Asymmetrical Information

How about the Law of the Medes and Persians, which cannot be changed?

But wouldn't issuing a trillion dollars in new government securities cause the value of such securities to go down?

Is it possible to estimate the direction of the influence private accounts might have on the economy? I THINK private accounts would lead to greater capital formation which would lead to greater productivity, etc. Or is it impossible to estimate this effect given that we don't know how the various actors (government, individuals, businesses, etc.) will respond to the existence of private accounts.

What bugs me is how the capital markets will react to a massive influx of new capital. My guess is it is going to be invested into companies and projects with less and less marginal utility. We saw something similar with the internet bubble, everybody and their uncle was investing in hi-tech stocks, but a lot of these companies never had a decent business model and subsequently died. If something like this happens on the scale of a nation's pension plan ... don't get me wrong, I'm all for the idea, but the transition is going to be a tough one, you can't just flood the market with those trillions all at once.

apex

I think only looking at the benefits out of social security is seeing only half the problem. I haven't seen many people worried about those who are paying in. What's the affect on their lifestyle by the current tax burden or increasing it so that benefits don't have to be cut.

I also wonder how the markets will respond to increased cash comming in.

Given that both taxes and stock returns come out of the same economy, I can't imagine a case where stock do poorly but the tax base is unaffected. Any long term serious reduction in stock values will also have a long term serious reduction in taxes and visa versa I expect.

It seems to me that some people assume that the taxes that go into SS are immune to the problems that affect the broad stock market. And that the tax payers are also immune.

Has anyone compared the return on stocks or the value/growth of stock against the amount of taxes the government takes in?

Tautala: I posed on what I could afford if I were keeping my portion of SS contributions here. Basically, the young are getting totally hosed.

Apex -
You raise an interesting question which I've often wondered about. If current SS contributions were instead invested in equities and corporate debt, wouldn't the additional capital inflows cause prices to increase for these securities, forcing their yields downward? If so, then wouldn't the invisible hand of the market compel investors away from the now pricey private sector investments and into relatively cheap treasury securities? It would in a perfectly rational world, as current prices for treasuries and equities should reflect the collective assessment of their risk-adjusted values. At the end of the day, the relative yields and prices of treasuries and equities would be exactly where they are now.

Of course, as your post implied, we don't live in a perfectly rational world. It would be interesting to see how much of the new capital flow into private investments would be offset by a price driven reactive flow back into government securities.

Timothy,

Precisely. Security is a good thing, but not the only good thing.

I like your site!

Two points.

Your * on the "assets cannot be taken" row is an important one. The plan already calls for offsets in traditional benefits, sliding those up wouldn't be impossible.

Second, residual value at death is nil if you have to buy an annuity at retirement. You need at least a star for this.

Anonymous: Yes. That's what I'm referring to in the 'supply of debt' comment on the last line.

David: A good point but hard to predict. National Savings don't increase and the increase in debt has a crowding-out effect. However, cost of capital would decrease and capital allocation would be a bit more efficient. I don't know how to score it, and the 'effect on the economy' will end up seeming like an ideological argument.

Apex: If the influx is in the form of a small portion of FICA receipts it will be absorbed with less drama than a sudden transfer, but would certainly prop up the equity market (all else equal).

Retief: Both good points. Is that the plan? You *have* to buy an annuity? Let me go check...

I'll consider this stuff and make revisions. I want the next version to be a table so I can add hyperlinks to reference supporting materials and arguments.

We don't know what the plan is. In some people's plans you have to buy an annuity. A "senior administration official" has suggested that one would be required to purchase at least a some sort of annuity.

Dreck baby, I had a thought. It's not hard to calculate the return on Social Security "investments" if we know a worker's wage history and life expectancy. If someone born in 1980 were to retire at 67 and only made minimum wage his or her career - I say "his or her" because I am using the combined life expectancy (that's the projected life expectancy for the 2045 cohort aged 65) - his or her IRR would be 2.69% using the current 12.4% rate and current benefits calculations. Of course it would be lower since taxes will go up or benefits will go down. It is lower for men and higher for women; lower for blacks. But let's say it tops out at 2.69% real.

Many like to call this a "riskless" return, but in fact it does have risk. It's basically a default event: the death of the worker or retiree. Using tables of annual cohortal death rates and cumulative survival rates, we know exactly what the risk of default is. We have to modify this because of survivors' benefits. Surviving spouses may get retirement benefits, but we know the probability of a given individual in a given cohort being married, and we know the same death and survival rates for the spouse. We can figure out the probability that a worker who does in any given year will have children, and how old they will be and what benefits they will receive. It would be a lot of number crunching and a huge financial modeling headache involving cumulative probability functions and some kind of tree with lots of branches, but it can be done. Once the default risk is known, we can look at the spread between Social Security's returns and the yields on something like historical T-bill rates, which are 0.7% real, I think. Compare that to the spreads between corporate bonds with similar default risks and treasury bonds.

I'm not suggesting anyone actually do this, but I'd love to see how SS performs as a risky debt security, which I think it is.

In some people's plans you have to buy an annuity.

While it is true that there really isn't a plan, I believe that the administration will have a hard time accepting a plan that does not require the purchase of an annuity.

A very interesting question will be, from whom will I purchase the annuity, the government or a private source? I tend to think it will be the government. Can anyone guess why?

Maybe if, instead of floating a huge bond issue to fund these accounts, we just opened a bond account for each of us and credited the bonds to our account. Then we could all decide if we want to sell them and buy equities or hang on the the government-guaranteed income stream.

It's unlikely that everyone would hit the door at the same time, but if they did the market would adjust to higher yields and attract buyers. And this would take the supply pressure off the existing bond market. Plus, instead of owning a piece of a memo in a drawer, we'd own the bonds themselves and they would be otherwise indistinguishable from Treausry bonds.

I like my idea.

Not so many comments, this thread, yet 200+ and counting in the other.

Is it more fun to complain about problems rather than discuss solutions, or did opponents of the prevailing thought train get tired of hurling themselves against a Dreck Wall?

Argument is clearly more fun than analysis. I notice they are still doing it here.

I'm trying to create a common baseline for advocacy. There's no reason this should be an issue that breaks strictly on party lines. It's the confusion about the facts and mechanics that allows the partisan demagoguery to cloud the rational debate.

Oh by the way, Lawckbawx, Nest Egg.

"Given that both taxes and stock returns come out of the same economy..."

Not so. As Jeremy Siegel points out, you can invest worldwide:

http://www.techcentralstation.com/050505D.html

Btw, you don't have to speculate. Smetters, and now Nataraj and Shoven, show:

http://64.78.48.77/trustfund.pdf

Had we been investing surplus funds privately, the budget deficit would be smaller by abnout 150% of the current amount of the trust fund 'surplusses'. Which means we would have had more real saving and investment.

Also, Mindles might want to look at Canada's results of their change to an investment based program:

http://www.cppib.ca/index_en.html

Of course private accounts can be 'taken'. Govt can do what it pleases and it can easily create a new tax for them. Remember when SS benefits were not taxed? Reagan changed that.

If Bush really believes that the stock market will outperform Treasuries why not propose to invest, starting today, all SS surpluses in some diversified portfolio? That's about $150 B this year alone.

"If Bush really believes that the stock market will outperform Treasuries why not propose to invest, starting today, all SS surpluses in some diversified portfolio?"

I can't answer for the President, but one of my concerns about investing SS tax money in the market is who gets to make the investment decisions. State and local governments have a pretty hard time managing their pension funds without yielding to the temptation to use those funds as yet another tool for punishing behavior they don't like and rewarding behavior they do. I have little faith that the SS funds could be kept in one pool and Congress would NOT start using the funds for "investments" in an airport or other "opportunities" designed to produce more of a political return than an economic one.

Private accounts, as long as the individual has a lot of say on how those accounts are invested, would make it more difficult for Congress to divert the funds to pork.

David - we allow the Federal Reserve, the chairman of which is appointed by the President, to set short-term interest rates and to manage the money supply. The Fed seems to be working pretty well, even if Greenspan overshoots sometimes. I believe a similar type of oversight could be created for the governmental investment fund.

Additionally, the returns of the fund would be a matter of comparison to that of independent mutual funds. Any pork-diversion would probably decrease the returns on the fund, which would likely lead to a change in management.

Jane, shouldn't you have a line for "disabilty and survivor's benefits"? They're an important part of the current system, and the disabilty part will become more important as the retirement age gets pushed back. Since they're both insurance functions, both would presumably be worse to whatever extent the current defined-benefit system is moved toward defined-contribution.

To the best of my knowledge no one is proposing either private accounts that are 100% invested in equities or allowing the “owners” (is there a better word? assignees? what's being discussed sounds more like fee tail or a trust than ownership). The returns on the mixes being discussed are almost certain to be lower than the returns on equities and, consequently, the historic returns on equities are irrelevant to the discussion except as a (distant) upper boundary.

The return on optional personal accounts is irrelevant to the debate, because;

1. No one is making the case anymore that private accounts will keep benefit cuts from happening - the cuts are going to happen.

2. The accounts are optional. No one has to play the market if they don't want to.

The only justification needed for optional personal accounts is ownership, and the relevant question is, what exactly will the government mean by ownership.

Mark,

I don't see that personal accounts will have any effect whatsoever on the welfare elements in the system (disability, etc.). We're only talking about 4% out of a total of 12% going towards personal accounts. The impact will be entirely on the retirement element.

"If Bush really believes that the stock market will outperform Treasuries why not propose to invest, starting today, all SS surpluses in some diversified portfolio? That's about $150 B this year alone."

Better yet, change the law that makes the special bonds unmarketable, and begin converting them into equities, foreign and domestic, thereby creating a real trust fund with REAL ECONOMIC ASSETS.

Be careful for what you wish, GT.

"What bugs me is how the capital markets will react to a massive influx of new capital ... you can't just flood the market with those trillions all at once."

World capital markets are on the order of $60 trillion. With private accounts one is talking about maybe $200 billion year (with maybe half going into stocks). That's a "flood" equal to around 1/3 of 1% of capitalization.

"It's not hard to calculate the return on Social Security 'investments' if we know a worker's wage history and life expectancy"

It's been done, of course, by many including the SSA actuaries. There's a chart here, and numbers from the actuaries quoted here.

Note that these negative returns for the young are themselves 25% underfunded, and there's no way around that with a paygo system -- so move the real annual rate of return down one full percentage point for all, from the annual rates given.

"both taxes and stock returns come out of the same economy"

I can get my stock and bond returns from anywhere in the world -- with the world economy growing considerably relative to the US economy over the next 40 years. OTOH, payroll taxes can come only from US payrolls, which will diminish in size substantially relative to SS obligations over the next 40 years.

"Maybe if, instead of floating a huge bond issue to fund these accounts, we just opened a bond account for each of us and credited the bonds to our account. Then we could all decide if we want to sell them and buy equities or hang on the e government-guaranteed income stream."

This proposal has already been made as an obviously "no transition cost" method of making a transition to private accounts.

"Of course private accounts can be 'taken'. Govt can do what it pleases..."

Well, I suppose that the lefts' attitude towards things, but the last I looked the US Constitution was still in force and it has a 'takings clause'.

"and it can easily create a new tax for them. Remember when SS benefits were not taxed? Reagan changed that. "

Subject income to income tax, like all other income? That's hardly a 'taking'. ;-)

Subject income from private accounts to a special excise tax of 5%, 10%, 20%? Maybe, if politics decrees.

'Take it'? Sorry. The Constitution says private property will not be taken by the government without "just compensation" (Hmmm... what would be just compenstation for taking $50,000? Maybe $50,000?)

In comparison, without private accounts Congress has a free hand to leave any unpopular group of people with exactly $0 --- zilch, nada, nothing -- when the future day of financial stress comes, by say changing eligibility requirements or imposing means testing, no matter how much theose people paid into the system over how many years.

BTW, considering the negative returns coming from SS, an income tax or excise tax on any positive return from a private account would be comparatively good deal.

Gosh, Jim, here I was thinking I had really blown the discussion wide open! Thanks for the link.

If Bush really believes that the stock market will outperform Treasuries why not propose to invest, starting today, all SS surpluses in some diversified portfolio?

This and other posts have suggested the Federal government really ought to be the investor of last resort here. But why? What is it about having government control this money that gives you guys the happy twitches?

Well, the first polls are out concerning the President's revised proposal. Turns out the majority of the middle class aren't in favor of the proposed benefit cuts, but most do favor higher taxes on the rich. Sometimes I'm embarrassed to be a member of the middle class...

The chart inadequately expressing the effect of Bushes proposals to both SS beneficiaries as well as to taxpayers.

Consider the effect on all future SS beneficiaries. Right now a person in their twenties making a median income counts on 'x' dollars from SS as a base for their retirement income. They each recieve a printout from the SS administration each year telling them what their benefits will be at several optional retirement dates. Bush first proposes to reduce that amount by about 40% - 50% without a corresponding decrease in their SS withholdings. So right off the bat he puts them in hole retirment income wise.

Secondly Bush proposes they dig themselves out of this hole by self-directed investments of a small portion of their SS witholdings. The chances of anyone actually being able to make up the cuts in guaranteed benefits by this investment account is mostly if not totally dependent upon forces completely outside of their control, ie - a strong economy leading to a good market to invest their money into. (But of course if the economy is strong their would be no need to cut the guaranteed benefits anyway cause the tax revenue would be more than sufficient to carry current benefits) Given the small amounts invested plus the fees and expenses and the kind of poor economic environment Bush is predicting it is doubtful if many will be able to make up for this loss of income.

And thirdly as taxpayers during their working years they will be hit with higher taxes to pay for the 2 trillion in extra borrowing Bushes plan needs to fund the benefits to current retirees.

As I see it this is a lose, lose, lose proposition.

Patrick,

Absolutely, that too. Let's see Bush propose it. Any chance?

Jim,

Really, at least make an effort. Constitution? Congress can tax personal accounts if it wants to.

Ken - Your post seems based on the notion that, absent Bush's plan, there would be no benefit cuts or tax increases in the future. I don't accept that assumption. In 12 - 15 years, the SS Administration is projected to start paying out more than it takes in in taxes. After that point, without changes, there will be benefit cuts, tax increases, or both. Given that reality, for the President's proposal to be a lose, lose, lose proposition, you have to compare it to what may well be projected to be a far worse situation.

Jim Glass:

Yes, I've seen such charts, and I have run some numbers myself. What I'm more interested in, as I stated, is the default risk.

A private forced pension plan micro-managed by Government on top of the SS paygo system ?? Way too complicated. Complicated schemes never work. "Keep it simple stupid ..."

It is obvious to all that, trust fund or no, SS will have to be balanced out - taxes raised (or not), benefits reduced and means tested so that output equals input. Let SS go it's natural course. Poor old people will be assured to receive some mothly payments, the rich don't need SS and will not get much.

Private savings accouns ? Everybody can save as much as they please. Why mix SS with private accounts ? To foul things up ? Leave SS out of it !

Advocates of SS mandated private acounts want a de-facto reduction in payrol taxes (you keep part of them in form of private acounts). Fine - I too am for reducing payrol taxes - so reduce them (and benefits - accordingly). Who complicate things with obligatory "private" savings accounts ?

I feel strangely guilty for not posting earlier on this threat, when I had an indirect hand in originating. Life has been unhappily busy.

A minor quibble with the comment that I jumbled 'private accounts with an equity-invested government reserve.' My intent was to note that

If one believes that private accounts help Social Security by switching surplus dollars into private assets, then one should believe that an equity-invested government reserve should also do the trick.

On a more substantive point, my general view is that the upside of private accounts is capturing excess market returns. Direct government investment of the Social Security surplus achieves the same goal more easily.

It is clear that
1) Pensions outperform 401(k) plans
2) Even confined to few choices many investors will make poor asset allocation decisions, and engage in unnecessary, poorly-timed trading
3) Privates accounts will cost a lot more to implement.

So private accounts are likely to underperform a government run equity account. Moral hazard also prevents the government from insuring private accounts. What are the downsides of a trust fund that held equities? I have seen two categories of objections raised

1) Government-held equities are wrong. Either the government will meddle, or will invest foolishly. I fail to see a big difference between the government choosing index funds directly, vs. letting citizens choose from a small set that the government selects. But I do see a small difference.

2) Private accounts are less vulnerable to being seized. In general people acknowledge the government might take a large percent of the accounts, but argue that the government will not be able to take all of them. But surely that describes social security benefits as well. Is a 30% tax on accounts more difficult than a 30% cut in benefits?

Cheers,
Tom

Given the fact the Bush's "Energy Policy" is ghost-authored by Engery Companies(some would say Foreign Policy as well), Prescription Medicine Policy by Pharmaceuticals, and Bankruptcy Reform by Credit Card Companies, is it far-fetched for me to assume that this plan is simply another corporate boon, this time for Investment Houses? As alluded in previous posts, this non-fleshed out plan certainly doesn't give hints that it will be "government controlled."
God bless Republican consistancy! You might not know where the Democrats stand on something, but you can rest assure that the rich will get richer with the GOP.

--Cobra

David, any cut in benefits or increase in taxes right now is purely a political decision as there is no compelling economic need to do either. So yes, right now the correct assumption for a rational person to make is that absent Bushes plan to cut benefits their would be no benefit cuts.

Mindles,

As a side note, I remain confused about what you think the proper frame to examine Social Security is. You wrote:

"The 'Social Security System' perspective is meaningless since it's part of the government."

But you also write about Social Security having to make up its $4 trillion deficit. That's a point of view focusing on Social Security's finances separately.

My answer is that I look at the consolidated finances when assessing the solvency of the government. I look at Social Security's finances when assessing the solvency of Social Security.

Your answer seems to be that you look at consolidated finances for the balance sheet, but not for cash flow.

So I ask again, what do you believe is the appropriate perspective to use when analyzing Social Security?

Cheers,
Tom

Ken,

Re; "...any cut in benefits or increase in taxes right now is purely a political decision as there is no compelling economic need to do either."

Which means only that you are not easily compelled.

Says Jo Anne Barnhart, Commissioner of Social Security.

“For nearly 70 years, Social Security has provided financial security to American workers and their families. Our grandparents and parents were confident that Social Security would be there for them. Current retirees and near retirees can be just as confident. But for our children and grandchildren, unless changes are made, this report shows that their promised benefits are not secure. I am confident that by coming together in a bipartisan way we can ensure that Social Security continues to provide financial security for future generations.”

Social Security is nothing but a tax with a fancy name. What makes this true is that the workers who contribute to the system have no property rights to benefits (1960 Flemming v. Nestor).

If private accounts are to be meaningful, they must specifically provide property rights. If this is done, the net effect is a percentage reduction in a regressive tax. If it is not, then private accounts are simply a scam within a con.

The fact that said "property" may be further taxed is irrelevant, as the government taxes property now. The extent to which government taxes property is a great topic for another debate, but for now, what matters is giving workers property rights to their benefits.

Tom G.
You contend that
"It is clear that
1) Pensions outperform 401(k) plans "

I counter that this is not at all clear. Check with the employees of any of the major corporations which have gone bankrupt in the last few years (e.g. almost any major airline). Pensions are a promise (kind of like SS), but the PBGC frequently reduces the payments you would have received under the plan, when the plan is unable to pay. IIRC, some 75% of Pension Plans in the country are currently underfunded, and the PBGC is another potential black hole of spending.

I would argue that 401(k)s are vastly superior to pension plans - given that employees have an almost immediate ownership, the plans are portable as you move from job to job, and unless you're as st*pid as many Enron employees were, you can diversify your investments such that you're not tying your retirement savings to the same company that employs you.

Neil

"Government-held equities are wrong. Either the government will meddle, or will invest foolishly. I fail to see a big difference between the government choosing index funds directly, vs. letting citizens choose from a small set that the government selects. But I do see a small difference." - Tom

Tom, if we disagree at all, it's on the risk of government's meddling. Even if we required that the funds could only be invested in an equity index, how long do you think it would take before there was a call to exclude undesirable companies (such as those that produce tobacco) from the index? How long before the trustees are pressured to vote for fair labor practices? How long before the trustees demand a say in the pricing of essential items, like prescription drugs? It seems to me that this would be an irresistible temptation. The argument would be that the SS trust owns shares in these companies and, just like any other owner, the trust should use all its rights of ownership, including voting.

Look at the state pension funds. The managers of those funds are frequently under a lot of political pressure to act -- and they frequently do. In explaining their actions, the pension fund managers couch their decisions as being based on what's in the long term interest of the pension beneficiaries, but the actions frequently look to be more politically than investment motivated. Of course, you don't need to look to public pension funds to see political pressure on how investments are made. Look at the endowment funds of major private universities and the current call for such endowments to divest from Israel.

By allowing private accounts, and by allowing the account owners to vote any shares, and by allowing owners substantial discretion in how the account is invested, I think much of the risk of meddling can be mitigated. To me, mitigating this risk is worth the extra cost (if any) administering separate accounts would require. YMMV.

Randy, the commissioners statement is political. Future benefit payments to our children or our grandchildren are based entirely upon our will (or lack thereof) to keep our promises. There is no compelling economic reason to reduce their benefits now.

The single best way to fix Social Security is to fix the budget deficits. By strengthening our balance sheet now we make it easier to meet our obligations in the future.

What if private accounts were invested in Treasuries and only Treasuries? This gives us property rights plus an asset with returns roughly the same as what the standard system pays, with none of the administrative/risk problems associated with investing in stocks.

I'm thinking this would be a major step forward, and could be done now. If it works, we can address the possibility of investing in the markets later.

"Gosh, Jim, here I was thinking I had really blown the discussion wide open! Thanks for the link."

Great minds like you and Pollock think alike. When you get a lot more lesser minds like mine introduced to the idea maybe you will blow it open. It's interesting analysis.
-----

"Jim Glass: Yes, I've seen such charts, and I have run some numbers myself. What I'm more interested in, as I stated, is the default risk."

Which you defined as:

"It's basically a default event: the death of the worker or retiree..."

That's included in the rates of return calculated by the actuaries and on that graph, as is the value of disability insurance and other SS benefits. So I'm missing what you're driving at.
----

"Jim, Really, at least make an effort. Constitution? Congress can tax personal accounts if it wants to."

Talk about making an effort, if you're going to mention my name try responding to what I wrote.

Ken,

You say; "Future benefit payments to our children or our grandchildren are based entirely upon our will (or lack thereof) to keep our promises."

Close, but not quite.

"Our will" is exactly the problem. Our "will" has been to deficit spend at the expense of our children. Your statement speaks not to "our will", but to "our children's will". You expect that we should press happily on in our mad spending spree and expect "our children's will" to pay for it. One quick way to show that we do indeed have some integrity is to immediatly cut back on our Social Security benefits to reduce the burden on our children, and demonstrate clearly that we actually do give a damn about the next generation.

P.S. Whether or not there is a problem is a matter of trust. Do I trust the Trustees of the Social Security Administration? - or do I trust the people who are trying to protect their own piece of the pie at all costs? To me, the decision is easy.

"Future benefit payments to our children or our grandchildren are based entirely upon our will (or lack thereof) to keep our promises. There is no compelling economic reason to reduce their benefits now." - Ken

Jeepers! You, are of course, correct. All we need is the will to keep our promise to make certain payments in the future. The point I and others have been trying to make, however, is that the method we've established to make those payments, the payrol tax, cannot fully fund them. So, either we modify our promise or we change the funding method. That is, either we reduce projected benefits or we raise taxes (or we reduce other government spending and pay SS benefits out of general revenue).

Just how bad do things have to get before you consider the sittuation to be compelling? Even Nancy Pelosi says something has to be done -- just not now and certainly not whatever it is the President will suggest should be done. Most Democrats, including President Clinton, in the late '90s said something needed to be done. Ken, you seem to be among the very few who find the current sittuation does not require something to be done.

Randy, spare us the "for the children" bullshit.

Social Security is thorougly designed to do nothing but screw the children.

Here, I'll make it simple.

How Social Security Works, In One Lesson:

Current workers, The Children, and The Unborn ---$11,000,000,000,000--> Current retirees and the dead.

Get it?

Randy and David,

The decisions we make to either protect the Social Security scheme we now have, to radically change it, or to just tweak it are all political decisions. There is no pressing ecomonic crisis facing social security that demands we address it right now. Indeed, with increasing productivity and a strong economy the problems you forsee correct themselves as increased tax revenue will surely result.

The 'crisis' is not in social security but in the general budget which has been decimated by irresponsible tax cuts. Never before in human history has a ruling class believed that the way to raise government revenue is to reduce their own taxes.

What the government can do to ensure the long term survival of Social Security is to get its own balance sheet in order and act fiscally responsible. The best means to do this is to increase the progressivity of the tax structure right now. As Clinton proved, a fiscally sound government provides the most fertile environment in which business can thrive. Fix the overall problem with government irresponsibility and you fix the problem with social security.

AT,

Got it! If I had my way, Social Security would never have existed. But it does. Just dealing with the facts on the ground.

Ken,

Re; "...with increasing productivity and a strong economy the problems you forsee correct themselves as increased tax revenue will surely result."

Of course. Unfortunately, the assumption that good times will always be followed by better times is the basic problem with the system. Because of this assumption, politicians treat Social Security as a patronage scheme in good times, and a sacred cow in bad times. This is why we are where we are today. The Trustees of the Social Security Administration are telling us of the probability of bad times ahead. Specifically, a large group of retirees is about to throw the equation out of balance. So;

a. If you are wrong and the Trustees are right, and we do nothing to adjust, then our children and/or grandchildren are going to have it really rough.

b. If you are right and the Trustees are wrong, but we make the adjustments anyway, then the boomers get a little less than they had planned, and our children are going to have it great.

I choose option b.

Ken - Increase productivity will do nothing to solve the SS problem. The SS problem is a demographic one -- there just are not enough young people who will be paying SS taxes when the baby boom generation is retired to cover the SS benefits to be paid to the boomers. This is true even if all the workers were to pay in the maximum amount of SS tax.

I don't disagree that the government should get its finances in order. (My preferred solution is to cut spending. Yours seems to be to raise taxes. So, our approach may differ, but the goal is the same.) Getting the budget under control will do nothing to solve the SS problem -- it will just make it eaiser to pay for the SS benefits out of general revenue. You have said we should keep our promise to future generations. I agree. Part of that promise is that SS benefits be paid ONLY out of SS tax revenues. In a very few years that will no longer be possible.

Again, keeping the existing SS program in place without any changes will require massive cuts in other government spending or massive increases in taxes. Is that not compelling? If not, what in the world would be?

What's missing from this matrix is any guess as to how well this change to SS will hold up over time. I.E., does this system of private accounts go bankrupt also? My belief is yes. I believe that the government will do the same thing in the future that it has in the past: it will give benefits to those who have not paid in. SS is NOTHING MORE THAN A VOTE-BUYING SCHEME. As the tax is increased and the benefits shrivel for the folks who pay the bulk, you will see a disincentive to pay in. Remember, this is a voluntary scheme so I expect a lot of people will not use private accounts and will rely on Uncle Sugar to give them the free lunch.

The 'forces of real' have taken a serious beating in the comments. As well as the purported defenders of FDR. A puzzler for the impaired - what sort of "asset" requires that you borrow more money to cash it in?

What type of asset indeed? Let's imagine the budget was perfectly balanced with non-SS revenues matching non-SS payments down to the penny. What would happen if SS runs a surplus and purchases gov't bonds?

Naturally gov'ts debt falls today. Where does it go? It goes into SS's trust fund but what is the effect on the real economy? Where the public used to hold X amount of gov't debt, it now holds X-S (where S is the amount of the SS surplus). What happens to the real economy? S was held by people who, for whatever reason, wanted to hold gov't bonds. Since those people now have dollars instead of bonds they have only three choices:

a. Buy other gov't bonds.
b. Buy some other type of investment like stocks or corporate bonds.
c. Buy goodies like trips to Jamacia and more dinners out.

Since the types of people that hold gov't bonds tend to be savers (whether they be individuals, pension funds, or other types of institutions) chances are they will choose some combination of a & b rather than c. Hence the effect of this will be lower interest rates, all else being equal. Lower interest rates produce:

1. More investment since lower rates means capital projects that were not profitable before will now become so.
2. Lower gov't spending on interest.
3. Indirectly an overall increase in income since greater investment spending will yield greater income through the multiplier effect.

There's your long term return to having Social Security run a surplus. It is, frankly, nothing more than the mirror image to the long term cost of running a deficit today. We can turn the question around and ask why is it so bad we are paying for Bush's tax cuts, war in Iraq and new Medicare entitlement with deficit spending today? The answer is that 20 years from now we will pay the cost of this with interest.

What would be the benefit if the budget was balanced today? Why we'd see it 20 years from now with additional interest!

So we go back to the same old question I keep asking: If the budget is divided into two pieces, A & B, and A is in surplus while B is in deficit why are we harping on A being the problem? You say in 30 years A will turn into a deficit of 2% of GDP. So what! Today we are running a deficit of 2-4% of GDP!

A person without much training in economics may very fairly ask why this particular President & Congress, after doing so much damage to the B part of the budget, should be allowed to even consider tinkering with the A part??????

What bugs me is how the capital markets will react to a massive influx of new capital. My guess is it is going to be invested into companies and projects with less and less marginal utility.

Really? What new influx of capital??? Where is it coming from? By having the gov't borrow $1T to give everyone private accounts? Who loans out that $1T? Why the capital markets. There is no influx of new capital at all. Zero. Zilch.

If you wanted an influx of new capital then the best shot is to put private accounts on top of Social Security. That would direct 2% of payroll away from consumption towards savings. Even there, though, the true influx would likely be less since people could counteract the effect by reducing their savings elsewhere (like 401K's, building equity in homes etc.) to offset the new 'forced savings'.

Boonton,

What's up dude? Your last word was good by the way.

Re; Additional private accounts. I actually like the idea if they are;

a. Optional
b. Not taxed (ever)
c. Not accessible until retirement age
d. Payable in a lump sum (tax free) at retirement age
e. Transferable (tax free) as part of an estate

I think such accounts would indeed pump up national savings.

Ken:

Indeed, with increasing productivity and a strong economy the problems you forsee correct themselves as increased tax revenue will surely result.

Wrong. See "wage indexing."

The 'crisis' is not in social security but in the general budget which has been decimated by irresponsible tax cuts.

Partially right, but in the literal sense.

Components of change in federal deficit/surplus since 2000:

Component          %GDP   %deficit
Tax cuts                1.0    15
Spending increases      2.7    40
Reduced taxable incomes 3.1    46
Total                   6.8    100 
(some rounding error)

15% is close enough to 10% that you get partial credit.

What the government can do to ensure the long term survival of Social Security is to get its own balance sheet in order and act fiscally responsible.

Wrong. The long-term problem with Old-Age, Survivors, and Disability Insurance is not demographics, nor is it income tax revenue and discretionary spending. The former affects timing, and the second affects which type of economic redistribution we use to pay SS's debts. The implicit debt inherent in the structure of the system from the very beginning is fixed.

The best means to do this is to increase the progressivity of the tax structure right now.

Wrong. Non sequitur. Progressivity and revenue are entirely different matters.

As Clinton

As Clinton, Greenspan, and the Republican Congress

proved,

demonstrated, a correlation exists between

a fiscally sound government provides the most fertile environment in which business can thrive.

economic growth and high stock prices on one side and increased tax revenues on the other, with the former obviously causing the latter.

Wrong, wrong, wrong.

Randy:

Got it! If I had my way, Social Security would never have existed. But it does. Just dealing with the facts on the ground.

I see your point, but I still don't see why the decision of everyone who retired before 1980 to steal $11,000,000,000,000 from everyone who came after is my fault. Financing a good part of this implicit debt with public debt would at least spread the costs around our economy more than making the young American taxpayer, the children, and the unborn take the entire hit.

If you are right and the Trustees are wrong, but we make the adjustments anyway, then the boomers get a little less than they had planned, and our children are going to have it great.

I don't see how you form that conclusion. Even if we could magically print more real dollars and keep the system functioning forever using current tax rates and benefits calculations, everyone born after about 1970 would get horrendous returns. I want to see the system phased out, sooner rather than later, and ideally with concern for screwing beneficiaries directly proportional to the payroll tax rates they paid over their careers. That last part is just wishful thinking.

Jack Wayne:

I believe that the government will do the same thing in the future that it has in the past: it will give benefits to those who have not paid in. SS is NOTHING MORE THAN A VOTE-BUYING SCHEME.

Right. Finally, someone else who understands the funamental cause of SS's insolvency, and who understands the political choice forces that allow this intergenerational theft to occur and prevent anyone from stopping it. Bravo!

Boonton:

[yadda yadda yadda] There's your long term return to having Social Security run a surplus. It is, frankly, nothing more than the mirror image to the long term cost of running a deficit today.

In other words, you're for cuts in federal expenditures. Okay, make them!

There is no influx of new capital at all. Zero. Zilch.

Uh huh. Is the gross savings rate exogenous?

If you wanted an influx of new capital then the best shot is to put private accounts on top of Social Security. That would direct 2% of payroll away from consumption towards savings.

In the period 1960 to 2004, the correlation coefficient between payroll tax receipts as a percentage of GDP and personal savings as a percentage of GDP is -0.44. Make of it what you will.

AT,

Re; "I want to see the system phased out, sooner rather than later..."

Understood and concur. But I'm gonna tell you something you don't want to hear. The days of freedom in this country are over. The demand for socialism will continue to grow in direct proportion to a rapidly growing population. I will therefore consider it a victory if we can hold the line on taxation.

Only some sort of major catastrophe involving the loss of millions of lives will reverse the trend. I favor freedom, certainly. But I do not favor catastophe over socialism. So (as Boonton knows) while I will occasionally rail against the fraud that I believe Social Security to be, my practical recommendations will always be along the lines of favoring benefit cuts over higher taxes.

But good luck to you!

AT, you seem to have some understanding of the issue but are coming at it from the limited parochial viewpoint of idealogy instead of practicality.

We can, as a nation, more easily meet our Social Security obligations to future generations than we can meet our treaty obligations to NATO, for example, should war be triggered. Either obligation may call for some sacrifice by way of taxes. But so what? If we chose to meet them or not, either way it is a practical political choice that we should make and not one based upon idealogy.

I would argue that it is our best interests as a country, for practical reasons, to solve whatever problems you forsee in social security (problems which are not really as certin as you seem to think) by solving our balance sheet problems right now. I think that one the spending side of the ledger there is little practical room for cuts but on the revenue side we have lots of easy opportunity for increased revenue through tax increases. Experience has proven that prosperity is compatible with higher more progressive taxation. Since that is the only practical solution to our current problems (and the ones you fear in Social Security) it is the solution I endorse.

Heh, "practicality." I like that. I guess I shouldn't mention that anyone's definition of "practical," let alone yours, is itself a normative item.

Yes, I understand the issue, and I don't much feel like discussing it with those who don't until they do.

Hey Randy,

Thanks for the shout out!

Re; Additional private accounts. I actually like the idea if they are;

a. Optional
b. Not taxed (ever)
c. Not accessible until retirement age
d. Payable in a lump sum (tax free) at retirement age
e. Transferable (tax free) as part of an estate

I think such accounts would indeed pump up national savings.

1. Doesn't a Roth IRA let you take out your balance tax free. YOu can accomplish c & d with a Roth IRA. Since its optional you got a already as well.

2. e. Estate taxes currently have something like a $2M exemption and are slated to be phased out. Unless you're planning on dropping dead really soon and are really rich you already have e.

3. Why do you think social security benefits have political risk because they can be changed but 'private accounts' are not? There's nothing that can be done today to guarantee that private accounts will never be subject to taxation. In fact, I suspect private accounts are much more vulnerable to taxation. If the stock market crashed and many soon-to-be retired people found their retirement cut by 30% do you really think it would be that hard to pass a law taxing the '401K millionaires' to bail out the people who crashed and burned?

4. Since just about everything you describe already exists why would it 'pump up national savings' to any significant degree? The fastest and easiest way to pump up national savings would be to cut the deficit.

AT

In the period 1960 to 2004, the correlation coefficient between payroll tax receipts as a percentage of GDP and personal savings as a percentage of GDP is -0.44. Make of it what you will.

Basically what doing private accounts as an 'add on' would entail would be increasing the payroll tax 2% but instead of going to the gov't the funds would flow to a bank or financial institution of your choosing. In other words, you'd have to put 2% of your pay in an IRA. People could get around this 'forced savings' by cutting other types of savings but since savings is rather low today this may be kind of hard.

Uh huh. Is the gross savings rate exogenous?

I'm not really sure where you're going with this. It seems logical to me if the gov't borrows $1T and then gives people private accounts which total $1T savings hasn't increased at all. If it has then why stop there? Let the gov't borrow $10T, $100T. We could all have a 'private account' with $1,000,000 in it that we can invest as we will!

Boonton,

Items a and b are the bigs ones. Add-on private accounts would have to be optional and totally tax free or nobody will use them.

IRAs are either taxed up front (Roth) or at distribution (standard or simple). My plan would be to not tax at either end. If you could set aside $1,000/yr, completely tax free, for the purpose of retirement or estate, would you do it? I would, and I think a lot of people would. There would be many who would do this instead of the first $1,000 of IRA's, but I think a great many lower income workers would save under this plan who would not save otherwise. The idea is to offer a deal that is to good to pass up.

Could the congress change the law to tax them later? Certainly. That's why they have to be optional. Congress would have to know that a severe decline in participation would immediately follow any attempt to tax it.

I'm just thinking that this could accomplish much of what is wanted from private accounts (increased national savings, property rights, etc.) even if the president's version of private accounts is politically unfeasible. I also think there will be demand for such a program as benefit cuts to the basic program appear now to be a near certainty.

Perhaps this would be a politically feasible solution. Benefit cuts to balance the equation (instead of tax increases). Plus add-on, tax free, private accounts to help young people deal with the benefit cuts.

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Neil S.,

I take your point on pension underfunding. My statement referred to the rate of return on assets invested by pension plans vs. 401(k). Not whether plans were sufficiently funded.

Unfortunately, most people are, as you put it, "as st*pid as many Enron employees were"

For example: http://www.reish.com/publications/pdf/nasdalert.pdf
Almost a quarter of employees over 60 held more than half their assets in company stock (for those plans where that was an option).

The more the government acts to prevent those kinds of errors - as I think it should - the more personal accounts look like letting the government invest in equities.

Tom

David,

I agree there will be a temptation. I think that temptation would also exist if the government gets to choose which 6 funds are available to personal account holders.

There are also ways to contain that temptation. I think the Federal Reserve represents one good model.

Also the costs of that temptation are not so great in my view. I don't think the University endowments have done so badly. Nor do I think society was harmed by pressuring companies to pull out of South Africa (but I must admit to a near total ignorance of that issue)

Tom

IRAs are either taxed up front (Roth) or at distribution (standard or simple). My plan would be to not tax at either end. If you could set aside $1,000/yr, completely tax free, for the purpose of retirement or estate, would you do it? I would, and I think a lot of people would. There would be many who would do this instead of the first $1,000 of IRA's, but I think a great many lower income workers would save under this plan who would not save otherwise. The idea is to offer a deal that is to good to pass up.

Lower income workers do not save as much for the simple reason it is very hard to save when your income is low. Tax breaks, IMO, won't really do much of a trick here. Many low income workers already pay effectively 0 income taxes due to the earned income tax credit (but it should be noted, they do pay payroll taxes). Would their savings behavior really be that changed by the ability to pay into a 401K type plan that has no taxes on the back end????

Boonton,

Re; "Would their savings behavior really be that changed by the ability to pay into a 401K type plan that has no taxes on the back end?"

Perhaps. A couple of thoughts;

a. Either now or in the future, there are going be adjustments required to keep the system in balance. This is the worker's opportunity to prepare for those adjustments. A chance at a decent retirement instead of trying to get by on the basic benefit, which for many may not be that great. In other words, sell it. Not everyone is going to buy, but its still a good deal. Sell it.

b. A government run program would allow workers to invest directly in Treasuries with very low fees. Forget the stock market, stick to Treasuries only, and you have a government guaranteed investment, with low fees, property rights, and no taxes.

c. Let's call it $2,400/yr, $200/mth, untaxed, and allow the amount to grow with inflation. Double the amount for married couples. This means that a worker, even a low income worker could have somewhere around $250K waiting for him at age 65, another $250K for his spouse, in 2005 dollars, with no taxes due. Or property in his estate if he doesn't make it to 65. And this is in addition to standard Social Security benefits, whatever they may be.

d. Last but not least. Current and future problems with Social Security vanish immediately. By incentivizing individual's to take partial responsibilty for their own retirement, the goverment is free to make whatever adjustments are necessary to keep the basic system (the true safety net) in balance indefinitely.

e. And reaching forward - medicare is the next problem. The Social Security system, if put back into a surplus situation, could be used to pay at least some of that cost.

b. A government run program would allow workers to invest directly in Treasuries with very low fees. Forget the stock market, stick to Treasuries only, and you have a government guaranteed investment, with low fees, property rights, and no taxes.

Marginal Revolution has noted, ironically, that Bush's plan calls for an inflation adjusted interest rate of 3% on your benefits if you opt for a private account. (in other words, if you opt to put $100 in a private account your benefits will be cut by $100 plus 3% interest until you retire). The current rate on an inflation protected treasury bond is about 1.4 or 1.5%. In other words, a 'play it safe' person who did this in Bush's world would automatically lose.

c. Let's call it $2,400/yr, $200/mth, untaxed, and allow the amount to grow with inflation. Double the amount for married couples. This means that a worker, even a low income worker could have somewhere around $250K waiting for him at age 65, another $250K for his spouse, in 2005 dollars, with no taxes due. Or property in his estate if he doesn't make it to 65. And this is in addition to standard Social Security benefits, whatever they may be.

OK, errr how is this different than the standard deduction that we already have and can expend if we want to except that you can do whatever you want with your money (save or spend it)?

d. Last but not least. Current and future problems with Social Security vanish immediately. By incentivizing individual's to take partial responsibilty for their own retirement, the goverment is free to make whatever adjustments are necessary to keep the basic system (the true safety net) in balance indefinitely.

It's kind of interesting the linguistic distortions we commit when we talk about public policy. 'Incentivizing' here basically means tax cuts for savings. Why? Becase savings benefits people. OK if savings benefits people why the need to 'incentivize' them?

In economics costs tend to equal themselves out. Yes if a person put away $2500 a year they may reach 65 with $250,000 cash in the bank. However the future value of their nest egg equals the present value of their lost consumption. (In other words, I demand interest because I'd rather spend my $2500 today...if I put it in your 401K account I want to see...maybe..$3400 in ten years). If a person choose to save $2000 a year it is because at that point the future value of doing so equals his present value cost of giving up consumption today. Forcing him to save $2001 will put him at a disadvantage. Using tax subsidies to alter his calculations, likewise, serves to accomplish little beyond distorting the market.

Boonton,

Good points all - so, one at a time;

Re; "Bush's plan calls for an inflation adjusted interest rate of 3% on your benefits..."

This isn't Bush's plan. He wants to take money out of the basic system. This would be an add-on.

Re; "...how is this different than the standard deduction..."

This would not be a deduction from taxable income. It would be taken out before taxes, like a Simple IRA - only no taxes at distribution either.

Re; "'Incentivizing' here basically means tax cuts for savings. Why? Because savings benefits people. OK if savings benefits people why the need to 'incentivize' them?"

Because greater national savings is in the interest of the nation as well as individuals.

a. The free rider problem - individuals assuming they can spend everything now and pressure the government to bail them out later. This plan is part carrot and part stick. Carrot - we're going to give you a great deal if you save. Stick - we're only going to guarantee you a minimal benefit from the safety net. The incentive is in the interests of society as well as the individual.

b. A common theme among the economists I've been following is the need to pump up national savings - also a social incentive, not individual.

c. Achieving a stable Social Security safety net into the indefinite future is no small achievement. Again, a social incentive, not individual.

Re; "However the future value of their nest egg equals the present value of their lost consumption."

Agreed that future value minus present value nets out to less than zero without incentives. That's pretty much the definition of savings. There's no way around that. The money has to come from somewhere. Many if not most individuals certainly would prefer to emphasize present value over future value, but society cannot indefinitely support such a choice. Again, carrot and stick.

Re; "...distorting the market."

I believe it is the Social Security system that has distorted the market by removing much of the incentive to save. That distortion cannot be easily removed, and probably will not be. But there is no point in adding to it. Add-on private accounts would meet the needs of an aging population without further distortion. It is perhaps a shame that we now have to give incentives to encourage savings, but we do - and because more savings is in the interest of the individuals and the nation, we should.

P.S Boonton,

I now see your point about the difference between this plan and the standard deduction - why not just increase the standard deduction.

Answer; The incentive in the standard deduction is provided to care for one's self or dependants. The incentive in the plan above is specifically to care for one's self or spouse, but only in retirement. It is additional to the standard deduction, but it is contingent on placing the funds in a savings account that cannot be accessed until age 65 or death, whichever comes first.

This isn't Bush's plan. He wants to take money out of the basic system. This would be an add-on.

An add-on only really makes sense if it isn't optional. You already have the ability to save 2% of your income in an array of tax sheltered environments (if your employer matches your 401K you can even achieve 2% savings with no taxation at all).

Arnold Kling had a very interesting idea to replace unemployment insurance with a savings program. Basically your unemployment taxes would simply go into an account that you could tap if you stopped working...for any reason. The longer you work the bigger this account would grow. If you never tap the account then you could simply take it when you retire. Why no do something similar but making it a bit more flexible. Say you can tap it whenever you want provided the money is 5 years old or older. This would increase the medium-term savings rate which happens to be the period of many capital projects.

This would not be a deduction from taxable income. It would be taken out before taxes, like a Simple IRA - only no taxes at distribution either.

You're missing my point. Right now you basically already get $2500 (or whatever the standard deduction is) tax free. If you want to save that money you are perfectly free to without penalty today. You are also free to save it however you want.

I believe it is the Social Security system that has distorted the market by removing much of the incentive to save. That distortion cannot be easily removed, and probably will not be. But there is no point in adding to it.

Which begs the question, how? Older generations saw better 'returns' from Social Security. If better payouts from SS mean less desire to save (after all, who needs a pension if the gov't is going to give you $$$ every month until you drop dead?) then they should have saved less and today's generation (who are constantly being told they will get ripped off by SS) should save more. Yet the opposite is happening.

Incentives are usually quite dangerous when given out from the tax side. Suppose in a given year people will save $X with no tax incentives at all. After tax incentives they will save $X+Y. The 'cost' of this savings would be whatever the tax incentives applied against $X since that savings would have taken place anyway. Suppose the cost of the incentives are $0.15 per dollar saved and this causes savings to increase 20%. That may sound good except that for every $20 in additional savings the cost would be $3.00 for the new savings and $15 on the original $100 in savings for a total of $18 in order to generate a net increase of $2 of savings.

This scheme would have worked if you could just apply the savings to the $Y piece but there is no easy way to do that from the tax side.

Savings incentives are even more complicated because people have mixed motives for savings. On the one hand, people like earning returns so more incentives means more savings. On the other hand, people are motivated to achieve a certain amount (as in, 'once I get $1M I'm going to retire!'). If you increase incentives in that environment you may end up causing savings to fall. After all, if my goal is to have a decent retirement then I can accomplish it by saving 5% instead of 10% if the gov't is going to add all sorts of 'incentives' to my plate.

Answer; The incentive in the standard deduction is provided to care for one's self or dependants. The incentive in the plan above is specifically to care for one's self or spouse, but only in retirement. It is additional to the standard deduction, but it is contingent on placing the funds in a savings account that cannot be accessed until age 65 or death, whichever comes first.

For such a dedicated system Social Security is the most efficient means to accomplish this goal. You want to insure that people who reach 65 will have some form of dependable income until death. The simpliest way to achieve that is with a social security like program taking payments in from the working population and making payments out to the older population.

The 'private account investment' adds a bonanza of complications to the mix. If you keep in mind your goal of simply making sure people have a min. level of retirement income by 65 or 67 then such a program will turn into a nightmare of complication by the time you iron out the rules for how to handle people who loose in the market, how to restrict the types of investments to min. risk (no sir, you may not put 100% of your private account in your brother-in-laws start up internet company!).

Boonton,

I think it makes sense for low income people who often do not have retirement plans of any type, and are often not aware of other alternatives. It would be easy, and if totally tax free, a very good deal. As for lower middle income, let me use myself as an example;

I would put the first $1,200 into my Simple IRA to get the matching. The fund my company uses isn't that great (high fees), so I only contribute enough to get the matching. But the next best retirement investment I could make would be a totally tax free investment such as the plan above. Why? Because it has a return comparable to a bank, very low risk because its guaranteed by the government, only costs me $80 of income for every $100 I can invest (no taxes), its mine (if I don't use it myself, somebody I know will) and its easy. I don't have to do anything but sign up. After that, the best place for anything left over (not much) would be in the house.

Re; Distortion

The older generation saved more because they were used to saving more and social security turned out to be a windfall. The younger generation has grown up believing they could count on the windfall. Only now are they beginning to see a problem - looks like there may not be a windfall.

Re; Incentives. Tax advantaged savings are a better deal than anything I have seen on the table to date. But, of course, the ultimate incentive is still very much on the table, the high probability of benefit cuts. One good reason to offer tax advantaged private accounts is to lessen the feelings of resentment the benefit cuts will inspire. Give people the feeling they got something other than screwed, and that they have something the government can't take away. Bush really is on to something there, whether the Democrats want to admit it or not.

Re; Your second post. You keep getting what I'm proposing mixed up with what Bush is proposing. They are totally unrelated. I do not propose touching the basic system except as necessary to keep it in balance. The accounts I'm talking about are a plus and nothing but a plus. Social Security is going to be adjusted, and no matter how it is adjusted, it is going to be a minus and nothing but a minus for a great many people.

Give people the feeling they got something other than screwed, and that they have something the government can't take away. Bush really is on to something there, whether the Democrats want to admit it or not.

Ok, give people the 'feeling' they have something the gov't can't take away...even though it can. Tell people that since maybe benefits might have to be cut in 50 years the best thing to do is to lock in those cuts now? (See Paul Krugman's latest column on this, a very good point). This is on to something?

he accounts I'm talking about are a plus and nothing but a plus. Social Security is going to be adjusted, and no matter how it is adjusted, it is going to be a minus and nothing but a minus for a great many people.

The only problem is that you would make the add on accounts voluntary. This would be like the gov't setting up a special fund to buy an ice cream cone once a week with your paycheck on a voluntary basis. People can already buy one ice cream cone a week if they want to!!! The 'add on' idea that has the best shot of really increasing savings would be to mandate that 2% of payroll go into a private account of the employee's choosing. I would have this mandate be refundable against any savings people already do with 401K's, IRA's etc. (In other words, if you are putting 1.5% into your 401K already then you only have to put 0.5% into this new account).

I'd be honest about this, though. This is not 'giving people a chance to take responsibility'. This is taking responsibility from people. People are already able to be responsible for their retirement if they wish to be. No one is stopping people from savings, in fact it has never been so easy to save!!!!

Boonton,

The only real difference to what I'm proposing and an IRA is the totally tax free part. If add-on private accounts aren't made tax free, then they make no sense at all. So I guess we just cut benefits as necessary and be done with it.

Why would they make no sense at all? Do you find it senseless to contribute to a 401K or IRA today despite the fact that they are not 100% tax free?

We've already decided what you two are, now you're just haggling over the price.

Boonton,

The idea is to create something better than an IRA as an incentive for non-savers at the margin.

And honestly, yes I do find contributing more than enough to get the matching on my Simple IRA, or any other form of long term savings, to be a waste of time - literally, a waste of time. As we have discussed at other times on other blogs, any saving I do for retirement would have to be at the expense of paying for my daughters' educations, cars, etc. - not to mention having a life. I do indeed favor present consumption over future consumption. Further, I think that not saving is a good decision. Because, simply stated, life is short. Saving is for people with extra money. And I think most of the folks at my income level feel pretty much the same.

With that said, would I put aside $100/month if it was my property, guaranteed, and tax free? I might. At the margin, it might make a difference.

Once again, I'm not talking about taking this out of the basic program, because I'm going to need that.

If its mandatory, I'm gonna be pissed, because I want to use that money for things that are far more important than retirement.

If it isn't tax free, or if it isn't my property, then it isn't worth it. I've got better things to do with the money.

The plan isn't perfect for everybody, and not everybody is going to take advantage of it. But its better than nothing - at the margin.

AT,

Good one :)

The problem, Randy, is that to get you to put away money at the margin the tax free account would apply to all savings. In other words, you being a sensible person, would promptly not only put $100 per month into that tax free account but also move as much of your 401K into that account as possible.

The net effect is that the gov't may end up doing $1 of tax cuts for every $1 of additional savings...or even worse. You get the same problem trying to stimulate charitable giving thru 'tax incentives'... Remember national savings includes not only individual savings but also gov't savings or dissavings. Any act that causes the gov't to save less will erode national savings as well. So doing $1 in tax cuts to get $1 in savings accomplishes nothing. This is why, in general, its better to just concentrate energy on making the tax code simplier rather than adding more deductions/exclusions to it.

Boonton,

I had considered that problem and was kind of wondering when you would get to it :)

I think it would have to be a limited program in order to accomplish the objective of increasing savings at the margin without crowding out existing savings or dramatically reducing tax revenue. In other words, people who can afford IRAs would have to continue to use them. Only people who could not, or normally would not, afford IRAs would be eligible for the tax free accounts. However, considering that people making more than $25K may be in for Social Security benefit cuts, I think drawing the line around $35K would not be unreasonable.

Also, I don't think these accounts would crowd out 401Ks or Simple IRAs due to matching under these plans. But at the higher levels, they certainly would crowd out Standard or Roth IRAs.

What are you people still arguing about? I should point out some facts:

1. Gross savings, by definition, includes government surpluses and deficits. It's not a very useful measure. I think looking at things like net investment and personal savings would be more informative.

2. Personal savings is negatively correlated with taxes. It's not hard to see why: less disposable income means less money to save. People also see Social Security as an asset, so they see less need to save on their own; they assume the government does it for them. There is also a low but positive correlation between personal savings and federal deficits. This also makes sense: higher deficits means more personal income which means more money to save.

Forcing people to save through additional taxes is an empirically terrible idea.

AT,

I agree, except that we are not arguing. We're problem solving.

Here's where I think we are at this point;

A new type of IRA, with no taxes at time of contribution or distribution, available only to people making $35K or less, optional, invested directly in some form of inflation proof US Bond, can be withdrawn for the same purposes as other types of IRAs.

I'm thinking such a plan would encourage some younger and/or lower income people to save who might otherwise choose not to. It is only indirectly related to what is happening to Social Security. The solution to that problem is to encourage private savings while cutting benefits as necessary to bring it into balance.

Boonton, yes I know this is a modification to my original post. But better, don't you think?

Would it encourage people to take advantage of it? Sure. Would it increase savings? Possibly. Would it be an expensive way to do it? I think so. I also do not think it would increase savings that much. People already fail to take advantage of the many tax benefits of savings they can today. Why would adding a tax benefit that you can't have until dozens of years into the future be any significant motivator (no taxes on distributions)?

Remember, the 401K has two good features from a tax perspective. First you obviously defer taxes that you would have normally incurred today. Second, since you have a lot of flexibility in deciding when to take the money out you can time your withdrawls for periods when you'll be in the lowest income bracket possible. A person who never makes $35K per year and plans to live mostly off of social security in their old age and not work will have very little taxable income. Their withdrawls are likely to be taxed at one of the lowest brackets. In the long run, the opportunity for that person to enjoy tax free withdrawls is unlikely to be that great.

Boonton;

Re; "Would it be an expensive way to do it?"

I think the net effect would be to replace a regressive tax with a progressive tax. By allowing some income tax avoidance for lower income workers, the higher income workers would have to pick up that tab in some way. But I think this would be balanced out by greater ability of lower income workers to provide for some of their own needs, lessening the growth required for regressively funded programs such as Social Security and Medicare. I also see a plus in getting young people in the habit of saving, which they would presumably continue in other programs (IRAs) as their income rises.

Re; "...can't have until dozens of years into the future..."

I have modified my original proposal to allow withdrawals under the same circumstances currently allowed by IRAs (medical, educational, home, etc.). This would eliminate the need for the variety of such accounts currently being proposed. They could all be rolled into this program - which would be tax free for lower income to encourage their participation.

Re; The advantages of 401ks.

The 401K is a good deal. But few lower wage people have them. They're lucky if they have a Simple IRA. Also, I've been reading that given the high probability of generally higher taxes in the future, the tax at distribution approach assuming a lower tax rate then, may be simply wrong. Most of the financial planners I have read recommend the Roth IRA for this reason. Individual circumstances vary of course. But again, the idea is to create a program that is better than the IRA to increase savings at the margin.

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