Sunday, September 11, 2011

Fixing Social Security: Opposite Day

Had a rather spirited discussion with a friend, with him taking the side that Gov. Perry was out of line calling Soc Sec a "Ponzi scheme." And with me being loudly incredulous that anyone could think Soc Sec is anything OTHER than a Ponzi scheme.

A-Tab is sensible, but confirms the thing is a Ponzi scheme.

Both of the St. Pauls (Samuelson and Krugman), dear to the left, call it a Ponzi scheme.

But, on reflection, I agree with the view here. Soc Sec is not a Ponzi scheme, because it is much, much worse than a Ponzi scheme. Even if you take the Mother Jones view on this (and I rarely quote from Mother Jones, for some reason), it 's pretty clear:

...the real problem with Dalmia's description is the notion that Social Security collects money from new investors and uses it to pay off previous investors. It's easy enough to see why people believe this: it was, basically, the way the program was initially sold. And politicians ever since have found it convenient to continue this fiction. Seniors today are all convinced that the money they paid into the program during their working years was somehow saved up for them and now they're getting it back.

But that's always been a lie. Social Security is actually a much simpler program than that. I'm going to put the rest of this paragraph in bold so you can't possibly miss it. Here's how Social Security works: every month we take in taxes from working people and every month we turn around and distribute those taxes to retirees. That's it. That's how it works, and everyone who actually knows anything about the program knows that's how it works. Taxes come in, benefits go out.
(Emphasis in bright blood letters mine, not in original; bold emphasis was in original)

Did you get that? Soc Sec is a lie, a fraud. And that's Mother Jones, well-known branch of Fox News. Not.

Some definitions: A Ponzi scheme
(1) depends on a constantly increasing membership to pay benefits or validate excessive returns to the older member, and
(2) is unsustainable at some point, in the sense that payments exceed revenues by increasing amounts, meaning that new members are needed, and
(3) those new members have to be recruited either through fraud or force, since informed and autonomous new members know that they have little hope of being paid back.

This could be
(A) because the older members get greedy, and take larger and larger amounts out of the system, or
(B) because the number of new members entering the system is not sufficient to pay the benefits already promised.

Some points:
* Mitchell Zuckoff, quoted here, claims “Ponzi schemes are, by definition, fraud.” He may be wrong about other things, too, but he is clearly wrong about this. First of all, Soc Sec is in fact a fraud, as our Mother Jones correspondent ably exegeted. Second, even if people KNOW that the system is unsustainable, the system is Ponzi, because it is an intentionally created bubble. All that is necessary is conditions (1) and (2), NOT fraud. People trade in bubbles long after they know the underlying assets have no real value, as Charles Plott and Vernon Smith have showed. Third, even if the bubble has burst, fraud is not required as long as force is an option. And force is worse than fraud, unless you are a leftist and think you are just forcing other idiots to be free. I have to ask: Does Mr. Zuckoff seriously believe that young people would voluntarily sign up for Soc Sec, if they had an option? Look, fraud means you get screwed unexpectedly. Force means we all tell you young folks you are going to get screwed, and then we screw you, good and hard. At least it's not fraud, right? (Here, again, Mr. Zuckoff asserts Ponzi schemes have to be fraudulent. My claim is that he's wrong; all they have to be is involuntary. Either fraud or choice under duress, which have equal standing as violation of common law contract agreements, are enough to make a scheme Ponzi.)

* And the "It's not a Ponzi, because it can be fixed" argument? It can only be fixed if we kidnap, and then take more money at gunpoint from, "investors." Charles Ponzi's scheme failed because he didn't have tanks. Our President has tanks, and can force new "investors" to pony up. If THAT is your defense of why Soc Sec is not Ponzi, you need to go rethink some basic assumptions about "investement." Being forced to invest at gunpoint is theft. And that's worse than anything Mr. Ponzi could have done. The only reason that Soc Sec is not fraud is that people have no choice about contributing. If it were voluntary, then fraud would be required to get them to sign up. Sure, we can fix this, but only by using force.

* Finally, my friend told me, "Soc Sec is not a Ponzi scheme, because it has served millions of people with income." Dude! Any successful Ponzi scheme, by definition, serves the people who get in early. In fact, most Ponzi schemes serve the first movers much BETTER than Soc Sec has served retirees. The problem with Ponzis is not what happens to the first in, but rather the raping received by the last in. The only reason Soc Sec is working is that Soc Sec REQUIRES young people to become new investors. Again, if Charles Ponzi had been able to recruit by garnishing wages with "payroll taxes," that first Ponzi scheme might still be running along just fine.

Stepping back: I admit that originally, Soc Sec was not a Ponzi scheme, by my definition. But then Congress realized that there was a huge Baby Boom bubble, and created the Trust Fund. And THEN Congress realized that while one could not get reelected by doing the right thing and leaving the Trust Fund alone, one certainly COULD get reelected by looting the Trust Fund now and giving much larger benefits, especially in the Disability and Supplemental categories. (As Coach Duke said, "The pension fund was just sitting there!")

So, when the Baby Boom bulge in retirements happened, Soc Sec became a Ponzi scheme. The benefits were much too large, the Trust Fund was actually debt, not assets, in a period of large deficits. And we don't have nearly enough new people entering the system to keep you fat ass 'Boomers in scones and lattes.

Now, our President, who seems to think every day is "Opposite Day," proposes to solve the Soc Sec problem and the unemployment problem by... by... (I can't say it)... cutting the taxes that finance Soc Sec. Not, mind you, as part of an overall plan with offsetting cuts to make Soc Sec NOT a Ponzi scheme.

Now it will be a Ponzi scheme on stilts, with gold plating.

Except, as SD at Reason notes, this Ponzi scheme will not collapse. Instead, men with guns will find some way to finance it. Deficits are future taxes.

A photo of our plan to fix Soc Sec (it's a metaphor; a "deep" metaphor)


mwbugg said...

Read Brad Delong for a more complete discussion of the full quotes from Samuelson and Krugman. And as Kevin Drum (identified here only as "Mother Jones") elaborates, the future shortfall in SS can be corrected with a relatively modest mix of taxes and cuts.

Anonymous said...

Funny, I thought it was a Ponzi scheme until I read your definition and thought more about it.

Part 1:
"depends on a constantly increasing membership to pay benefits or validate excessive returns to the older member".

First, it does not *depend* on constantly increasing membership to pay benefits. It depends on the government to pay benefits--however it might choose to raise those revenues.

Second, it does not necessarily require constantly increasing membership since presumably there is some equilibrium at which rates and population size could be fixed that would require no membership growth to ensure future benefits.

Is the system is a fraud? It's actually very transparent about how it works, while fraud implies deceit. If the standard of deceit is that the public isn't informed, then deceit is so widespread throughout society as to make the term essentially unmeaningful.

Also, there are not a lot of Ponzi schemes that take no cash profit for the person/group setting them up. Generally, they are designed to enrich their founders.

I think you do have a point about the use of force--but that's a broader problem with government, not just social security, which imposes clear limits on the people and levels at which it forces you to pay (i.e. employed and making under about $108k).

Anthony Bruno said...

CHANGE the funding!
Eliminate the payroll tax and increase income tax rate in
each bracket by one percent
and proceeds going into SS
Trust Fund, and NOT allow
Congress to spend.

This would give every wage
earner and business a five
percent DECREASE in tax

Individuals would have more to spend, businesses would have more to invest.
Details can be found...

Dirty Davey said...

Social Security is not an investment scheme; it is an insurance program. It has two components:

(1) As a worker, in exchange for the payroll tax, you can guarantee that you will not have to spend a significant chunk of your income to keep your retired parents and grandparents from utter destitution.

(2) As a retiree, in exchange for having paid the payroll tax while working, you can know that you can avoid utter destitution without depending on the number, earning potential, and generousity/ gratitude of your children and grandchildren.

The problem Social Security faces now is one of dishonesty. In 1983, right and left agreed to let SS handle the baby boomers' retirement by raising (regressive) payroll tax rates immediately, using the resulting extra monies to invest in bonds, and covering the eventual shortfall by redeeming the bonds (which cost would be covered by the more progressive income taxes).

Of course, now that we're facing the need for redemption, the right (in particular) is unwilling to hold up that part of the deal. The goal of SS "reformers" is to prevent the trust fund bonds from ever being redeemed -- in effect, retroactively making the general taxation of the last 25+ years more regressive. While no one has seriously proposed a formal repudiation of the debt represented by those bonds, an indefinitely delayed redemption would be effectively the same thing.

To my mind the solution is simple: allow the bonds held by the SS trust fund to be sold on the open market. That would make it impossible to repudiate the debt (since bond buyers would not stand for it), and would allow SS to "cash in" the trust fund without requiring a congressional allocation of funds for that purpose.

John Thacker said...

"It can only be fixed if we kidnap, and then take more money at gunpoint from, "investors." "

It can also be fixed by slashing benefits.

@Dirty Davey--

You're completely wrong about Social Security. The shortfall has nothing to do with the Trust Fund or allowing its bonds to be redeemed. Those bonds are redeemed.

The problem is that even after the Trust Fund is exhausted, we have to suddenly cut benefits by 20% for it to be sustainable. The problem is that more benefits were promised than people paid in themselves, and that could only be made up for with an increasing population.

"I admit that originally, Soc Sec was not a Ponzi scheme, by my definition."

It was always a Ponzi scheme, in that the promised benefits were greater than the contributions of an individual member. It was a sustainable Ponzi scheme at the beginning, as Samuelson notes, because the number of young people was ever increasing, so it worked. But from the very beginning, the promised benefits were unsustainable if the population ever stopped growing.

Ponzi scheme from the start.