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Sunday, March 06, 2005

How private accounts will "fix" Social Security's solvency problems

After the last State of the Union address, I wrote that "if there's a compelling reason to believe that personalization/privatization will address and solve the [Social Security] solvency concerns, I haven't heard it explained yet in words that can penetrate my liberal-arts-major consciousness."

But now VodkaPundit a/k/a Will Collier has done the best job I've seen so far of connecting the two issues in a candid and compelling way. Read the whole thing — it's not long, and excerpting only part of it here wouldn't do it justice.

Will's right, of course, that telling the truth will be dangerous, because when the truth is unpleasant — as, I think, the demographic truths of Social Security's future are — it's going to be spun hard by the truth-teller's political enemies.

TANSTAAFL, baby. That's a hard, cold macroeconomic truth: There ain't no such thing as a free lunch. If younger individuals are allowed to opt into a voluntary private accounts program, they will indeed face market risks. Diversification and a long time horizon can mitigate those risks, just as they do with private retirement investments. Perhaps those unwilling to "gamble" on market returns for their private Social Security accounts can instead gamble on future politicians not cutting their benefits/raising everyone's tax rates.

But the demographics are going to require that everyone face either one gamble or the other. Me, I'm more inclined to trust market forces than politicians, and I'm attracted both philosophically and fiscally to the idea of owning (being able to control, pass on) my retirement investment.

Dubya has a gift, in his best moments, for speaking plainly notwithstanding political risks. I hope he'll whap his speechwriters and political consultants upside the head, damn the torpedoes, and start making the case for private accounts in blunt terms like Will has used. Promising all things to all people without cost is pandering. Facing up to hard economic truths and then laying out options for dealing with their consequences is courageous — "hard, hard work," to borrow from Dubya's debate phrasing. But it needs to be done.

Posted by Beldar at 08:41 PM in Politics (2006 & earlier) | Permalink


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(1) Dafydd ab Hugh made the following comment | Mar 7, 2005 4:20:20 AM | Permalink

Beldar, I missed your earlier plea for someone to explain simply how private accounts would "fix" Social Security, or I would have responded.

It's this simple: Social Security is doomed by demographics. It's going to go away. The only question is, do you want a private account to make up the difference? Or would you prefer to suck it up and work until you drop dead at 110 years old?

(Note: if you want to continue working and you're fit enough to do so, private accounts won't stop you... but they will make you wealthier in your dotage.)

The idea is eventually to shift 100% of Social-Security withholding into safe and diversified private accounts. That will completely eliminate the trillions and trillions of dollars of unfunded liabilities the United States currently faces. But you have to start sometime; and the longer you wait, the more expensive will be the transition costs.

If you go with private accounts -- everything will be pro-rated, so for simplicity, let's assume you're just starting out in working life -- if you go with the private accounts and redirect 25% of your FICA withholdings (what you pay and also what your employer pays) into essentially an IRA, then:

1) When you retire, you only receive 75% of the amount you ordinarily would from Social-Security;

2) But you also receive disbursement from that private account -- which will be significantly more than that missing 25%.

Thus, in the end, you get more money.

The system itself will still be doomed by demographics... but since it will be overall smaller (since some percent is now "outsourced" into the market), the total overall unfunded liability to the United States will be smaller -- and therefore easier for the US to make up via other taxes.

Plus, the private accounts would allow us to reduce the promised payout (which we'll have to do anyway) without as much pain, thereby also making it easier to solve the solvency problem.

It's really not as arcane as the Democrats make it out to be. They're playing a deliberate con game to confuse people, hoping that we'll be too frightened of any sort of change to make any changes at all.


(2) Dave Schuler made the following comment | Mar 7, 2005 8:41:38 AM | Permalink

I think you're mistaken about something, Beldar. You write:

If younger individuals are allowed to opt into a voluntary private accounts program, they will indeed face market risks. Diversification and a long time horizon can mitigate those risks, just as they do with private retirement investments.

I haven't heard President Bush or any of the private accounts enthusiasts in the government put that option on the table. What they are talking about is allowing people younger than 55 to select among politician-selected-and-approved investment plans. The risks will be reduced and the potential for profit will be reduced. Such plans are nearly guaranteed to perform more poorly than “the Market”.

I think it's possible to come up with a sensible forced savings plan (and that's what we're talking about) but this ain't it. The guaranteed winners of this plan are stockbrokers and Fortune 500 CEO'S. Apparently there is such a thing as a free lunch—for some.

(3) George made the following comment | Mar 7, 2005 9:43:13 AM | Permalink

Pelosi has been plain dishonest about Social Security:

(4) LazyMF made the following comment | Mar 7, 2005 1:48:15 PM | Permalink

Beldar, I think you are making 2 large assumptions to sutain your argument. The first is that the "private" account will work the same as an IRA. I have seen nothing that suggests the "private" account will be a fee simple account owned by the investor and which the investor will be able to transfer to his/her heirs.

The second is partially discussed above. In what will the investor be allowed to invest? Even with IRAs, you cannot invest in everything you might want to. Would these accounts allow only for a cafeteria selection of a few mutual funds or blue chip stocks? Does anyone know? Also, with an IRA you can draw it out however you want after retirement (subject only to the tax consequences). I have seen nothing that suggests you can draw out the entire corpus of these "private" accounts at any time. I want to know whether or not to support this proposal, but there too few facts. Are we being asked to support a true privatization plan, or is it a quasi-private plan?

In short, those that are backing this privatization plan (which has no real details) are also trusting in politicians the same way we would by keeping the system the way it is.

Another thing that troubles me about this system is the effect all that new investment money will have on the market. Perhaps some of your eceonomist readers can tell us. Will the influx of money drive up prices of stocks and mutual funds to artificially high levels? Will the influx of funds actually help the economy by pushing more money into the private sector for venture capital, or will the money simply sit idly in already-issued securities and function as no more than a long-term gamble?

(5) Tongueboy made the following comment | Mar 7, 2005 2:18:53 PM | Permalink

Diverting Federal employee Thrift Account contributions to the Social Security Trust Fund could delay the day when demography dictates benefit cuts or increased payroll taxes. But you'll never hear this proposal from the Social Security reactionaries; it highlights all too well their intellectual dishonesty.

(6) ed made the following comment | Mar 7, 2005 3:02:43 PM | Permalink


My advice would be to work for civil service and then retire. You can lose your shirt in private plans, but government workers will never let go of that teat.

Just think. If we ALL worked for the government, we wouldn't need nationalized healthcare or social security!


(7) Robin Roberts made the following comment | Mar 7, 2005 10:28:25 PM | Permalink

Go slap yourself, ed.

(8) SemiPundit made the following comment | Mar 8, 2005 12:51:54 AM | Permalink

This stuff makes my head hurt. Is it too much for Bush, et al to lay out some details about how this thing is supposed to work? The more he and other adherents of the idea mumble on in vague incoherency, the more it sounds like just another con job.

(9) Pat made the following comment | Mar 8, 2005 3:47:46 PM | Permalink

Today I came across a reference to Singapore’s Central Provident Fund (CPF), which seems to offer a much better program for providing retirement income, homeownership, and a variety of other valuable assets for its people. I googled and found a document that describes this plan at the following URL:

Does anyone know more about CPF and its actual record of performance? Would it be a reasonable plan for Americans? Based on the information I read today, I think I would prefer to participate in something like CPF than in our Social Security/Medicare plan (with or without revision).

Just lifting a few remarks from the Introduction and the Conclusion of the cited document:
"Singapore finances its social security system through a publicly managed, mandatory program of private saving. ...
"The Central Provident Fund was set up in 1955 to provide financial security for workers in their retirement or when they are no longer able to work. Over the years, it has evolved into a comprehensive social security savings scheme, which not only takes care of members’ retirement, home ownership, healthcare needs and their children’s education, but also provides financial protection to members and their families through its insurance schemes. Recently, efforts have been made to increase the range of investment options open to members to help them retire with greater financial assets."
"CPF, the government’s mandatory savings scheme by which the gainfully employed population can provide their own old-age security. ... the European and American systems depend on intergenerational transfers (from present generation of workers to retirees from all previous generations), so that their viability is affected by both the diminution of the labour force (as a result of fertility declines since the 1960s and the utilization of more efficient production techniques) and the increasing longevity of the elderly. Under the CPF scheme, which is essentially a savings scheme, solvency is not in question unless there is gross mismanagement of the Fund."

I think this sounds like a program that is based on a much more sound system (individual savings and investment) than what we have now (a Ponzi scheme--and there's a reason they're illegal). I'd be interested in hearing what Beldar and his commenters have to say about the Singapore plan.

(10) James B. Shearer made the following comment | Mar 9, 2005 11:08:47 PM | Permalink

Will Collier's claim that we can't tax ourselves out of this problem is incorrect. You may believe that it is better policy to cut benefits but there is nothing impossible about the tax increases that would be involved (based on current estimates).

(11) pinky made the following comment | Mar 11, 2005 2:48:58 PM | Permalink

Just a quick point of clarification. Vodka Pundit is actually Stephen Green rather than Will Collier.

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