRAs, but that is only because we already have Social Security as a backstop.)

Glassman, in his counter-counterpoint, acknowledges this problem when he addresses plans that would completely dismantle Social Security (after paying back all contributors):

The second problem is that in the United States we don't let people starve. Some people simply will not save for their own retirement--especially after 70 years of relying on the government. Even Hayek agreed that some form of forced savings is necessary to keep taxpayers from having ultimately to foot the bill for those who don't provide for their own future.

Glassman isn't in favor of let-it-all-hang-out market optimism, and proposes some limitations on the kinds of investments people would be restricted to in order to limit volatility. Cowen worries about the politicization of those government-mandated options, and I don't blame him.

Glassman notes what I think is one of the great unsung benefits of privatization. Namely, that private accounts can transform lives and families by making people active participants in their financial futures, and making the private accounts transferrable to their beneficiaries.

Finally, the establishment of private retirement accounts--even with restrictions--will be a blessing for tens of millions of low-and middle-income Americans who have little or no savings. As we've seen in Chile, when people are introduced to investing in stocks and bonds, they like the experience and want more. The problem today is that payroll taxes are so high that young people especially don't have the cash to save and invest. Reforming Social Security would change that.

United Airlines Defaults on Pension Plan

United Airlines, already bankrupt, has terminated its employee pension plans. Control of the plans has been passed to a Federal corporation by order of the courts. Employees may see as much as 50% of their expected retirement funds disappearing.

Alex Tabarrok writes:

Now, let's review. A large organization counts on its younger workers and continuing high revenues to fund the pensions and medical care of its retired workers but finds that rising health care costs, longer life-expectancy, and its own inability to control spending force it to cut pension benefits and switch to personal accounts.

Yep. I expect Social Security will be saved in large part because it's quite modest, but this won't be the first pension plan - corporate or governmental - to go bust. Ford and especially GM could default on their pension plans. Most European countries can't possibly honor their pension systems. The results could be devastating, not only for the retirees, but for the health of the nations involved.

Report: Social Security Outlook Worsening

From Willisms.

* The projected point at which tax revenues will fall below program costs comes in 2017 -- the same as the estimate in last year’s report.

* The projected point at which the Trust Funds will be exhausted comes in 2040 -- one year earlier than the projection in last year’s report.

Just two years ago, those same projections were for 2018 and 2042. Reforming Social Security was a bridge too far for Bush's administration, but someone is going to have to make changes to the system to save it.

Accounting For Future Healthcare Liabilities

From USA Today via Megan McArdle:

New accounting rules require that governments, starting next year, put a price tag on the value of medical benefits promised to civil servants when they retire. New York City's liability, for example, approaches $50 billion. The city's total budget last year was $53 billion.

"It's no exaggeration to say that elected officials are shocked, absolutely shocked, by the size of these liabilities," says Donald Rueckert Jr., senior vice president and actuary at Aon Consulting, an insurance broker.

The federal government also has a $2.3 trillion unfunded liability for medical and disability benefits promised to civil servants and military personnel who retire. The costs are not the nation's biggest financial problem. Medicare has a $33.4 trillion unfunded liability. Social Security has a $4.6 trillion shortfall.

See also:
- Highly Recommended Article on Europe's Economic Future (deals with Europe's' unfunded liabilities related to its welfare state)

U.S. Going Bankrupt?

That's according to an article in the Telegraph which quotes Professor Laurence Kotlikoff for the Federal Reserve Bank of St Louis, "a leading constituent of the US Federal Reserve."

xperts have calculated that the country's long-term "fiscal gap" between all future government spending and all future receipts will widen immensely as the Baby Boomer generation retires, and as the amount the state will have to spend on healthcare and pensions soars. The total fiscal gap could be an almost incomprehensible $65.9 trillion, according to a study by Professors Gokhale and Smetters.

The figure is massive because President George W Bush has made major tax cuts in recent years, and because the bill for Medicare, which provides health insurance for the elderly, and Medicaid, which does likewise for the poor, will increase greatly due to demographics.

The article doesn't break the problem down enough to say how much of the problem is deficits and how much is entitlements. I suspect it's mostly the latter, based on the European experience in which social program liabilities dwarf debts. Of course running up deficits as Bush has been doing doesn't help. Also not helping: Bush's Medicare prescription program, which increased entitlements without increasing revenues.

Social Security's problems are relatively easy to fix, since SS is a fixed payout and the program is expected to run in the black until 2018. Medicare costs on the other hand just keep rising.

U.S. Credit Rating Threatened by Medicare, SS, Debt Liabilities

Financial Times - US's triple-A credit rating 'under threat':

The US is at risk of losing its top-notch triple-A credit rating within a decade unless it takes radical action to curb soaring health care and social security spending, Moody's, the credit rating agency, said yesterday.

The warning over the future of the triple-A rating - granted to US government debt since it was first assessed in 1917 - reflects growing concerns over the country's ability to retain its financial and economic supremacy.

People are willing to talk about the national debt (it was the centerpiece of Ross Perot's 1992 presidential campaign, which led to some deficit reductions and even modest debt reductions in the '90s). People are even willing to talk about Social Security shortfalls (which led to modest Social Security changes, such as changing retirement age from 65 to 67 for those of us born after 1959).

Few people are willing to talk about the truly massive unfunded obligations of Medicare and Medicaid ($33.4 trillion), which dwarfs unfunded Social Security obligations ($4.6 trillion) and the national debt ($10 trillion). The U.S. also has "$2.3 trillion unfunded liability for medical and disability benefits promised to civil servants and military personnel who retire."

Social Security needs a few tweaks to stay viable. Removing the $85,000 ceiling for contributions and indexing payments to prices rather than wages would help. Reducing Social Security payments doesn't seem like an option - the government has made express commitments of specific dollar amounts upon retirement. It would undermine credibility in the government to reduce those payments.

Medicare on the other hand doesn't have the same type of specific obligations, and in general pays out much more than it takes in. Medicare represents our largest financial shortfall, so reform there is mandatory for our government to stay solvent.

This looming threat is one reason I do not want government-provided healthcare. The government has already shown it can't provide a health care system with balanced books. My guess is that if we don't get nationalized health care the next ten years it will be off the table. Once people realize how financially unstable the current government health care system is they won't want another.