Thursday, September 8, 2011

Social Security IS a Ponzi Scheme

Ponzi Scheme (n): an investment swindle in which early investors are paid with sums obtained from later ones in order to create the illusion of profitability (Merriam-Websters Dictionary of Law, 1996)

Rick Perry is taking a lot of heat not only from the liberal media but also from conservative media for "doubling down" in the debate and calling Social Security a Ponzi Scheme. I understand the mainstream media saying this, they're practically cheerleaders for the Democratic Party and they're very much invested in the lies that have been told about Social Security for half a century. I don't understand the conservatives, though. Yes, sometimes it's politically dangerous to call a spade a spade, but Social Security _is_ a Ponzi Scheme. That it has ever been anything else is one of the great political lies of the 20th Century (maybe THE great political lie of the 20th century) and conservatives should be eager to discredit it (while proposing solutions to the problem that don't pull the rug out from under seniors who are depending on it).

The reason this is so important is that huge portions of otherwise well informed Americans have actually fallen for the statements they get from the Social Security Administration on their paystubs and in the mail that list their "contributions" and "account balance". These are outright lies. No one has ever made a "contribution" to Social Security in the entire history of the program, and no one has ever had an "account balance". Social Security "accounts" don't exist in any meaningful way and the sooner people come to grips with that the sooner we can fix the system.

For those of you who don't know, this is how Social Security really works.

  1. You pay a payroll tax. This payroll tax, as a matter of statute and case law is not earmarked in any way and can be spent at the whim of the Federal Government. (See Helvering v. Davis)
  2. The Social Security Administration uses part of the income from this tax to fund the benefits to current recipients and "invests" part of it in Treasury instruments, which the Treasury promises to pay back if the Social Security Administration asks for it. The money that was invested in the Treasury is then spent as part of the general US budget for farm subsidies and road building and international aid and whatever else the Fed does.
  3. When one of several things happens (death of a spouse, disability, retirement) the Social Security Administration uses some complex formula based on how much you put in and how long you worked to cut you checks from current payroll tax revenue (plus the trust fund, though that rarely happens). This formula is defined by law and subject to change at any time. (i.e. When the Social Security Administration sends you glossy material in the mail saying that you are guaranteed to get X when you retire they mean "pursuant to current law". If Congress changes the law tomorrow to say you get 10 percent of that then tomorrow you will be guaranteed 10 percent of that.)
So lets compare and contrast this with a classic Ponzi scheme. Social Security uses the money from later investors to pay the benefit of early ones so it's clearly at least partially inline with the dictionary definition.

You could argue that the trust fund means that even though in practice it pretty much always pays benefits entirely out of contributions, it's not dependent on them, so that's different from a Ponzi scheme. But you would be wrong. At the end of 2010 Social Security had $2.5 trillion in the trust fund and in 2010 they paid out $584 billion in disbursements (2011 Trustees report, table III.A1) and disbursements are expected to increase rapidly and forever, so we would expect the trust fund to run out of money in less that 5 years if we stopped contributing. And that's not the worst of it. As I've said elsewhere, I don't believe in the trust fund. There are commentators that say the Treasury would never default on the Trust Fund notes because it would cause US bonds to collapse. But they don't have to. The Social Security Administration is a creature of statute law and Congress could vote tomorrow to forgive the trust fund debt to itself and there would be no bond implications (I would actually argue that bonds would become stronger because we don't have the huge unfunded social security liability stressing them). If we suddenly needed to increase expenditures by half a trillion per year to cover Social Security expenses I suspect changes would happen in short order.

You could also argue that Social Security isn't doing this "in order to create the illusion of profitability" because everything I've just stated is a matter of plain statute law, so it's not like Bernie Madoff who was claiming he invested in X and Y. Everybody knows how Social Security works so nobody is fooled into thinking it's a profitable investment. But that's not true, either. I'll demonstrate this by asking what the Social Security would do if they wanted to convince gullible masses that their "contributions" in Social Security "accounts" would yield particular "guaranteed returns". Exactly what they've been doing for years, marking your payroll tax as a "contribution" on your pay stubs and sending you stuff in the mail about your "account". And it's working. In the past week alone I have encountered two people who honestly believed that they have made contributions to Social Security accounts that exist as actual assets somewhere and were somewhat hurt and felt they had been lied to when I told them what I expressed above. I agree they have been lied to, but if the government has been lying to people and telling them that they have money in accounts somewhere, then they are clearly "creating the illusion of profitability".

The only other argument I've seen for why Social Security isn't really a Ponzi Scheme is precisely that it is a government program so whereas a Ponzi Scheme depends on getting more and more investors in order to meet its promises to past investors and inevitably fizzles when not enough gullible people can be found, the government can threaten to put you in prison unless you pay more and more money to support the program for prior investors. I'll admit, this is somewhat different from a classic ponzi scheme (though I'll argue it's worse) but it's not going to prevent a fizzle. The number of investors per recipient is declining and at some point people are going to say "enough" and cancel the program. Social Security started by charging 2% limited to $60. Currently it is sapping around 12% of our income (limited to $12,000) but according to official estimates it's going to require more than twice that by 2025 (including funds to the "general fund" in order to offset repayment of the trust fund) and it grows every year.

Social Security IS a Ponzi Scheme and it's critically important that we as conservatives explain this to people. Until people understand that the underpinnings of the program are a lie we can't have a responsible discussion of the program. If Social Security is like a 401(k) then I would be criminal (or at least progressive) to suggest that Warren Buffet shouldn't be able to get his money out of his account when he retired. If, on the other hand, Social Security is more like welfare it seems insane to think that wealthy retirees should be receiving it at all. One of the most powerful complaints about Paul Ryan's budget is that it reduces Medicare (he doesn't actually deal with Social Security at all) payments for those under 55. This is so powerful because people feel like he's stealing money from the accounts where they have been making contributions all these years, but those contributions were taxes, and they've been spent. And the government is unlikely to be able to raise the money to repay them under the current program in 15 years anyway.

We need to drastically reshape Social Security. I'm fine with the Ryan plan and I'm likely to be fine with the Perry plan, but if I were writing a plan I would go much farther. I understand, particularly politically, the desire not to affect seniors who have already retired under the presumption that they would get what Social Security promised them, but I would prefer if we as a country got to the point where we understood it is essentially a welfare program and if you managed to retire with a hundred million in the bank maybe you shouldn't get the full amount of welfare the SSA said you were going to get (even though you believed them when they lied to you and said you were contributing it to an account and would get a substantial return). After all, many of the investors who believed Madoff and Ponzi when they lied to them didn't get anything back, and even I'm not suggesting that.