Social Security articles

The Free Lunch Bunch

By PAUL KRUGMAN

Published: January 21, 2005 id they believe they would be welcomed as liberators? Administration plans to privatize Social Security have clearly run into unexpected opposition. Even Republicans are balking; Representative Bill Thomas says that the initial Bush plan will soon be a "dead horse."

That may be overstating it, but for privatizers the worst is yet to come. If people are rightly skeptical about claims that Social Security faces an imminent crisis, just wait until they start looking closely at the supposed solution.

President Bush is like a financial adviser who tells you that at the rate you're going, you won't be able to afford retirement - but that you shouldn't do anything mundane like trying to save more. Instead, you should take out a huge loan, put the money in a mutual fund run by his friends (with management fees to be determined later) and place your faith in capital gains.

That, once you cut through all the fine phrases about an "ownership society," is how the Bush privatization plan works. Payroll taxes would be diverted into private accounts, forcing the government to borrow to replace the lost revenue. The government would make up for this borrowing by reducing future benefits; yet workers would supposedly end up better off, in spite of reduced benefits, through the returns on their accounts.

The whole scheme ignores the most basic principle of economics: there is no free lunch.

There are several ways to explain why this particular lunch isn't free, but the clearest comes from Michael Kinsley, editorial and opinion editor of The Los Angeles Times. He points out that the math of Bush-style privatization works only if you assume both that stocks are a much better investment than government bonds and that somebody out there in the private sector will nonetheless sell those private accounts lots of stocks while buying lots of government bonds.

So privatizers are in effect asserting that politicians are smart - they know that stocks are a much better investment than bonds - while private investors are stupid, and will swap their valuable stocks for much less valuable government bonds. Isn't such an assertion very peculiar coming from people who claim to trust markets?

When I ask privatizers that question, I get two responses.

One is that the diversion of revenue into private accounts doesn't have to lead to government borrowing, that the money can come from, um, someplace else. Of course, many schemes look good if you assume that they will be subsidized with large sums shipped in from an undisclosed location.

Alternatively, they point out that stocks on average were a very good investment over the last several decades. But remember the disclaimer that mutual funds are obliged to include in their ads: "past performance is no guarantee of future results."

Fifty years ago most people, remembering 1929, were afraid of the stock market. As a result, those who did buy stocks got to buy them cheap: on average, the value of a company's stock was only about 13 times that company's profits. Because stocks were cheap, they yielded high returns in dividends and capital gains.

But high returns always get competed away, once people know about them: stocks are no longer cheap. Today, the value of a typical company's stock is more than 20 times its profits. The more you pay for an asset, the lower the rate of return you can expect to earn. That's why even Jeremy Siegel, whose "Stocks for the Long Run" is often cited by those who favor stocks over bonds, has conceded that "returns on stocks over bonds won't be as large as in the past."

But a very high return on stocks over bonds is essential in privatization schemes; otherwise private accounts created with borrowed money won't earn enough to compensate for their risks. And if we take into account realistic estimates of the fees that mutual funds will charge - remember, in Britain those fees reduce workers' nest eggs by 20 to 30 percent - privatization turns into a lose-lose proposition.

Sometimes I do find myself puzzled: why don't privatizers understand that their schemes rest on the peculiar belief that there is a giant free lunch there for the taking? But then I remember what Upton Sinclair wrote: "It is difficult to get a man to understand something when his salary depends on his not understanding it."

E-mail: krugman@nytimes.com

Little Black Lies

By PAUL KRUGMAN

Published: January 28, 2005

ocial Security privatization really is like tax cuts, or the Iraq war: the administration keeps on coming up with new rationales, but the plan remains the same. President Bush's claim that we must privatize Social Security to avert an imminent crisis has evidently fallen flat. So now he's playing the race card. This week, in a closed meeting with African-Americans, Mr. Bush asserted that Social Security was a bad deal for their race, repeating his earlier claim that "African-American males die sooner than other males do, which means the system is inherently unfair to a certain group of people." In other words, blacks don't live long enough to collect their fair share of benefits.

This isn't a new argument; privatizers have been making it for years. But the claim that blacks get a bad deal from Social Security is false. And Mr. Bush's use of that false argument is doubly shameful, because he's exploiting the tragedy of high black mortality for political gain instead of treating it as a problem we should solve.

Let's start with the facts. Mr. Bush's argument goes back at least seven years, to a report issued by the Heritage Foundation - a report so badly misleading that the deputy chief actuary (now the chief actuary) of the Social Security Administration wrote a memo pointing out "major errors in the methodology." That's actuary-speak for "damned lies."

In fact, the actuary said, "careful research reflecting actual work histories for workers by race indicate that the nonwhite population actually enjoys the same or better expected rates of return from Social Security" as whites.

Here's why. First, Mr. Bush's remarks on African-Americans perpetuate a crude misunderstanding about what life expectancy means. It's true that the current life expectancy for black males at birth is only 68.8 years - but that doesn't mean that a black man who has worked all his life can expect to die after collecting only a few years' worth of Social Security benefits. Blacks' low life expectancy is largely due to high death rates in childhood and young adulthood. African-American men who make it to age 65 can expect to live, and collect benefits, for an additional 14.6 years - not that far short of the 16.6-year figure for white men.

Second, the formula determining Social Security benefits is progressive: it provides more benefits, as a percentage of earnings, to low-income workers than to high-income workers. Since African-Americans are paid much less, on average, than whites, this works to their advantage.

Finally, Social Security isn't just a retirement program; it's also a disability insurance program. And blacks are much more likely than whites to receive disability benefits.

Put it all together, and the deal African-Americans get from Social Security turns out, according to various calculations, to be either about the same as that for whites or somewhat better. Hispanics, by the way, clearly do better than either.

So the claim that Social Security is unfair to blacks is just false. And the fact that privatizers keep making that claim, after their calculations have repeatedly been shown to be wrong, is yet another indicator of the fundamental dishonesty of their sales pitch.

What's really shameful about Mr. Bush's exploitation of the black death rate, however, is what it takes for granted.

The persistent gap in life expectancy between African-Americans and whites is one measure of the deep inequalities that remain in our society - including highly unequal access to good-quality health care. We ought to be trying to diminish that gap, especially given the fact that black infants are two and half times as likely as white babies to die in their first year.

Now nobody can expect instant progress in reducing health inequalities. But the benefits of Social Security privatization, if any, won't materialize for many decades. By using blacks' low life expectancy as an argument for privatization, Mr. Bush is in effect taking it as a given that 40 or 50 years from now, large numbers of African-Americans will still be dying before their time.

Is this an example of what Mr. Bush famously called "the soft bigotry of low expectations?" Maybe not: it isn't particularly soft to treat premature black deaths not as a tragedy we must end but as just another way to push your ideological agenda. But bigotry - yes, that sounds like the right word.

Sen. Wayne Allard Colorado Republican says that the US government will simply go into default and never pay the money back.

From today's Greeley Tribune ...

"I believe we have a problem with Social Security that will emerge in 2018," he said. "At that point in time, Social Security pay out will be more than what is in the fund put in by working people or employers."

Allard said there are no reserves in Social Security because what is there is automatically transferred into the general fund, leaving a debt of $28 trillion. But he doesn't believe the money will ever be repaid to the fund.

"The money is spent," he said. "I don't believe in my own opinion we'll be able to raise the funds to pay it back."

And since the portion of our national debt owed to the Social Security Trust Fund makes up (I believe) less than a third of our total debt, are we going to default on the rest of those bonds too?

-- Josh Marshall

(January 13, 2005 -- 05:49 PM EST // link // print)

The Big Freeze

(http://yglesias.typepad.com/) The Bushian switch from a wage index to a price index is not merely the one-time cut in benefits from 40 percent of wages to 20 percent of wages for people roughly my age that it's been portrayed as. Since the wage-price differential continually increases over time, if you look at the proposal in the infinite horizon (and we know Bush loves the infinite horizon) this means that over time Social Security benefits will asymptotically approach zero percent of wages.

It's a plan, in other words, to eliminate the program. But not to eliminate it for anyone who could vote today, instead the unborn are to bear the brunt of Bush's cuts. Neat trick. We could similarly "fix" Social Security by suggesting that benefits be boosted right now, and then all the debt be repaid by a massive payroll tax hike scheduled to be phased in during the years 2060-2100.

UPDATE: Here's the post in question:

The most innocuous (and the one that I incorrectly thought most people were talking about) is changing the indexing of earnings. For example, if you made $5,000 in 1970, under the wage indexing formula you'd (matthew Yglasias) multiply that number by 5.07 to figure that year's contribution to your AIME. Under CPI indexing you'd multiply by 4.80. For your 1990 earnings you'd multiply by 1.42 instead of 1.62. This is really a modest change. Someone retiring in 2100 would only lose a maximum of the weighted average of the difference between the CPI and wage growth between 2060 and 2100.

However, the "bend points" were set in 1979. Those don't grow. Today's bend points are calculated by scaling up these 1979 values by wage growth between 1979 and today. Changing from wage indexing to price indexing would mean that someone retiring in 2100 would lose an amount proportionate to the difference between the CPI and wage growth between 1979 and 2100. Thanks to compound interest, this difference will grow arbitrarily large over time with the implication that changing the indexing of the "bend points" would eventually totally eliminate Social Security. (translation from Pete): someone born in 2010 will live at 40% of the standard of living in 1979, not 40% of the standard of living in 2080.)

There's the rub.

The Iceberg Cometh

By PAUL KRUGMAN

Published: January 11, 2005ast week someone leaked a memo written by Peter Wehner, an aide to Karl Rove, about how to sell Social Security privatization. The public, says Mr. Wehner, must be convinced that "the current system is heading for an iceberg."

It's the standard Bush administration tactic: invent a fake crisis to bully people into doing what you want. "For the first time in six decades," the memo says, "the Social Security battle is one we can win." One thing I haven't seen pointed out, however, is the extent to which the White House expects the public and the media to believe two contradictory things.

The administration expects us to believe that drastic change is needed, and needed right away, because of the looming cost of paying for the baby boomers' retirement.

The administration expects us not to notice, however, that the supposed solution would do nothing to reduce that cost. Even with the most favorable assumptions, the benefits of privatization wouldn't kick in until most of the baby boomers were long gone. For the next 45 years, privatization would cost much more money than it saved.

Advocates of privatization almost always pretend that all we have to do is borrow a bit of money up front, and then the system will become self-sustaining. The Wehner memo talks of borrowing $1 trillion to $2 trillion "to cover transition costs." Similar numbers have been widely reported in the news media.

But that's just the borrowing over the next decade. Privatization would cost an additional $3 trillion in its second decade, $5 trillion in the decade after that and another $5 trillion in the decade after that. By the time privatization started to save money, if it ever did, the federal government would have run up around $15 trillion in extra debt.

These numbers are based on a Congressional Budget Office analysis of Plan 2, which was devised by a special presidential commission in 2001 and is widely expected to be the basis for President Bush's plan.

Under Plan 2, payroll taxes would be diverted into private accounts while future benefits would be cut. In the short run, this would worsen the budget deficit. In the long run, if all went well, cutting benefit payments would reduce the deficit.

All wouldn't go well; I'll explain why in another column. But suppose that everything went according to plan. Even in that unlikely case, privatization wouldn't even begin to reduce the budget deficit until 2050. This is supposed to be the answer to an imminent crisis?

While we waited 45 years for something good to happen, there would be a real risk of a crisis - not in Social Security, but in the budget as a whole. And privatization would increase that risk.

We already have a large budget deficit, the result of President Bush's insistence on cutting taxes while waging a war. And it will get worse: a rise in spending on entitlements - mainly because of Medicare, but with a smaller contribution from Medicaid and, in a minor supporting role, Social Security - looks set to sharply increase the deficit after 2010.

Add borrowing for privatization to the mix, and the budget deficit might well exceed 8 percent of G.D.P. at some time during the next decade. That's a deficit that would make Carlos Menem's Argentina look like a model of responsibility. It would be sure to cause a collapse of investor confidence, sending the dollar through the floor, interest rates through the roof and the economy into a tailspin.

And when investors started fleeing because they believed that America had turned into a banana republic, they wouldn't be reassured by claims that someday, in the distant future, privatization would do great things for the budget. Just ask the Argentines: their version of Social Security privatization was also supposed to save money in the long run, but all it did was move forward the date of their crisis.

A responsible administration would reverse course on tax cuts and the botched 2003 Medicare drug bill, both of which pose much greater threats to the government's solvency than the modest financial shortfall of the Social Security system. But Mr. Bush has declared his tax cuts inviolable, and he says that his drug bill will actually save money. (The Medicare trustees say it will cost $8 trillion.)

There's an iceberg in front of us, all right. And Mr. Bush wants us to steam right into it, full speed ahead.

Inventing a Crisis By PAUL KRUGMAN (edited by Pete)
Published: December 7, 2004

Privatizing Social Security - replacing the current system, in whole or in part, with personal investment accounts - won't do anything to strengthen the system's finances. It will give $billions to Wall street brokers and add trillions to our debt - if anything making things worse. Nonetheless, the politics of privatization depend crucially on convincing the public that the system is in imminent danger of collapse, that we must destroy Social Security in order to save it. There's nothing strange or mysterious about how Social Security works: it's just a government program supported by a dedicated tax on payroll earnings, just as highway maintenance is supported by a dedicated tax on gasoline.

Right now the revenues from the payroll tax exceed the amount paid out in benefits. This is the result of a payroll tax increase under Reagan - raising a tax that falls mainly on lower- and middle-income families, while cutting the taxes that fall mainly on the very well-off. The extra revenue from the poor would build up a trust fund that could be drawn on to pay benefits once the baby boomers began to retire.

The Social Security “crisis” could be fixed - extending the life of the trust fund into the 22nd century - with additional revenues equal to only 0.54 percent of G.D.P. That's roughly equal to the part of Bush’s cuts that go to people with incomes over $500,000 a year

The federal government as a whole faces a very large financial shortfall because of Bush-Reagan tax cuts focused on the rich. That deficit is approaching 5% of GDP – ten times the size of the social security “Crisis”. But since the politics of “privatization” depend on convincing the public that there is a Social Security crisis, the privatizers focus on the mouse and ignore the elephant.

The Bush administration insists that the Social Security system's current surplus and the trust fund it has been accumulating from the poor is meaningless. Social Security, they say, isn't really an independent entity - it's just part of the federal government. They break the promise of a “lock box” and steal trust funds to cover part of their tax-cut driven deficit. General revenue taxes only pay 68% of current spending without the theft.

If the trust fund is meaningless, that tax increase in the 1980's was nothing but an exercise in class warfare: taxes on working-class Americans went up, taxes on the affluent down, and the workers have nothing to show for their sacrifice.

The same people who claim that Social Security isn't an independent entity when it runs surpluses they can steal also insist that late next decade, when the benefit payments start to exceed the payroll tax receipts, this will represent a crisis - you see, Social Security has its own dedicated financing, and therefore must stand on its own.

There's no honest way anyone can hold both these positions, but very little about the privatizers' position is honest. They come to bury Social Security, not to save it. They aren't sincerely concerned about the possibility that the system will someday fail; they're disturbed by the system's historic success. For Social Security is a government program that works, a demonstration that a modest amount of taxing and spending can make people's lives better and more secure. And that's why the right wants to destroy it.

REAL PROBLEMS vs. FAKE PROBLEMS....Here's a question for all you policy wonks out there: why is George Bush spending all his political energy on trying to privatize Social Security? Is Social Security really the most important problem we have right now? Is it even the most important entitlement program we have right now?

Here's a handy chart comparing Social Security with Medicare. Decide for yourself.

	Social Security	Medicare
Current guess about when we start dipping into the trust fund	2018	2010
Current guess about when the trust fund is exhausted	2042	2019
Level of optimism about trust fund	High! Doomsday keeps getting pushed out, from 2029 a decade ago to 2042 today. And the CBO estimates that it's really more like 2050 anyway.	Low! Doomsday was pulled in from 2026 to 2019 just last year. The future of Medicare looks worse today than it did a few years ago.
Current expenditures (2003)	About 4.5% of GDP.	About 2.6% of GDP
Estimated expenditures in 2050	About 6.5% of GDP.	About 9.5% of GDP.

So: Social Security is solvent for several decades at a minimum, and if the economy performs decently it may very well be solvent forever. What's more, the cost of Social Security is only going to increase by 2 points of GDP in the next 50 years. This is not Armageddon.

Medicare, on the other hand, will start dipping into its trust fund in a mere six years. And no one thinks this estimate is going to improve: thanks to skyrocketing healthcare costs, Medicare might very well be in worse shape than we think it is. As a result, the cost of Medicare is likely to increase by a staggering 7 points of GDP over the next 50 years.

Why, then, are we obsessing over Social Security, which is not really that big a deal, and ignoring Medicare, which has serious problems in both the short term and the long term?

As near as I can tell, the answer is twofold. First, Social Security provides Republicans with a chance to introduce a conservative nostrum that they've long pined for: private accounts. We don't need them, and they won't actually do anything to solve whatever problems Social Security might have, but an invented crisis is a good excuse to introduce them anyway. Conversely, there's no way to plausibly pretend that private accounts will save Medicare, so why bother?

Second, Social Security is relatively easy to deal with since it's just a pure funding issue: you can raise taxes, cut benefits, or borrow more. It's pretty simple to grasp.

Conversely, Medicare reform is really, really hard. You've got the same funding issues as Social Security, except much bigger and much closer; and in addition you also have to face up to spiralling healthcare costs. And figuring out a way to contain healthcare costs is a subject that nobody wants to tackle. Not Democrats and definitely not Republicans.

Bottom line: we have one real problem and one fake problem. The fake problem is, well, fake, but it provides a plausible excuse to do something conservatives have long wanted to do anyway. The real problem, on the other hand, is, um, real, but fixing it would take genuine political courage.

So which problem do you think George Bush has decided to tackle?

POSTSCRIPT: On a practical note, I should add that I guess I'm just as glad Bush is ignoring Medicare. It's true that it needs reform, but considering the general level of political corruption and contempt for policy that attends any George Bush "reform," I'd just as soon he left it alone for someone else to worry about.

The Social Security Fear Factor

Published: January 3, 2005

If you've lent even one ear to the administration's recent comments on Social Security, you have no doubt heard President Bush and his aides asserting that a $10 trillion shortfall threatens the retirement system - and the economy itself. That $10 trillion hole is the basis of the president's claim last month that "the [Social Security] crisis is now." It's also the basis of the administration's claim that the cost of doing nothing to reform the system would be far greater than the cost of acting now.

Well, the $10 trillion figure is the closest you can get to pulling a number out of the air. Make that the ether. Starting last year, as the groundwork was being set for the emerging debate, the Social Security trustees took the liberty of projecting the system's solvency over infinity, rather than sticking to the traditional 75-year time horizon. That world-without-end assumption generates the scary $10 trillion estimate, and with it, Mr. Bush's putative rationale for dismantling Social Security in favor of a system centered on private savings accounts. The American Academy of Actuaries, the profession's premier trade association, objected to the change. In a letter to the trustees, the actuaries wrote that infinite projections provide "little if any useful information about the program's long-range finances and indeed are likely to mislead any [nonexpert] into believing that the program is in far worse financial condition than is actually indicated."

As it often does with dissenting professional opinion, the administration is ignoring the actuaries. But that doesn't alter the facts or common sense. If the $10 trillion figure is essentially bogus, so is the claim that Social Security is in crisis. The assertion that doing nothing would be costlier than enacting a privatization plan also turns out to be wrong, by the estimates of Congress's own budget agency.

Over a 75-year time frame, Social Security's shortfall is estimated by the Congressional Budget Office at $2 trillion and by the Social Security trustees at $3.7 trillion, a manageable sliver of the economy in each case. If the shortfall is on the low side, Social Security will be in the black until 2052, when it will be able to pay out 80 percent of the promised benefits. If it is on the high side, the system will pay full benefits until 2042, when it will cover 70 percent.

Contrary to Mr. Bush's frequent assertion that Social Security is constantly imperiled by political meddling, it has in fact been preserved and improved by political intervention throughout its 70-year history, most significantly in 1983. The system could - and should - be strengthened again by a modest package of benefit cuts and tax increases phased in over decades.

Instead, the administration wants workers to divert some of the payroll taxes that currently pay for Social Security into private investment accounts, in exchange for a much-reduced government benefit. To replace the taxes it would otherwise have collected - money it needs to pay benefits to current and near retirees - the government would borrow an estimated $2 trillion over the next 10 years or so and even more thereafter.

In effect, the administration's plan would get rid of the financial burden of Social Security by getting rid of Social Security. The plan shifts the financial risk of growing old onto each individual and off of the government - where it is dispersed among a very large population, as with any sensible insurance policy. In a privatized system, you may do fine, but your fellow retirees may not, or vice versa.

In any event, doing well under privatization is relative. Congress's budget agency analyzed the privatized plan that is widely regarded as the template for future legislation and found that total retirement benefits - including payouts from the private account plus the government subsidy - would be less than under the present system. The amount available from the privatized system was less even after midcentury, when the current system is projected to come up short. It should come as no shock that individual investors might not do as well as hoped. The stock market's historical returns - some 7 percent a year - are predicated on a hypothetical investor who bought an array of stocks in the past, reinvested all dividends, never cashed in and never paid commissions or fees. That's not how investing works in the real world. An especially grave danger is that investors would withdraw their funds before retirement, a pattern that is pronounced in 401(k) plans. It would be politically very difficult to refuse people access to accounts that were sold to them on the premise that they - not the government - would own them.

The Congressional Budget Office analysis also likely understates the costs to individuals of privatizing Social Security. The borrowing that would be needed to establish private accounts could lead to higher interest rates, a weaker dollar and slower economic growth. It is also likely that future tax hikes would be required to cover the interest payments on the additional national debt.

The only hands-down winner would be Wall Street, as fees to manage millions of accounts poured in. (Those fees, not incidentally, would come out of your return.) Current stockholders would also stand to benefit, as increased demand pushed up stock prices, giving existing owners a gain at the expense of newcomers who would be forced to buy high. The affluent, who could afford professional investing advice, would also be advantaged, even though everyone would be taking the same risks.

The zeal over privatization is fueled by the belief of Mr. Bush and his supporters that free-market fixes are appropriate for virtually every problem. That faith is misguided. For a society to be functional and humane, it's not enough that some people have a chance to be rich in old age. Rather, all old people must have the dignity of financial security, and that requires universal coverage.

Social Security is the core tier of old-age support, replacing about a third of preretirement income for a typical retiree and providing inflation-proof income for life - a feature not available in private accounts. Its purpose is not to supplant other retirement investing, but to provide a crucial safety net. Anyone who wants to maintain his or her standard of living into old age must also amass substantial personal savings and investments. To introduce the same risk into the core tier of benefits that already exists for the bulk of one's retirement savings would be as unfair as it is unwise.

If Mr. Bush were not so serious about privatizing Social Security, his urgency would be silly. Compared with other challenges looming for the government, it's a non-problem. The shortfall in the Medicare hospital insurance fund is two to three times the size of the Social Security shortfall, and that fund is projected to be insolvent some two to three decades before Social Security. Taken together, the costs of the Medicare prescription benefit and of making the tax cuts permanent - Mr. Bush's two main domestic initiatives - are 5 to 8.5 times larger. And his hair is on fire over Social Security?

One of the most distressing aspects of the debate over Social Security privatization is that it distracts from more pressing issues and obscures better solutions to the problem of secure retirement. A future editorial will discuss new strategies to increase private savings outside of Social Security that draw on market theory and behavioral economics and are more promising than rehashing the same tired formula of tax-sheltered savings accounts. In the meantime, however, Mr. Bush and his supporters will be pursuing their idée fixe of privatization. It's bad policy. And it's bad politics, too, driven by reflex, ideology and special interests, and sustained by conformism that masquerades as party discipline. Lawmakers who still value their right and obligation to think for themselves - and to act in the best interest of their constituents - must champion solutions that will build on Social Security, not undermine it.

December 1, 2004

THE "ILLUSIONARY" TRUST FUND....There are lots of different ways to look at Social Security funding issues, and pretty much every one of them is jaw droppingly boring. What's more, since the Bush administration is plainly not interested in actual policy issues related to Social Security, it seems not only boring but also pointless to keep yammering away about it.

But yammer we must. So here's one more angle to think about.

Social Security is funded by payroll taxes. In 1983, Alan Greenspan headed up a commission that recommended saving Social Security from imminent doom by raising those payroll taxes to cover expected increases in Social Security payouts. But there was a twist: Greenspan recommended raising payroll taxes above what was required to actually pay current benefits to retirees, with the resulting surplus used to buy treasury bonds that would be piled up each year in Social Security's trust fund. And since these bonds were sold to the trust fund by the federal government, this means that the federal government got a big chunk of extra money every year for use in the general fund.

Under this scheme, payroll taxes were sufficient to cover payouts plus bond purchases until about 2018. Then, from 2018 to 2042, when payroll taxes would no longer be enough to cover payouts, the difference would be made up by cashing in the bonds in the trust fund. In other words, the feds would tap into the general fund to give back all the money that Social Security had handed over between 1983 and 2018. This money would come from the same place all general fund money comes from: income taxes.

Still with me? Here's what this means:

· Between 1983-2018, this plan calls for payroll taxes to be higher than they need to be to cover payouts to retirees. However, because the surplus payroll taxes are handed over to the feds, it means income taxes are lower than they would otherwise be.

· Then, between 2018-2042, payroll taxes will be less than they need to be to pay benefits to retirees. However, the difference will be made up by higher income taxes, which will be used to pay off the trust fund bonds.

Payroll taxes are paid mostly by the middle class and the poor. Income taxes are paid mostly by the well off.

So: for 35 years the middle class and the poor pay excess payroll taxes and the well off get a break on their income taxes. However, for the following 24 years the middle class and the poor get a break on their payroll taxes and the well off finance it by paying higher income taxes.

Now, this may sound like a dumb idea to you, but that was the deal. The bottom 80% take it on the chin for a few decades, followed by a couple of decades in which the well off get socked.

But suppose — as conservatives are laying the groundwork for — that Bush decides the trust fund is a mirage, just a giant IOU from one part of the government to the other. And as part of his "reform" plan he proposes a complex scheme that, when stripped to its essentials, entails doing away with the flim flam of that illusionary trust fund and the higher income taxes it will require when 2018 finally rolls around. What would that mean?

It would mean that the middle class and the poor got suckered into overpaying their taxes for three decades, and then when the bill came due the well off ducked out of their end of the bargain.

Of course, that would be a brazen rip off of the middle class in order to give a break to the well off and the rich. George Bush would never do something like that, would he?

—Kevin Drum 12:31 AM Permalink | TrackBack (3) | Comments (93)

The British Evasion

By PAUL KRUGMAN

Published: January 14, 2005 e must end Social Security as we know it, the Bush administration says, to meet the fiscal burden of paying benefits to the baby boomers. But the most likely privatization scheme would actually increase the budget deficit until 2050. By then the youngest surviving baby boomer will be 86 years old.

Even then, would we have a sustainable retirement system? Not bloody likely.

Pardon my Britishism, but Britain's 20-year experience with privatization is a cautionary tale Americans should know about.

The U.S. news media have provided readers and viewers with little information about how privatization has worked in other countries. Now my colleagues have even fewer excuses: there's an illuminating article on the British experience in The American Prospect, www.prospect.org, by Norma Cohen, a senior corporate reporter at The Financial Times who covers pension issues.

Her verdict is summed up in her title: "A Bloody Mess." Strong words, but her conclusions match those expressed more discreetly in a recent report by Britain's Pensions Commission, which warns that at least 75 percent of those with private investment accounts will not have enough savings to provide "adequate pensions."

The details of British privatization differ from the likely Bush administration plan because the starting point was different. But there are basic similarities. Guaranteed benefits were cut; workers were expected to make up for these benefit cuts by earning high returns on their private accounts.

The selling of privatization also bore a striking resemblance to President Bush's crisis-mongering. Britain had a retirement system that was working quite well, but conservative politicians issued grim warnings about the distant future, insisting that privatization was the only answer.

The main difference from the current U.S. situation was that Britain was better prepared for the transition. Britain's system was backed by extensive assets, so the government didn't have to engage in a four-decade borrowing spree to finance the creation of private accounts. And the Thatcher government hadn't already driven the budget deep into deficit before privatization even began.

Even so, it all went wrong. "Britain's experiment with substituting private savings accounts for a portion of state benefits has been a failure," Ms. Cohen writes. "A shorthand explanation for what has gone wrong is that the costs and risks of running private investment accounts outweigh the value of the returns they are likely to earn."

Many Britons were sold badly designed retirement plans on false pretenses. Companies guilty of "mis-selling" were eventually forced to pay about $20 billion in compensation. Fraud aside, the fees paid to financial managers have been a major problem: "Reductions in yield resulting from providers' charges," the Pensions Commission says, "can absorb 20-30 percent of an individual's pension savings."

American privatizers extol the virtues of personal choice, and often accuse skeptics of being elitists who believe that the government makes better choices than individuals. Yet when one brings up Britain's experience, their story suddenly changes: they promise to hold costs down by tightly restricting the investments individuals can make, and by carefully regulating the money managers. So much for trusting the people.

Never mind; their promises aren't credible. Even if the initial legislation tightly regulated investments by private accounts, it would immediately be followed by intense lobbying to loosen the rules. This lobbying would come both from the usual ideologues and from financial companies eager for fees. In fact, the lobbying has already started: the financial services industry has contributed lavishly to next week's inaugural celebrations.

Meanwhile, there is a growing consensus in Britain that privatization must be partly reversed. The Confederation of British Industry - the equivalent of the U.S. Chamber of Commerce - has called for an increase in guaranteed benefits to retirees, even if taxes have to be raised to pay for that increase. And the chief executive of Britain's National Association of Pension Funds speaks with admiration about a foreign system that "delivers efficiencies of scale that most companies would die for."

The foreign country that, in the view of well-informed Britons, does it right is the United States. The system that delivers efficiencies to die for is Social Security.

Rahm Emmanuel onCSPAN