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February 03, 2005


Thanks hilzoy. ObsiWi continues to provide the best insight and discussion on the Social Security issue. With the lack of information, dearth of dis-information and unfinished proposals, it certainly unsettling and maybe a little scary for some. I agree with you, if the personal accounts a weighted down with oppressive government baggage, that aspect would be hard to support.

Ehh, so the President's SS plan really is all about steering FICA taxes down Wall Street.

If a worker sets aside $1,000 a year for 40 years, and earns 4 percent annually on investments, the account would grow to $99,800 in today's dollars, but the government would keep $78,700 -- or about 80 percent of the account. The remainder, $21,100, would be the worker's.

I don't understand it at all. Maybe I'm just mentally deficient. If I invest my $1000 in, say, some kind of IRA, at the end of 40 years I'd have the full amount, principal and earnings. Why would I invest any of my SS in there?

Great post, hilzoy.

One quibble -- "But more importantly, I cannot imagine why we're supposed to change a program that is working very well, with very low overhead, and which, pace the President, is not facing a crisis and may never face one, for this. It's as though the President's advisors said to themselves: Why don't we try to come up with something that has all the charm and appeal of the Clinton health care plan? And then they went out and did exactly that."

The answer is because the metrics for governmental success in this Administration are not the ones you cite. The degree to which a program cures poverty in senior citizens and works efficiently while doing so is viewed by the Administration as a bad thing, not a good one, as it increases the public's trust in government. They are looking for a program which will be Robin Hood in reverse, taking from the citizens and giving to their favored contributors.

The Bush administration strikes me as being a weird mix of the ideological and the criminal. There are people who support Bush because they think he is ideologically on the same page as them--using the right buzz words, making preleminary excursions in the right directions--but these folks don't seems to be able to perceive how often Bush policies deviate from ideology into merely greedy, self-serving Robber Baron territory.
For example Social Security 'reform". The original motivation seemed to be ideological; the "ownership society" the Cato Institute point of view. That was bad enough, but now, as Hilzoy points out, the plan isn't even good by those standards. It's just a con game. Will the people who want an ownership society repudiate this plan now?

washingtonpost.com has revised at least one paragraph you quoted to read:
If a worker sets aside $1,000 a year for 40 years, and earns 4 percent annually on investments, the account would grow to $99,800 in today's dollars. All of that money would be the worker's upon retirement. But guaranteed benefits over the worker's lifetime would be reduced by approximately $78,700 -- the amount the worker would have contributed to Social Security but instead contributed to his private account, plus 3 percent interest above inflation. The remainder, $21,100, would be the increase in benefit the worker would receive over his lifetime above the level he would have received if he stayed in the traditional system.
A slightly more accurate description, perhaps. Although http://www.j-bradford-delong.net/cgi-bin/mt_2005-2/mt-tb.cgi/271> Brad DeLong disagrees.

I should have tested that http://www.j-bradford-delong.net/movable_type/2005-3_archives/000271.html> Brad DeLong link for my 4:24pm post :)

Could someone explain this 3% business a little more clearly?

I'm not sure I quite get it. Suppose I contribute $1000/yr and earn 6% nominal a year, consisting of 4% real return and 2% inflation. Then after 40 years I have $154,762. But 3% above inflation is 5%, so the government reduces my SS benefit by $120,800 (what $1000/yr would have been worth at 5%)? Is that right?

And if so, I assume that if I earn less than 3% plus inflation the government still pays me some minimum, that is, my private account can never go negative, in effect. So the government is guaranteeing me a return of 3% above inflation on my $1000/yr.

If my understanding is correct I see (at least) three major problems:

1. A burst of high inflation will make this a potential fiscal disaster. High inflation lowers real returns. So lots of people would not earn 3% real returns, and the government will be stuck making up the difference.

2. Even without unusual inflation or other events, some people will inevitably earn less than 3%. This will be costly.

3. There is a moral hazard issue here. Suppose you are approaching retirement and note that your account is below the 3% threshold, or only slightly above it. There is a clear reason to make the riskiest investments available. Perhaps the restricted set of choices would prevent extreme versions of this, but it's still there. Indeed, because workers are playing with the government's money to a very large extent they will always make riskier choices than they would otherwise.

I had a notice from MoveOn several days ago that linked to an article discussing the changeover from wage-based indexing for SS to price-based indexing. I apologize once again for not being able to provide the link....Anyone else have it?

IIRC, according to this article, this change alone would have enormous impact in reducing benefits paid, and that the reduction would increase over time. And I was left wondering if all the hoopla over "personal accounts" was just a red herring.

Listening to NPR this morning, they were interviewing people around the country regarding the President's speech. One late 30-something man in CA was asked about what he thought of the proposal for personal accounts. He said it was fine with him, as long as they gave him back what he had put in. That he had planned to supplement his SS with investment anyway, as no one can live on SS alone. And I thought about how this administration seems to so often appeal to our baser instincts, ie, more money in my pocket. And I wondered about all those poor people who are forced to try to live on SS alone, and what they will do?

Then I almost cheered for the older woman who said that she kept waiting to hear something about sacrifice here at home, not just about that of our soldiers in Iraq and Afghanistan. She compared the climate to that of WWII when the country pulled together and did without to support the war effort. Today, it seems to amount to little more than buying a sticker for our cars as we ride around consuming gas and anything else that we can find.....while growing a national debt of enormous size that we are happy to leave for future generations to deal with. It is not a pretty picture.

Bernard: I just wrote about this in my update. The amount you lose seems to be the amount that (what you diverted from payroll taxes into your private account) would have earned, had it been invested in bonds. And now, what you lose it from seems to be your guaranteed benefits. But your guaranteed benefits are not normally set as "the remainder of your payroll taxes, invested in bonds", but as, well, something else, she said in a handwaving sort of way. -- So, unless I'm misreading it: first, you can indeed lose everything, given the right combination of miserable returns on your private account plus a high enough interest rate to raise the amount you lose from your guaranteed benefits high enough to wipe out your guaranteed benefits. (This is why it mattered to me that your guaranteed benefits do not equal the rest of the money you paid in, suitably invested: then anything that jacked up the amount you lose from your guaranteed benefits would have jacked up the total guaranteed benefits even more.)

But my problem is, I have no idea whether all the little variables turn out to be interdependent in some abstruse economics way that makes everything OK, or whether I've just screwed up, or whether this is a whole new sort of risk.

hilzoy: I am not an economist but,
from SS online currently intial benefits are calculated based on http://ssa-custhelp.ssa.gov/cgi-bin/ssa.cfg/php/enduser/std_adp.php?p_faqid=4&p_created=955128602&p_sid=cMvhSbxh&p_lva=&p_sp=cF9zcmNoPTEmcF9zb3J0X2J5PSZwX2dyaWRzb3J0PSZwX3Jvd19jbnQ9MzAmcF9zZWFyY2hfdHlwZT1zZWFyY2hfbmwmcF9jYXRfbHZsMT0mcF9jYXRfbHZsMj0mcF9wYWdlPTEmcF9zZWFyY2hfdGV4dD1jYWxjdWxhdGU*&p_li=> this, basically on prevailing wages and what you have earned. This is not directly related to interest rates. I'm not sure you can draw a lot of conclusions from that, since I don't think the benefit reduction side has been fully articulated yet. But yes, if they reduced benefits based on interest and set benefits based on wages, you could have wide variations in outcomes.

I'm no economist. But when the government runs up huge war debts, it seems that big inflation follows.

Blech. I was doubtful about Bush's plan precisely because I feared it would be transformed into this sort of overcontrolled pseudo-ownership mess. I wish, as a strong supporter of the general idea of privatizing and/or cutting SS, that my fears hadn't been proven right.

This illustrates a lesson we ought to have learned from the public-choice theorists awhile ago, but too often forget. Even if you support the general idea of a policy, you ought to make your decision about whether to support the real thing not on the basis of the soundness of the general idea, but on what the real plan is likely to look like once it's been run through the Giant Sausage-Making Machine (tm). Actually this one hasn't even finished getting itself mangled yet; it's still in the administration-proposal stage. I can't wait to see what it'll look like once it gets through Congress. Double blech.

Actually this one hasn't even finished getting itself mangled yet; it's still in the administration-proposal stage. I can't wait to see what it'll look like once it gets through Congress. Double blech.

It'll probably end up better than it is now... for a suitable definition of "better".

Finally. Via TPM:
A Bush aide, briefing reporters on the condition of anonymity, was more explicit, saying that the individual accounts would do nothing to solve the system's long-term financial problems."

rilkefan -- yes, that's actually from the briefing I linked to in the original post, which is fascinating reading, if you're into that sort of thing. For one thing, it's amazing to read a whole briefing on the subject of Social Security which systematically ignores the existence of the SS trust fund.

Just for now, I wish I were an economist. But then, if I were an economist, I wouldn't be at this fascinating working group meeting on chimeras in Tempe AZ...


Thanks for the followup. It looks like the plan is for the government to lend you money at inflation plus 3%, so you can invest it in a portfolio of your (restricted) choice.

The repayment rules could stand to be be specified more precisely, since they make a huge difference to the fiscal consequences of the plan, but even so this is a shaky idea.

The moral hazard problem is lessened, but a period of high inflation and low real returns would be a disaster for workers. Note that real returns can easily be negative in such a period. And even without that there will still be those who end up with large net losses.

There is a basic problem here. Someone should explain to Bush that borrowing money to invest in the stock market is a risky proposition. And so is lending for that purpose without very strict controls.

Under normal circumstances an investor is allowed to borrow only 50% of the value of stocks purchased, and if the stock price drops the difference must be made up very quickly. Here we are allowing the borrowing of 100%, and letting the loan run for decades. It is not hard to imagine circumstances in which many retirees, even a majority of the members of a cohort of retirees, have private accounts that are nowhere near the value of their debt. Then what?

Well, one thing I can say, we win this round of the soundbite battle--and Stephen Moore has changed his tune:

"Between withdrawals from a personal account and a Social Security check, total benefits would be the same, whether the loan repayment comes from the account or from the guaranteed benefit. But by leaving the balance of the account untouched, the White House would impart a sense of ownership in the economy, said Stephen Moore, a conservative Bush supporter and author of a book on the president's "ownership society."

But opponents yesterday came out swinging. "This is like borrowing on a credit card to invest in the stock market," said Jason Furman, a former Clinton White House economist.

"A sense of ownership". That is lovely. Could we also get our tax refunds in the form of giant novelty checks, to have a sense of victory? Or maybe just drop the whole thing, to get rid of my distinct sense that I'm about to get screwed, again?

If I were a libertarian or even a traditional conservative--and I am not, so take this with a grain of salt--I would be wary of plutocrats bearing gifts. I would be especially wary if these plutocrats had a track record of horrendous fiscal mismanagement, and a track record of selling their plans very, very deceptively, and an overall economic policy record for which the simplest explanation is "They're writing these plans for their contributors." Even if their plans were, in your view, no worse than the Democrats' version of big government, they could have added disadvantages like high interest rates and completely discrediting the idea of privatization.

Could we also get our tax refunds in the form of giant novelty checks

Sorry, I gotta ask. How do they cash those things? Does Tiger Woods or Venus or Serena Williams have to sign the back? Can they use a regular pen or to they need some super fat one?

To try and present at least something interesting (along the lines of 'you think your back is bad...') here is a pdf discussing the problems of the Japanese pension (equivalent of the SS system). This pdf estimates that by 2025, there will be only 2 active workers for every one retiree, so when I see Bush talking about the crisis in Social Security, I laugh.


It used to be the case that you could write a check on anything. Remember counter checks?

In fact, I vaguely remember a TV show where they gave people checks written on things like watermelons and watched as they tried to get them cashed.

Katherine, here's a brief look at what a few libertarians think of it. Which is to say, not much.

Still trying to figure this thing out. Based on a report from CBPP it looks like the loan payback will be in the form of a reduction in the monthly benefit calculated to pay back the loan over one's life expectancy. According to their example the breakeven point is an accumulation of $152,000 in the private account, which would be paid back as a $10943 annual benefit reduction. That raises further problems.

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