Asymmetrical Information

What is the mechanism for forcing a doomed company into bankruptcy proceedings? Clearly, the company's management will try to postpone so they can continue getting paid. I always thought that companies would avoid declaring bankruptcy until they faced a real cash payment they couldn't make.

A company in the United States can be forced into bankruptcy by order of a judge, usually at the behest of its creditors. In other countries, it is actuallly illegal to trade while insolvent, and if managers allow this, they are held personally liable for some portion of the firm's debts. In still others, I understand that regulators can force bankruptcy on bad companies (as they do with banks in the US); I don't know how often this is actually used, however.

One could argue that Bush is misusing the term, although I think it's fair to say that "heading for bankruptcy" is interchangeable with "heading for insolvency" in common American usage. However, Matthew Yglesias' usage of bankrupt--to mean "having neither cash nor cash flow" is simply wrong. A company that will foreseeably reach a position in which it can only meet 70% of its obligations is indeed heading for bankruptcy.

"One could argue that Bush is misusing the term, although I think it's fair to say that "heading for bankruptcy" is interchangeable with "heading for insolvency" in common American usage."

Insolvent companies can go through workout without declaring bankruptcy. Maybe Yglesias is making that distinction? Oh, no he's not, because he wants to change nothing.

It is important to remember that the President is not giving a guest lecture to a graduate economics, accounting or law class; or, teaching a continuing education class to a group of active practitioners.

He is speaking, rather, largely to an audience of graduates of the government school system, who are less aware of and less sensitive to the nuances of bankruptcy. Were he to make the type of erudite presentation of this issue typical of Alan Greenspan's reports to Congress, he would have no audience.

The members of Congress and others who are speaking to similar audiences are, arguably, being far less precise in their statements and criticisms.

Those who claim BOTH that the SS "Trust Fund" is fine and that allowing personal accounts would produce massive transition costs are simply being logically inconsistent. It is interesting that they are largely able to get away with it!

"Those who claim BOTH that the SS "Trust Fund" is fine and that allowing personal accounts would produce massive transition costs are simply being logically inconsistent. It is interesting that they are largely able to get away with it!"

Here's an inconsistency Bush uses constantly and is able to get away with: "The trust fund is full of worthless IOU's".

Well sir, who is putting those "worthless IOU's" there? You are. What are these worthless IOU's? US Treasury securities, backed by the full faith and credit of the United States government.

There is an actuarial problem with the Social Security program. There is a much bigger fiscal problem with the US government that borrows the surplus of FICA receipts as well as another billion or so per day.

Please, stop this "lay person" nonsense. Bush is using the word "bankrupt" instead of "insolvent" because it, no doubt, sounds worse in focus groups. I'm sure that Bush would be more than happy to use the "insolvent" worse if it sent more shivvers up people's spines.

The Social Security privatization movement is going down the crapper for one simple reason: the American People like it the way it is.

The sky-is-falling libertarian/anti-SS camp has been predicting "bankruptcy" for decades. In their more honest moments, libertarians will admit that they just don't like the program on principle. Since they know that most people disagree with their views, they need to kill it on more pragmatic grounds. So they try and argue that it is collapsing. Unfortunately, it is hard to convince people that a program that has worked as designed for 3/4 of a century and is not slated to "go bankrupt" until at least 2041 is really ponzi scheme. At least not while more pressing matters, like rising energy prices, health care costs, and education bills are staring them in the face.

BTW, if nothing else, Herman Cain is intellectually dishonest for claiming that the 2041 date of insolvency is "indisputable." I dispute it, Yglesias disputes it, the CBO disputes it, and numerous economists dispute it. Calling your own arguments "indisputable" does not make them stronger.

Space,

Three quarters of a century does make it sound good. Try saying it like this; the program has worked well for the first two generations, but the third generation is looking at 25% benefit cuts, and the fourth generation can expect 30-40% cuts. Sounds a bit more Ponziesque, don't you think?

USAir, for example, is not "bankrupt" in the sense that it hasn't any money coming in or going out; it is bankrupt in the sense that it couldn't meet its future obligations with its future cashflows. Much like . . . why, Social Security.

Oh, and I'm certainly not the first to point this out but that definition would include the current U.S. Treasury more than it does Social Security in 2041. If Social Security will be bankrupt in 2041 then the U.S. government is bankrupt now.

When you say that the SS fund will be bankrupt, on an accounting basis, are you counting the "loans" that the fed took from it? If not, why not (for instance, are you saying that the government is not obligated to pay that money back, and if not why not).
I remember when it first became policy to raid the SS fund, someone (and I wish I could remember who, it was in the Senate I believe) pointed out that in the private sector transfering money out of a trust fund without plans to replace it would be illegal.

Several hundred years of common law on this. I just don't know, because everyone (both pro and con) seem to have very short memories.

And if you are not counting the loans, isn't that admitting that the country is defaulting on debts? And doesn't that imply that the country is nearing bankruptcy?

No, because the US government, unlike the Social Security administration, has an independant source of revenue which can be increased. Indeed, that's the only reason people are lending us money now -- they think that we'll either raise taxes, or cut spending, in the future. If they thought that we would never do either, then indeed we would be bankrupt, because we'd be unable to service our debt.

Jane:

You say, "it is bankrupt in the sense that it couldn't meet its future obligations with its future cashflows. Much like . . . why, Social Security." Mindles spent a Gawd-awful amount of energy last week arguing that a government IOU to itself was not really like an IOU to another because the government could simply change obligations to itself willy-nilly. IIRC, you agreed.

But in such a universe, what sense does it make to talk about future obligations? Why...none. So, technically, you may be foreclosed from defending this particular bit of Bush rhetoric in this particular manner.

This is pretty simple. Many people, like Matt, mistakenly believe that "bankruptcy = no money."

So, Matt is technically incorrect in his criticism.

But the important point is that Bush is INTENTIONALLY (or at least KNOWINGLY) creating the impression amongst laypeople that SS will have no money by 2041, by taking advantage of the common misunderstanding of the word "bankrupt."

So, while I wish Matt would be more careful, I agree with his criticism of the President's very misleading tactics.

No, because the US government, unlike the Social Security administration, has an independant source of revenue which can be increased.

What are you talking about? The Social Security Fund is currently funded by present workers. But there is nothing that would restrict Congress from funding it from the general fund. For instance, under Bush's "plan", current retirees would be paid in part by new debt issued by the Treasury in order for current workers to fund their private accounts. Voila! Like magic, Bush's private account plan -- which otherwise would make SS instantly insolvent -- is back in the black.

Now, if you just took $2 trillion and plopped it into the SS Trust fund, none of us would be talking about bankruptcy in 2041.

Now, I'm not personally advocating that. I think that any borrowing, if necessary to cover actuarial shorftfalls should be done internally by the SSA. But the point is that the general fund isn't only available if we privatize the program.

Your argument does not hold up. Social Security is neither bankrupt nor insolvent. The obligations faced by the SS fund are not debts. Written into the laws that govern it are provisions for reducing payouts based on the fund's capacity. If the fund can only afford to pay out 70% of what it originally projected, then 70% of the expected payout is all that the retiree is legally owed.

So, either way Bush's rhetoric is deceiptful. It is false if it is a layman's belief that bankrupt means no cash, and it is false if it is reliant on a technically accurate use of the meaning of insolvency.

Space, there's nothing to prevent US flyers from suddenly deciding to travel twice as often, solving the industry's overcapacity problem, and putting USAir in the black for the foreseeable future. There's nothing to stop the government from re-regulating teh industry, which would have the same affect. Nonetheless, on current trends, USAir is insolvent, as is the SSA. Bush is proposing to change that so it won't be insolvent; that the government can change things so as to make it not-insolvent is exactly the point.

SCMTIM: I agree with you that insofar as the trust fund does not exist, social security is not bankrupt. But Bush is implicitly accepting the notion of the trust fund, which if you believe it exists, does indeed go bankrupt in 2042. Now, I don't think it's very useful to talk about the "trust fund" being "bankrupt", and was planning a follow-up post on that. But Mr Yglesias believes (IIRC) in the trust fund; his interpretation of bankruptcy is simply incorrect.

Matt, most people are not under the impression that bankrupts have no income--although that's a common mistake among college students and the recently graduated. They may be under the mistaken impression that bankrupts necessarily have no financial assets--but that will be true of the "trust fund" in 2042, so Bush can't be said to be misleading anyone.

Social Security is not, and never will be, bankrupt or insolvent.

The reason this is true is that the government (or the Social Security Administration) doesn't "owe" anybody a single damn dime.

The whole point of Social Security is that it is primarily an unbeatable source of revenue for the government - which borrows money from workers who probably wouldn't lend if they didn't have to - and which has no legal obligation to pay the workers back. Such a system cannot be bankrupt or insolvent. The government will simply increase mandatory contributions or decrease non-mandatory distributions in such a way as to maintain the program as a viable source of revenue.

The only debateable point is whether to raise mandatory contributions, or reduce non-mandatory distributions. I favor the latter, because I'm in favor of making this scam as small as possible.

The Alpine glaciers will have melted before the Social Security trust fund will have been exhausted. Why is global warming not on the right wing agenda? Is it because it is not a biblically correct topic?

I prefer that he say "the fiction that SS is a 'national savings plan' will no longer be even remotely defendable by even its staunchest supporters", but I don't take issue with the word "bankruptcy" being used. However, I would humbly suggest that the White House spin doctors start equating the SS problems as a transition to "welfare". That would really set people on fire, and I'd love to see the Yglesias's of the world attack that.

Njorl, personally, I'm getting statements that promise me a level of benefits correlated to my salary. Nowhere does it mention a 30% reduction. Yet, I am due to retire just about the time that our "trust fund" is exhausted. If that is indeed written into the law--and I've never heard any of the experts I've interviewed mention it--the SSA doesn't seem to know it.

This again? You people are like a child who wanders into the middle of a movie and wants to know what's going on. You have no frame of reference.

Not you Jane, just the trog squad that's out in force today.

Ed asks:

"Why is global warming not on the right
wing agenda?"

Because that issue is 'owned' by Left
wing wackos. The reason is simply
"politics".

For example Space comments above:

"The sky-is-falling libertarian/anti-SS
camp has been predicting 'bankruptcy'
for decades."

The Right Wing argument for that is ..

"The sky-is-falling liberal/anti-progress
camp has been predicting 'we're running
out of oil!' for decades."

It is ALL Politics.

I know I'll be flamed for this but there
really is no scientific consensus on what
should be properly termed 'Global Climate
Change'. The correlation/casuality is
weak and the mathmematics used to 'support'
it is riddled with errors. But it sure
does make Leftwingers write out checks.

Just like mentioning Hilary Rodham-Clinton
is a sure way for Rightwingers to raise
millions.

Jane, your analogy is foolish. You simply cannot compare a company that is presently insolvent (or bankrupt), with an astronomicallly tiny chance of recovery based on heretofor unknown consumer spending patterns, with Social Security projections of insolvenc which are based on economic forecasts more conservative than historical trends.

Nor can you (that is to say, Bush) credibly argue that it should be replaced with a scheme involving private investments and suddenly use far rosier economic forecasts to predict the investment returns of the private accounts.

If the stock market continues to grow as Bush apparently predicts, there never will be an actuarial shortfall.

At least Randy is being honest. He just doesn't like the program. I might disagree with him on his characterization of it. Particularly the statement that there is "no obligation" to pay beneficiaries. The government has no obligation to pay in the same way that corporations have "no obligation" to fund their pensions; they're supposed to but they can probably get away with not doing it.

What I want to know is why so many libertarians are supporting the government butting into the private, speculative investments of American citizens?

I can see a legitimate debate over the size (if any) of a guaranteed benefits program. But if the program isn't to provide guaranteed security, above and beyond what people would provide for themselves, why on Earth would you want the government more involved?

Ted,

It may make you feel warm and fuzzy to play the "a pox on both their houses" contrarian, but their is no serious scientific debate about global climate change.

Sure, you can critique individual scientists' models and find disagreement within a smaller range of outcomes. But the larger debate is over.

It is sort of like the "debate" over evolution. There's plenty of scientific debate over exactly how species have evolved and how they continue to evolve. But nobody takes the intelligent design people seriously.

Space, you're saying two things. The first is, "Even if Social Security is bankrupt, the government can change the law so it won't be." that's true--and exactly what Bush is proposing to do. There are, of course, multiple ways to change the law, and various people will favour one over the other. But his statement that the SSA is heading for insolvency *if nothing changes* is correct.

The second argument is technical, and somewhat abused. The SSA projects lower economic growth than the government does over hte next ten years because it is using a longer time horizon, and at the end of that time horizon, population will be growing much more slowly than it is now, and a higher percentage of the population will be out of the workforce. Since the largest determinant of economic growth is growth in the labour force, this is not unreasonable. The SSA is on the conservative side, but that's generally what we want our pension administrators to be--the disaster in private pensions right now is a good example of what happens when pension administrators get over-optimistic.

Matthew is right for exactly the same reason that Mindles was right about the nature of the "assets" in the trust fund: you can't say SS is bankrupt without saying that the U.S. Treasury is bankrupt.

Norman, you're wrong. Try again.

But the larger debate is over.

You'd like to think so, but yet the debate rages on. Although there is a general consensus that there has been a warming trend and this trend is likely to continue, there remains significant debate as to what, if any, human contribution there is to this trend and what, if any, serious negative effects will result.

Social Security is a problem because it is actuarily unsound. Promises of future benefits can't be met in the current system. It's a long-term problem that will require adjustments to made, preferably benefit cuts. The sooner the better.

However, the US budget deficit is completely out of control now. The huge surpluses currently generated by Social Security only help mask the problem. But let's just ignore the elephant in the room and talk about how Social Security is "bankrupt".

How much monger do we have to talk about this nonsense? I mean, really? The U.S. government operates a fiat money system in a floating exchange rate regime. As such, the only way one of it's checks can bounce is if it decides not to honor it. There are no financial constraints to how much it can spend - only real ones, as in how much the economy can produce - and there is no limit to how much it can "borrow" (since the act of selling government bonds in not, in fact, a "borrowing" operation but a interest rate matainance operation. The concept of "bankruptcy" or "insolvancy" under these conditions simply does not apply. The only relevant question now or any point in the future about SS is: how much wealth is the economy producing, and what fraction of that do we want to redistribute from current workers to current retirees. Unfortunately, we cannot in 2005 decide those questions for the people of 2041 or 2075. Fortunatlely, we don't have to - they will be quite competent to do it on their own.

Jimbo,

1. We don't do this because we "have" to, but because we want to. Its fun. Thank god we're not really responsible for this because some of these people scare the hell out of me.

2. Re; "...they will be quite competent to do it on their own." I would agree with you except that this program is an intergenerational transfer by design. Therefore, the planning has to be intergenerational as well. Leaving it to the next generation to fix, when the trustees foresee the potential for a serious problem, is simply screwing the next generation.

Right, jimbo, except that reform becomes increasingly unlikely as time passes because of simple demographics and political choice.

Proving the rule that everything worth saying has been said before (and better), I just made the exact same point as Ms. Galt over at Obsidian Wings. Ahh, well.

Jane:

As to my first point, Bush's "plan" does nothing to address the fundamental economics of SS, as the Bush administration, in its more candid moments, has admitted. Given that you can borrow a couple of trillion dollars to unquestionably shore up the present guaranteed benfits system OR you can borrow a couple of trillion dollars to shift to a guaranteed payment system, the issue of the solvency of SS in 2041 if we don't borrow anything is totally irrelevant.

Bush simply prefers to switch to a guaranteed payment system (or, in his heart of hearts, abolish it entirely). All I'm saying is be honest about it. Either come out and say that you oppose it in principal and convince the rest of America they should too. Or make a non-ideological economic argument for why private accounts would be better. In either case, arguing that SS is going bankrupt is just stupid. If Bush's plan is better, you don't need to prove that SS will fail.

As to the second argument, it's fine to be conservative for pensions. But if you're going to be conservative, be consistently conservative. Don't use optimistic forecasts for equity growth in private accounts.

Also, admit you are being conservative. Admit that, while caution is good, there is a good likelihood that the insolvency issue will NEVER arise.

MP:

Oh, yeah. "Friends of Science". That's a real debate.

I like how when they published their "debunking" paper in a peer-reviewed journal it was so flawed that after serious scientists attacked it the editors resigned and the publisher admitted the mistakes.

Look, you can always find some fringe people to defend anything, particularly if they are getting paid by energy companies. But no serious scholars of note question that there is human-contributed climate change.

As to my first point, Bush's "plan" does nothing to address the fundamental economics of SS, as the Bush administration, in its more candid moments, has admitted.

Except for the progressive indexing part; that obvious addresses the fundamental economics of Social Security. The two parts, when taken together, argue for a minimum defined benefit plan to keep retirees from being in poverty, combined with a defined contribution plan for the middle and upper-class.

Nor can you (that is to say, Bush) credibly argue that it should be replaced with a scheme involving private investments and suddenly use far rosier economic forecasts to predict the investment returns of the private accounts.

Actually, one can certainly credibly argue that a defined contribution plan can result in somewhat rosier economic forecasts. It's a matter of reducing deadweight loss and disincentives to work.

Space,

Certainly there is no argument that human activity contributes to global warming. The question is, what percentage as opposed to the percentage from natural elements. And also, is it worth billions of dollars, and a million jobs, to reduce warming by one tenth of a degree.

Jane Galt writes: ''Njorl, personally, I'm getting statements that promise me a level of benefits correlated to my salary. Nowhere does it mention a 30% reduction. Yet, I am due to retire just about the time that our "trust fund" is exhausted''

It took me about three minutes to find this:

''Unless changes are made, at age 71 in 2041 your scheduled benefits could be reduced by 26 percent and could continue to be reduced every year thereafter from presently scheduled levels.''

Source: http://www.ssa.gov/qa.htm

See also Figure II.D2 at http://www.ssa.gov/OACT/TR/TR05/II_project.html#wp105057

The blue line of benefits drops in 2041. But it shows that 68% of benefits will be paid as far out at 2079.

Claiming bankruptcy is fear-mongering.

Should we do something to change the system? Of course. But start the argument from a factual basis. We face a 26% cut of benefits 36 years down the line if we don't do anything. Not bankrupcy.

Michigander,

Re; "We face a 26% cut of benefits 36 years down the line if we don't do anything."

I've never understood how anyone could find this reassuring - unless they plan on being dead and/or really don't give a crap about the next generation.

''Unless changes are made, at age 71 in 2041 your scheduled benefits could be reduced by 26 percent and could continue to be reduced every year thereafter from presently scheduled levels.''

What do you think the phrase "presently scheduled benefits" means, anyway?

Social Security will be bankrupt in 2041 in the sense that it wouldn't be able to meet "presently scheduled benefits" - it will only be able to pay 74% of "presently scheduled benefits". Which is exactly the same as USAir being only able to pay 74% of its obligations.

Funding Social Security through Estate Taxes

From Ashish's post...

Thus, it is only fair that they pay for these benefits through higher taxes.

That is an absolutely ridiculous statement. Because a generation chooses to have fewer children and generate more wealth, they should be taxed at a higher rate simply because they generated more wealth? You have an absurd concept of fairness.

Figure II.D6 is what you should actually be focused on, where the sh*t hits the fan (i.e. increase in taxes and/or decrease in spending and/or increase in debt) around 2016. 2041 is an accounting fantasy, and does not reflect the real world consequences of running a shortfall in 2016.

Jane - Matt noted what you said. How is he wrong? How is simply repackaging his statement a criticism of his statement? On the main theme of the NRO op-ed, the NRO author is full of s^&% (sorry there was no other way to put it). The media's coverage is been simply awful, which plays into the hands of the Bush propaganda machine. The Trust Fund ain't broke, will not go broke, and your attempt to suggest otherwise is simply put - beneath you.

Ashish, you have no understanding of Social Security or its problems. Anyone who believes the problem is demographic in nature has no idea what he is talking about and can only embarrass himself.

The baby boom is actually somewhat of a myth. It isn't so much that there was a huge increase in births during the boom years, as that there was a population decline during the depression years.

Population growth was steady at around +2% before the depression, declined during the depression, returned to +2% after the depression, and has been falling off gradually since the late 60's.

In other words, it isn't the boom that's throwing off the equations, its the fact that the benefit equations were designed for a "baby bust" generation. But as the birth rate is now truly declining, it seems to me that if we can borrow to get through the so called boomers retirement, the equation should be just about right in a few decades. Unless, of course, a new generation of immigrants returns the birth rate back to the norm of +2%.

I've got the spreadsheet created from census data if anyone wants to see it.

As long as we are being technical, let's at least get it right. The SS Act provides that no payment of benefits can be made unless the money for those payments is available either from the dedicated SS revenue stream or from the SS trust fund.

In other words, if nothing is done, benefits will automatically be cut to the size of available resources.

Social Security, therefore, by definition, will not have obligations beyond what it can pay. It can not be either insolvent or bankrupt. President Bush is just wrong.

Yes, Dwight Meredith, bankruptcy law has the very same provision: a bankrupt company will be required to pay its creditors some percentage of outstanding debts (the percentage depends on the priority of the creditors and the amount of money the bankrupt company has). That does not change the fact that the company is bankrupt.

USAir, for example, is not "bankrupt" in the sense that it hasn't any money coming in or going out; it is bankrupt in the sense that it couldn't meet its future obligations with its future cashflows. Much like . . . why, Social Security. So Matthew's preferred formulation would, in fact, be wrong, just like the one that the National Review is objecting to.

Yaaa yaaa. Now for the reality check. You are not bankrupt because your long term cash projections do not fulfill your long term liabilities. Many companies fit this bill yet they are perfectly healthy. Why? Because they have the ability to borrow. Intel may need $500M in 5 years to do the R&D necessary to replace its Pentium chip line but no one doubts that Intel will have ample ability to borrow that if its cash is not sufficient. Any creditor of Intel trying to force it into bankruptcy today would be laughed out of court.

So tell us once again, how is a 2% of GDP deficit projected using pessismistic sceneros nearly a half century out bankrupt again??????

Boonton, maybe I missed something, but I thought people are saying it will be bankrupt, not that it is bankrupt. Straw, meet man.

No, because the US government, unlike the Social Security administration, has an independant source of revenue which can be increased. Indeed, that's the only reason people are lending us money now -- they think that we'll either raise taxes, or cut spending, in the future. If they thought that we would never do either, then indeed we would be bankrupt, because we'd be unable to service our debt.

Really? So what's the revenue source of Social Security and how is it different from the revenue source of the Federal Gov't???? Really Jane, you can do better.

Njorl, personally, I'm getting statements that promise me a level of benefits correlated to my salary. Nowhere does it mention a 30% reduction. Yet, I am due to retire just about the time that our "trust fund" is exhausted. If that is indeed written into the law--and I've never heard any of the experts I've interviewed mention it--the SSA doesn't seem to know it.

Really Jane. Please quote me exactly what is says on those statements about your projected benefits. While you're at it, please quote me the passage in the Constitution that, say, would prevent Congress in 2041 from reinstituting taxes on your Roth IRA to pay for retirees who got burned in privitization?

Except for the progressive indexing part; that obvious addresses the fundamental economics of Social Security. The two parts, when taken together, argue for a minimum defined benefit plan to keep retirees from being in poverty, combined with a defined contribution plan for the middle and upper-class.

Yes the progressive indexing, because its cuts grow in the distant future, will alter the projected 'bankruptcy' date by a whopping 7 years.

Re; "We face a 26% cut of benefits 36 years down the line if we don't do anything."

I've never understood how anyone could find this reassuring - unless they plan on being dead and/or really don't give a crap about the next generation.

Well Randy, this is certainly reassuring when compared to the line that if we don't do anything Social Security will 'go bankrupt' and no one will get anything. We could also say "if we don't do anything, Social Security will run a deficit roughly half as large as Bush is currently running 40 years or so from now assuming poor economic growth"

Boonton, maybe I missed something, but I thought people are saying it will be bankrupt, not that it is bankrupt. Straw, meet man.

"Intel is projected to have to borrow $500M in 2010." Does this statement, if true, indicate that Intel 'will be bankrupt'?

Boonton,

Now that I think about it, it is reassuring in a way. If the program is allowed to shrink down to the welfare program it should have been all along, then that is a good thing. If they attempt to "save" it by tax increases on the next generations, then that will be very bad indeed.

Actually all that needs to be done is to stablize it so that revenue and benefits are roughly a constant % of GDP. This guarantees a return equal to the rate of economic growth with infinite stability.

Boonton,

Deja vu all over again :)

How about this, lets stabilize it a bit lower than current levels, if for no other reason than to prepare for medicare increases.

Since Medicare's projected increases are dramatically unstable and truely appear to be approaching Ponzi proportions (requiring massive amounts of revenue even relative to the general budget) shouldn't the focus be on stabalizing medicare in the next ten years? If someone was wheeled into the ER gushing blood from severed arteries would we say 'let's give him iron pills so he can make more blood' or 'let's clamp down those gushers!'

Can Intel service its debt?

That's also a really bad example, since Intel has about 60% operating margins and tens of billions in cash sitting around.

AT writes: "That's also a really bad example, since Intel has about 60% operating margins and tens of billions in cash sitting around."

Well, the SSA doesn't have that kind of operating margin, only about 23%. But they do have a few more bucks sitting around than Intel, that is, if the full faith of the U.S. Government is worth anything.

"Well, the SSA doesn't have that kind of operating margin, only about 23%. But they do have a few more bucks sitting around than Intel, that is, if the full faith of the U.S. Government is worth anything."

When those "bucks" run out, OASI will have negative operating margins, no assets, and no possibility that its operating margins will ever be positive. It will be bankrupt, bankrupt as a doornail.

Al said:

"Social Security will be bankrupt in 2041 in the sense that it wouldn't be able to meet "presently scheduled benefits" - it will only be able to pay 74% of "presently scheduled benefits". Which is exactly the same as USAir being only able to pay 74% of its obligations."

Unless the presently scheduled benefits are legal obligations then it is more like USAir being forced to cut its dividend 26%.

I am one of those libertarians who hates SS on ideological grounds.

I also hate it on economic grounds. If I could keep the 12.4% of my income, I would be much, much richer on retiring. SS is a lousy deal. Very poor returns (I don't mean the past generations, just this one and future ones). Returns will get poorer, as benefits are inevitably cut in the future.

About bankruptcy - no need to debate the fine technical points of the term. It's not used that way. A scheme where you put your money and lose much of it over time is a bankrupt scheme. Dumb would be more appropiate than "bankrupt".

Why not make SS voluntary ? If it is such a good thing, as many beleive, let them opt for participating in it, while those who think there are better ways to save for retirement will go their own way.

This will make SS what it is: a welfare program. Not a magical sheme that promises you something for nothing.

That's also a really bad example, since Intel has about 60% operating margins and tens of billions in cash sitting around.

Really? OK can Intel require every American to give them $1000 (on average or more)? No yet the gov't can. Intel has only its own capital to depend on. If Intel cannot create a viable product with its R&D factories and employees it will sink regardless of how well the overall economy does. Gov't, though, is directly tied to the economy. If economic growth is a bit higher, gov't tax revenues go up & spending goes down (due to lower welfare, unemployment and other expenditures) and vice versa. This is the fundamental folly of trying to view gov't as some type of super-sized corporation.

I also hate it on economic grounds. If I could keep the 12.4% of my income, I would be much, much richer on retiring. SS is a lousy deal. Very poor returns (I don't mean the past generations, just this one and future ones). Returns will get poorer, as benefits are inevitably cut in the future.

Mathematically this is nonsense provided you keep SS as a roughly constant % of GDP. Let me go thru the math again. Imagine a very simple Social Security system, it taxes 5% of GDP every year and gives that to the old people. Let's say GDP grows at a rate of r each year.

Generation 1 Tax= 0.05 * GDP

Generation 1 Benefit = 0.05 * GDP*(1+r) [because generation 1's benefits are paid by gen. 2]

Return = Benefit / tax = [0.05*GDP*(1+r)] / [0.05*GDP] = 1+r

Return must equal the overall economy's growth. The distribution of returns can be different. As we all know someone who dies early gets a bad return but someone who lives very long will get a great return..some people like widows or orphaned children who never worked may get a return without ever putting anything in (although you could argue that this is equilivant to giving the deceased person a return in the form of insurance for his/her family).

More importantly on the large scale you could not have beaten SS's returns. By that I mean you may as an individual have done better with your 12% just as some people can walk out of a casino with millions. For everyone as a whole, though, we know the casino will win more than it pays out. We also know that while some may get huge returns in the stock market or the bond market or the collectable comic book market the fact is returns for everyone cannot exceed the growth of the overall economy for any significant period of time.

Jane Galt, you said

"Njorl, personally, I'm getting statements that promise me a level of benefits correlated to my salary. Nowhere does it mention a 30% reduction. Yet, I am due to retire just about the time that our "trust fund" is exhausted. If that is indeed written into the law--and I've never heard any of the experts I've interviewed mention it--the SSA doesn't seem to know it."

I checked my statements and they clearly explain that congress can change the law at any time and that projections show revenue only covering 73% of currently scheduled benefits starting in 2042. So you appear to be just making @#$% up.

Bontoon,
In your mathematical calculation you compute the overall input vs. output, for the population as a whole, which is fine.
But you must also account for demographics, i.e. - that overall 5% of GDP that is distributed as pensions - to how many people is it distributed ? If the absolute number of retirees is growing (as it is) then the share (or benefit) of each person in the pie decreases.

Basically, the return of a paygo system like SS depends on the ratio workers/retirees. That ratio is going constantly and surely in only one direction. This is a clear and undeniable fact. Therefore future returns on SS contributions cannot be compared to past returns, but will be only a fraction of that.

Even at current "guaranteed" benefits level, the return on the investment is poor. And current levels of taxes and benefits cannot be sustained. So SS will be a terribly lousy proposition for future generations (unlike past ones).

In your mathematical calculation you compute the overall input vs. output, for the population as a whole, which is fine.
But you must also account for demographics, i.e. - that overall 5% of GDP that is distributed as pensions - to how many people is it distributed ? If the absolute number of retirees is growing (as it is) then the share (or benefit) of each person in the pie decreases.

It doesn't really matter. If Generation 1 put in 5% of, say 1950's GDP, and Generation 1 gets 5% of 1980's GDP there's a return there equal to the growth between 1950 and 1980. If you were to add up each individual's return it would have to equal the overall growth rate. If some people were getting poor or negative returns then that means other people must be getting higher returns. The issue of returns is distributional. Of course upper middle income whites who do not become disabled are going to see poorer returns if some of the benefits are diverted to lower income workers (out of proportion to their contributions), widows and surviving children and the disabled.

What the ratio of workers to retirees does is take the given returns and either stretches it across more or fewer people. Not unlike a 401K, if you want to retire at 45 and expect to live to 75 you're going to have to contribute a lot during your working years and live lean during your retired ones. The pressure to cut benefits is directly related to the unwitting decision we made to increase our retirements by increasing out lifespans.

Boonton,

" If Generation 1 put in 5% of, say 1950's GDP, and Generation 1 gets 5% of 1980's GDP there's a return there equal to the growth between 1950 and 1980."

Maybe you missed my point.

What you say is correct for the whole generation, taken in it's total. But the NUMBER of beneficiaries (retirees) matters too. If, in a given year, there are 10 million retirees or 50 million - the amount due to each out of those 5% of GDP will be different.

Take this simple example: if there are 10 workers for each retiree, and each worker pays 10% tax, the retiree gets a benefit of 100% of average wages (in a given year). But if there are 5 workers for each retiree - the benefit is only 50% of wages.

The ratio of retirees to workers decrases due to both - reduced birth rate (less workers) and longevity (more retirees).

The saving alternative renders this result:
you work say 40 years, saving 10% of wages; you accumulate 400% of wages, add to this interest and you should have at least 800%. If you live 10 years after retirement you get 80% benefit, if you live 20 years - 40%.
In the paygo system you need a ratio of 4 worker/retiree to get that. If the ratio is lower you lose. The ratio now is about 3 and dropping....

The arithmetic is very simple. SS is now, and in the future a lousy deal. The redistribution element, while existent, is not really relevant. Not redistribution makes SS a lousy deal - but it's basic structure.

What you say is correct for the whole generation, taken in it's total. But the NUMBER of beneficiaries (retirees) matters too. If, in a given year, there are 10 million retirees or 50 million - the amount due to each out of those 5% of GDP will be different.

Does it really or is it simply a matter of distribution. Let's suppose in our simple model a horrible virus wipes out half of generation 1 right before they turn 65. Now all in the sudden those lucky survivors will have 1/2 as many people to split 5% of the GDP created by generation 2 with. Individual returns will be very good for those left alive but the fact would remain the benefits paid in the second time period would be 5% of GDP and the taxes paid in the first period would be 5% of the previous GDP. Returns are positive as long as growth is.

Now in reality Social Security is not a simple 'tax X% and benefit X%'. Few things are. At the Federal Reserve there is no dial marked 'money supply' that Alan Greenspan turns each morning to what he thinks is the best setting. There isn't even a dial marked 'interest rate'. Both the taxes and benefits have been fiddled with numerous times but the net result is that SS has been hovering around 5% of GDP and is projected to rise to 9% in about 70 years. If benefits are fiddled with that number can be kept at 5% in 2075 still preserving a 'fair return'. It's rather strange, IMO, to suddenly declare today that either the sytem must be projected to be stable for the rest of history OR else the world will explode. The best idea, IMO, would be to have a Federal Reserve like system where the trustees would tinker with the formulas every 5 years or so to keep the system at around 5% of GDP (or let it go up to 9% if that's what the public wants).

Take this simple example: if there are 10 workers for each retiree, and each worker pays 10% tax, the retiree gets a benefit of 100% of average wages (in a given year). But if there are 5 workers for each retiree - the benefit is only 50% of wages.

The ratio of retirees to workers decrases due to both - reduced birth rate (less workers) and longevity (more retirees).

IMO the ratio matters less than you think. A higher ratio simply means that the returns (5% of GDP or whatever) are being stretched among more people (this is happening because people are living longer but it could also happen for other reasons, for example when Congress expands the pool of those who can get benefits to include the disabled, widows, children etc.).

The ratio, IMO, is more a distributional & tinkering issue. Suppose the retirement age was adjusted to bring SS's long run projected demands in line with long run projected revenues AND the payroll tax was lowered to yield zero surplus. The 'good deal / bad deal' calculation would change. Right now the system is actually a bit of a hybred where todays workers are paying for the previous generation as well as partially for themselves by reducing Fed. borrowing today (which means less that their kids will have to pay off).

"Individual returns will be very good for those left alive but the fact would remain the benefits paid in the second time period would be 5% of GDP and the taxes paid in the first period would be 5% of the previous GDP. Returns are positive as long as growth is."

A very good example.

The point is that a particular person isn't interested in the global total returns of the system. He is (correctly) interrested ONLY in his personal returns. These would indeed be affected by the numerical ratio, as in your example. If there are more retirees, EACH gets less money, if there are fewer, EACH gets more.

You could have a stable and sustainable paygo system like you outline: you earmark 5% of GDP for retirement benefits, you tax workers to that extent, and distribute the money (no more, no less) to retirees. Fine. The amount each retiree gets still depends on the worker/retiree ratio.

When each person makes his own calculation comparing HIS lifetime contributions to HIS lifetime benefits, the returns under SS are lousy. The global percentage of all SS payments relative to GDP is absolutely irrelevant to each individual, as he makes his personal balance.

Jacob,

Re; "About bankruptcy - no need to debate the fine technical points of the term. It's not used that way. A scheme where you put your money and lose much of it over time is a bankrupt scheme. Dumb would be more appropiate than 'bankrupt'."

Well said!

"Bontoon, In your mathematical calculation you compute the overall input vs. output, for the population as a whole, which is fine. But you must also account for demographics...

"Basically, the return of a paygo system like SS depends on the ratio workers/retirees...."

In the real world, the return of THIS paygo system has depended entirely on where Congress has set it for its own political convenience. That SS is heading broke because of demographics is the the biggest myth of the whole debate.

SS already went broke in 1983 -- and it sure wasn't because of demographics!

It went broke because Congress in 1939 took FDR's original SS program that paid an actuarially sound and sustainable 3% to every retirement cohort, and started upping the return by increasing benefits, then subsequently upping taxes to pay for them, then upping benefits again, and so on. Repeatedly.

But the game ran out when in the 1970s Congress upped benefits again by a lot, only to discover in the early 1980s that it had reached the political limit on raising the payroll tax, and couldn't raise it any more to cover that benefit increase. So SS went broke, out of cash to pay benefits, as a matter or political (mis)management, NOT demographics.

The plunge into negative returns from SS that's faced by today's young isn't the result of demographics either, but of the terms of the "deal" Congress made with itself then to get out of that hole and spare itself the wrath of the retirees who wanted to keep that entire benefit increase of the 70s.

That was to up the payroll tax rate to a new high of 12.4% while cutting benefits for the then young.

So the retirees of around 1984 got the maximum benefit ever after paying taxes that started at 3%, while the young of 1984 -- and retirees of 2024 -- get a reduced benefit after paying taxes that started at 12.4%.

Is that a lower return on contributions? Sure is, but due to politics -- constant politically motivated changes in legislated benefit and tax levels from 1939 to 1983, first steadily increasing returns to current retirees and then, to sustain those, reducing them for future retirees -- not due demographics.

Theoretical exercises about paygo retirement systems that tax a steady and consistent % of GDP over several generations are all very nice -- but have nothing whatsoever to do with our real world Social Security.

"Actually all that needs to be done is to stablize it so that revenue and benefits are roughly a constant % of GDP. This guarantees a return equal to the rate of economic growth with infinite stability."

That's all?

To give the current and future generations of workers a 3% real return on their SS contribtutions would require increasing their benefits by $11 trillion, current value.

Unfortunately, if SS remains paygo the only way to obain that $11 trillion for them will be to tax that $11 trillion from them, which would pretty much defeat the purpose. ;-(

Of course, private accounts might be able to earn 3% for them...

Jim Glass,

You are perfectly right on the political missmanagement of the SS. Of course, SS being a government program, is politically managed, or rather, politically missmanaged - by definition. It cannot be otherwise.

But my point about demographics still holds. Consider the theoretical returns to a theoretical paygo system, which is managed in an absolutely automatic and unpolitic manner: what you take in is what you pay out each year. The return of such a system would depend almost exclusively on demographics or worker/retiree ratio. That is the basic structure of SS.

The political missmanagement is an additional layer of corruption added on top of this basic structure. It can make things worse, but never better than the basic logic permits. That is what happened indeed, but it is NOT only the political missmanagement that is the problem with SS. It is also the basic structure.

Maybe SS wasn't intended to be a paygo system. Maybe it was intended (by FDR) to be a forced saving scheme, under which you get as benefit what you saved during your lifetime. Maybe it was corrupted later by other politicians. I doubt this is the case, because if it were, there would have had to be personal saving accounts from the start.

(Only under a [forced] personal saving scheme - returns are not dependent on worker/retiree ratio).

Besides, there is no point in arguing what were the original (good) intentions, and who is responsible for corrupting FDR's brillinat idea.

We all know where good intentions lead to, and about the law of unintended consequences. When you create a huge new government program, to be administered by politicians - a corrupt system is what you get, no matter what your good intentions are. The problems with SS aren't an avoidable accident.

You could have a stable and sustainable paygo system like you outline: you earmark 5% of GDP for retirement benefits, you tax workers to that extent, and distribute the money (no more, no less) to retirees. Fine. The amount each retiree gets still depends on the worker/retiree ratio.

Actually the amount each retiree gets depends on how much 5% of GDP is. The number of 'retirees' depends upon how the system wants to define benefits. A rising retiree to worker ratio was not caused by benefit cuts but by extending retirement (unintentionally of course) thru longer lifespans. The trade off is no different with a 'funded' 401K. If you want a longer retirement you either must contribute larger amounts to the fund during your working years or accept making your 401K 'stretch' for a longer period of time or both.

When each person makes his own calculation comparing HIS lifetime contributions to HIS lifetime benefits, the returns under SS are lousy. The global percentage of all SS payments relative to GDP is absolutely irrelevant to each individual, as he makes his personal balance.

Now Randy, you're smarter than this. How can each person have lousy returns if the total benefits being paid out to any particular generation is larger than what was paid in real terms? This doesn't even pass the first glance test. According to Jim Glass & Jane tax rates will have to be 99% to pay benefits in 50 years! Yet the people receiving those benefits are getting lousy returns and could have done better with the S&P 500?

Theoretical exercises about paygo retirement systems that tax a steady and consistent % of GDP over several generations are all very nice -- but have nothing whatsoever to do with our real world Social Security.

Except that is roughly a good way to model SS since changes in its portion of GDP are gradual and can be controlled in a gradual manner by adjusting the retirement age, tweaking the benefit formula, changing the indexing methods and so on. It is also a useful theoretical exercise because it shows the lies made to the claims that SS is inheritly a POnzi scheme. These claims are not based on simple Congressional meddling in the 70's but assert that the nature of the idea itself is unstable.

Jim has retreated back to the claim that Congressional tinkering in the 70's messed things up. Find so tinker it back into shape. IMO the best method would be a Federal Reserve model. Monetary policy is another area where small 'tinkering moves' disconnected from politics work better than giving gov't direct access to the printing press.

Currently SS is running a surplus, therefore it is fair that it be allowed to run a deficit for some time. Beyond that let a Social Security Board make minor adjustments in the system every 3-5 years as projections change. Congress would function to decide how much of GDP the public wants to devote to retirement (who knows what the world will be like in 2075? Perhaps 10% of GDP going to a huge portion of idle people will seem quite reasonable in that world just as in 1925 it must have seemed amazing to imagine a world where most work was done sitting behind a computer screen for 8 hours a day).

To give the current and future generations of workers a 3% real return on their SS contribtutions would require increasing their benefits by $11 trillion, current value.

Keeping SS a constant % of GDP generates a return equal to the growth of GDP. If the entire economy is growing by less than 3% then it is impossible for private accounts to give everyone 3% real returns. If the entire economy is growing by more than 3% then there is no problem with SS because the projections will alter dramatically.

"A rising retiree to worker ratio was not caused by benefit cuts but by extending retirement (unintentionally of course) thru longer lifespans. "

"A rising retiree to worker ratio was [not] caused ..."
By whatever it was caused (longer lifespans and lower birth rates) - it is a fact, and it mightily affects the payments vs. benefits balance. So you're going to see lousy returns on an individual basis.

When Jane said you'd have to raise taxes to 99% she meant: in order to maintain promised benefit levels. That ain't gonna happen, of course, so benefits will be cut, and the return rate will be dismal.

So the question will be asked: what do we need a SS system for if it takes our money and gives us back at retirement only a small portion of what it took.

Again if the money coming out of the system in period 2 is larger than the money that went in in period 1 how could returns be dismal?

It's simple:
The more workers you have, the share each has to pay in taxes to reach the goal (of, say 5% of GDP) is less, the less workers - the more each one pays taxes.

The same with the retired: the more there is of them, the share each one gets is smaller.

BTW, why do you think that the SS system is for now producing more income than benefits paid (i.e. has a surplus) but in 11 years will have a deficit ? What causes that deficit, which is definitly known to be coming ? What changes will occur between now and then ? It's only demographics i.e. worker/retiree ratio. We have a very good ability to calculate that several years ahead.

In 2000 there was only so much money that went into SS. In 2025 there will be a certain amount coming out. It is undeniable that even if we cut benefits accross the board to bring the long run projections into balance that the money coming out in 2025 will be more than what went in during 2000.

By definition the sum of all the returns will have to be positive because the taxpayers of 2025 will be putting more in than the taxpayers of 2024 did, 2023, 2022...all the way back to 2000. What we are arguing about is nothing more than the distribution of taxes and returns.

Where returns become larger than economic growth is when Social Security is permitted to grow beyond 5% of GDP up to its projected level of 9% in 2075. The taxpayers who put 9% of GDP in in 2075 will still get positive returns (it will simply be the growth rate after 2075) however the retirees cruising from 5% up to 9% will see returns in excess of economic growth.

What happens in the model if we alter the portion of GDP used by SS?

Generation 1: Tax = 0.05 * GDP

Generation 1: Benefit = 0.09 * (GDP*(1+r))

Return = [0.09 * (1+r) * GDP] / {0.05*GDP)

1.8 * (1+r)

Generation 1 gets a windfall by transitioning. Generation 2 pays for this because generation 2's return is going to be just (1+r).

If we go backwards, we see the reverse. Generation 3 will pay just 5% of GDP while Generation 2 will be getting just 5% of the new GDP yet they paid in 9% of the old GDP. Whether their returns are positive or negative will depend on how fast GDP grew but they will be less than r.

So lowering SS as a % of GDP must yield a loss (or at least lower return) yet keeping it constant (more or less) cannot yield a net negative return in a growing economy.

But if the board is underestimating economic growth then Social Security will not rise as much in terms of GDP. Which is why these figures need to be heavily discounted. The uncertainity of any projection more than maybe 10 years out is so great that any great project to 'fix it' needs to be viewed with heavy skepticism.

You talk again about global input vs. global output (on which you may be right), while I talk about PER CAPITA input vs output.

Why will current benefit levels require 9% of GDP in 2075 (your figure), while they require only 5% now ? Benefits are indexed to wage levels, and are not supposed to grow at a faster rate than GDP. It's because in 2075 there will be a lot more retirees, drawing a pension which hasn't risen that much. So the total output will rise (relative to GDP) because of the rise in the number of beneficiaries.
If you try to reduce the total to the same 5% of GDP - you have to cut personal benefits by 4/9.
(i.e. cut them almost in half relative to wages).

You can go to the Social Security Calculator at the Cato institute site and calculate the exact rate of return that you'll earn, under various circumstances.
(Age, level of income, etc.) This is calculated supposing the current schedule of tax vs. benefits isn't modified, which is itself an unrealistic assumption).

I understand what you're saying Jacob. Let me answer you as follows:

1. Projections are that SS will rise to 9% of GDP because assumptions have been made in the projections for both lower economic growth and lower productivity growth.

1. a. As Jane pointed out, lower economic growth may be logical due to smaller population growth. However productivity has been growing at a healthy clip recently. These figures have NOT been incorporated into the projections because the Board only uses averages from one downturn to the next. Only with the next business cycle will the averages be updated with the current good numbers.

1. b. SS is NOT indexed to wages, only the initial benefit is and beyond that it is only indexed to inflation. In a period of rising wages initial benefits do go up but payroll tax receipts keep going up even as benefits are 'locked' in place by inflation.

1. c. SS's benefits are scheduled. There's no automatic mechanism that forces them to match GDP exactly just as there's no automatic mechanism that links the Federal Reserve's interest rates to inflation. This is why I would have a Fed. Reserve type board periodically tweaking benefits up or down to keep the projections in line with a constant level of GDP which would be set by Congress. That's a lot more sensible than trying to 'fix' a projection that is more than a whole generation out.

2. Even if we talk about per capita versus total inputs/outputs. How is it logical that more money is coming out in year T than went in in year T-1 but just about everyone is getting negative returns? The sum of all the per capita returns must equal the total after all.

2 a One possibility is that positive returns are getting mopped up by longer living. But if people are living longer then that means they are getting higher, not lower returns. My belief is that SS's returns are at least partially caused by the SS Surplus. Since people are paying in more today than is going out in benefits, their return calculations would have been higher if SS was simply held in rough balance. As we have seen, though, the SS surplus is generating its own return today through lower taxes. So that has to be calculated into any honest projection of returns.

2 b. I'm suspecious of the Cato calculate for two reasons. First, obviously, Cato has a partisan agenda. This doesn't mean they can't do good work but it does mean there's reason to wonder if they are leaving out some important elements. Second, the calculator may very well show negative returns for someone like me. A 30 something white male who earns above average income (but not wealthy nor at the top of the income distribution). That doesn't tell me what the 'average person' is.

2. c. Finally all returns are fixed in the long run by the growth of the economy. If the economy is growing by 2% in real terms then 3% returns are impossible unless someone else is getting 1% returns. Since SS's returns are relatively free of all risk they should be lower than the returns from riskier investments like stocks. The flip side of this, however, is that stocks can generate returns in excess of growth for some people but not everybody.

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