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01/05/2005: "Social Security"
Social Security was created in response to the Great Depression, at least that is what I have been told. The story goes that at that time there was no guarantee that elderly people, who had passed their active earning lives, would have money to survive on. A noble goal and, it seems to me, one that has been accomplished. So now, we are told it does not work any more. We are given many arguments for this, and I will try to bring some intelligence, accuracy and perspective to the current debate.
• We are told that now there are only 4 or 5 workers for every retiree, and that at the time of its inception, there were 40 or 50 workers for every retiree. We are told this is simply not sustainable.
• Further, we are told that because of this, Social Security is running out of money and that if we don’t fix it we will not have any money left for future retirees.
• We are also told that for current workers, putting money into Social Security is not a good investment, that they would get a much better return on their money if they were allowed to invest it in their own “Retirement” accounts.
• And finally, we are told that the government is doing an inefficient job of managing Social Security and the private sector could do it better.
I believe these fairly and honestly list the major arguments for social security reform. Shall I examine them?
Lets go back to when Social Security was enacted, at that time there was certainly no Social Security Trust Fund, in fact if any fund analysis would have been done it would have found that the fund had a 100% unfunded liability! What this means is they did not have enough money in the bank to ensure even the first dollar of obligations to present and future retirees. Still confusing, isn’t it. Well let me back up a little bit and discuss retirement plans.
There are basically two kinds of retirement plans (with lots of shades and flavors, but we will not go into those now), Defined Benefit Plans, and Defined Contribution Plans. These are just what they sound like.
A Defined Benefit Plan is a plan where the benefit, or amount of money due to a retiree is defined by rules. These rules can include years worked, age of retiree, contributions of retiree, contributions of employer, federal and state laws, etc. etc. Basically the plan guarantees (or entitles) the beneficiary to a certain amount of money (monthly or lump sum) if they meet the rules. The fund is obligated to come up with the money come warm weather or high water. An example of this kind of plan includes government pensions, most union pensions, and Social Security.
A Defined Contribution Plan is a plan where the monthly contribution is defined. The beneficiary is entitled to whatever money happens to be in the plan at the time of retirement. Examples of this kind of plan include savings accounts, IRA accounts, 401K accounts, and the new “Personal Retirement Accounts”.
There was a time, not really too long ago, when most corporate and industrial jobs in America came with Defined Benefit Pension Plans. This was one of the hard fought victories of the labor movement, and was generally thought to be a good thing. It turned out not to work so well. What happened is that the money collected by companies for the pension plans could be invested in anything that met the elusive “due diligence” test. Due diligence is kind of like pornography, the Courts could not define it, but they knew it when they saw it. Anyway some corporations invested most of the money in either their own, or in related companies’ stock. A pretty good deal for them since it allowed them to spend the money on their business. The problem was when they went bankrupt, or were bought, sold, merged, divested, or indicted, the pension was worthless. What you say, wasn’t this a Defined Benefit Plan, and didn’t the beneficiaries have a right to their benefits? Well, yes, but just tell that to the Caterpillar employees, the first large corporation in the 1970’s to simply tell their pensioners that they were SOL, the money was gone. And the court’s backed them up.
As more and more corporations were adding up the dollars they owed to present and future retirees, and saw that it was money they would rather spend on seven figure CEO salaries and private jets (ok I admit it that was a cheap shot, but I make the rules and I allow my self a cheap shot every once in a while), this looked like a pretty good idea. Over the 1970’s, 80’s, and 90’s, thousands of private pension plans went away through the bankruptcy court. Somehow most of the assets of the corporations continued to be in business with most of the same managers and stockholders. Sweet deal huh, it is like if I can just sweep away all my credit card debts, my mortgage, my car loans, but keep all the stuff, and continue to charge, borrow and spend.
So what did we replace this with? Do dum de dum ….. 401K. Yeah, I know it is a weird word, but it is named after the chapter and paragraph of the Internal Revenue Code that authorized it. So what is a 401K? Well basically it is a savings account with a few interesting twists. They are, that the money you put into it (within limits) is not taxable in the year you earned it, it will be taxable later in the year you spend it. That your employer can (but does not have to) put money into it that again will only be taxable in the year you spend it, and that you cannot spend it until you retire (without penalties etc). Your employer can decided at their own discretion what kinds of investments you are allowed to make with the money, if they wish to contribute to it, and are even paid for their efforts. Again a pretty sweet deal especially when you consider that now there are no pension obligations at all. How has this turned out? Well the best answer is that we do not know yet, as most of the people who have switched to this system have not yet retired. We do have some pretty bad examples, like Enron, Worldcom etc, where employees were given significant incentives to invest their 401K in company stock and then, through bankruptcy or similar action the pension was wiped out … Sound familiar?
It is safe to say that the 401K people’s retirement will be varied. Some people will have a lot of money, some people none. The majority of the studies say that most low to middle income people will not have enough. As for the employers’ contribution, a vast majority of workers in many industries, especially the technical and computer fields, do not stay at one employer long enough (or more often, their companies do not stay in existence long enough) to get “Vested” in their accounts. This means they actually never get any of their company’s money, just there own!
There is a lot more we could say about this, like who gets to invest the money in 401K’s. Who are the financial firms, mutual funds etc. in this entire industry that has sprung up. We could also mention that there does seem to be a big problem with over 50 workers who do not have enough money in their 401Ks to retire on, so the government is allowing them to invest more and more per year in hopes they will “catch up”. This assumes, of course that people can afford to live on only 85% or 80% of their income.
One of my conclusions from this history is that businesses are in the business to make money for their executives and stockholders, not for their employees and beneficiaries, and that any corporation that did not take every legal means to lower their payouts to beneficiaries, would quickly get new executives who would. Is this the system you would want to give your retirement to?
But there is a sector of our economy that still has some defined benefit plans and still has a large liability. That, of course is the government. You cannot open the paper without reading an article about some teacher’s retirement fund, or police/fire retirement fund, or public employee’s retirement fund, that has what is called an “unfunded liability”. This means that an analyst adds up all of the money due to present and future retirees, and using some assumptions about investment return, retirement age, etc. they come up with an amount of how much money they should have “on hand” or in the bank as it were. Let’s be clear. No fund has ever been 100% funded. This is a myth. As a Trustee of the Minneapolis Teachers Retirement Fund, we instructed our lobbyists to be outraged at our “irresponsibility” in not being fully funded, but I knew, and I presume the other trustees knew, that full funding is only a goal, kind of like absolute zero, or software that is perfectly compatible with an IBM PC. In the real world, pensions, especially government pensions, are pay as you go. Most of them do invest the money when they have it, and when the government lets them keep it, but it is a myth that they are self-funded.
Now we can begin to think about Social Security. Social Security is not out of money!. The fact is that Social Security has been running a surplus for more than a decade and is projected to continue to run a surplus for a while. So what is the problem? Social Security is not investing the money, or actually it is investing the money in U.S. government bonds. What this means is that the Social Security Trust Fund is loaning its surplus to the Federal government. And, here is a really neat trick, the Federal government doesn’t really have to recognize it as a payable, since it owes it to itself! Yup, the workers, you and I, who are paying into the most regressive tax we have, the Social Security payroll tax, are simply subsidizing the rest of the federal government, the Bush Tax cut, the payoffs to the Savings and Loan scandal, the Iraq war etc. They look at our deficit, and say, Social Security is in trouble. We must protect future retirees. You might ask, isn’t there an obligation on the part of the government to pay this back? Good question. The obligation is to the present and future retirees. And there is the rub.
The Social Security trust fund has collected plenty of money, it just doesn’t have it, and the government doesn’t keep the books in such a way as we will ever get it back. Soooo—the only thing left for the government to do is to try what the private sector has done, convince the country that the system is bankrupt and move to a private system where the government makes no promises and the financial industry can have all the money.
But the most important question is, will this system provide better for retirement for low income people?
Well the program extracts over 16% of everyone’s income from the first 87,000 or so that is made, and nothing over that. That is arguably the most regressive tax we collect in this country. Someone who makes 87,000 pays 16%, someone who makes twice that pays 8%, four times that 4%, 16 times that 1%, 32 times that one half of one percent. Get my point?
Secondly it is axiomatic that individual investors are the “dead money” in the market. The professionals get rich off of them because they either don’t have the professional’s experience, or they are paying the professionals for the advice. Either way the professionals make money.
And thirdly, we are allowing more and more exceptions to keeping the money until retirement—education, loans, childcare, etc. The more we dilute the system and allow people to spend their retirement on other things, the less it is a retirement system.
So let’s recap the arguments for reform.
• We are told that now there are only 4 or 5 workers for every retiree, and that at the time of its inception, there were 40 or 50 workers for every retiree. That this is simply not sustainable.
Conclusion—This is true, but it should be offset by a trust fund that was built up when the boomers were working. This trust fund has been spent on tax cuts for the wealthy, subsidies for corporations, wars, and, of course, interest.
• Further, we are told that because of this, Social Security is running out of money and that if we don’t fix it we will not have any money left for future retirees.
Conclusion—Again, for the foreseeable future this is only true because the trust fund doesn’t exist.
• We are also told that for current workers, putting money into Social Security is not a good investment, that they would get a much better return on their money if they were allowed to invest it in their own “Retirement” accounts.
Conclusion—We don’t allow the Social Security Trust Fund to invest in the stock market because it is too ‘speculative’. Does anyone truly believe that tens of millions of private investors are all going to make money in the stock market? Who would they make it from? Each other, the professionals, or are we just creating more “dead money” for the financial industry to suck up.
• And finally, we are told that the government is doing an inefficient job of managing Social Security and the private sector could do it better.
Conclusion—History simply does not bear this out.
This has become pretty long and it is enough for me and the rest of you to chew on for awhile. The whole thing looks like a shell game to me, what does it look like to you?
Since I wrote this article, and excellent article on the Fake Social Security Crisis appeard in the New York Times. Check it out, "Paul Krugman on the Bums Rush"
Here is another good article on this subject.
"Lynching Social Security By Molly Ivins"