GOP Wary of Bush's Social Security Plan

[Azred]

News story is here.

Bottom line is that most politicians, regardless of party, are still too scared to tackle Social Security, long considered to be a lethal topic in Washington. Rightly so, though--some representatives get elected (and stay elected) due to the senior vote.
However, at some point someone must do something about this topic before the system collapses under its own weight. The article cites projections that payments going in will fall behind payments going out within 10 years, at which point all anyone can do is bail water.
Bush proposes allowing current wage-earners to set aside 2% of the current 6.2% in a special account to accrue value. In a well-balanced portfolio of moderately aggressive growth one might assume a return of 9% on a long-term basis; over 25 years the accumulation factor is 1121.121937, so someone setting aside $100 per month will accumulate $112,112.19, which would at that point generate $840.84 in interest per month. The current average Social Security check is about $921.

My question is, why would anyone not go for this plan? Anyone who is depending upon Social Security to live comfortably in their golden years is in for a very rude and very meager awakening. I, personally, plan on not receiving anything, not only because I don't believe in it, but by the time I retire it won't be there (at least not in its current form).

[Seraph]

My question is, why would anyone not go for this plan?

Because some of us don't like the government running our lives, and there is nothing stoping someone who is working from setting aside a portion of their income into some sort of private retirement fund already. I would vastly prefer that they just cut the social security tax by 2%, and let me invest the extra money into the same place that my 'regular' retirement savings are going.

In a well-balanced portfolio of moderately aggressive growth one might assume a return of 9% on a long-term basis; over 25 years the accumulation factor is 1121.121937, so someone setting aside $100 per month will accumulate $112,112.19, which would at that point generate $840.84 in interest per month. The current average Social Security check is about $921.

9% seems a little steep, unless you arn't counting inflation. I generally figure that 7% after inflation is a good sustainable level for a low-risk investment.

Speaking of inflation, if you take inflation into account makes that $840 a month look a lot less attractive. At 2% inflation over 25 years (2% is rougly what the US had durring the 1990-2004 period) you're $840 will purchase about 2/3 of what it'll pruchase now, and I personally don't have enough faith in the economy to think that 2% inflation over 25 years is an obtainable goal, espically with the rising costs of fuel. A few years of high inflation near the end of that 25 year cycle could wipe out your savings if you wern't prepared for it.

[Chewbacca]

Originally posted by Seraph: Because some of us don't like the government running our lives, and there is nothing stoping someone who is working from setting aside a portion of their income into some sort of private retirement fund already. I would vastly prefer that they just cut the social security tax by 2%, and let me invest the extra money into the same place that my 'regular' retirement savings are going.

Me too. I would love to have any extra, tax-special money for my already existing accounts.

I wonder how much control I would have over my special account under the Bush plan. I have alot of questions. What choices will I have for investments? Can I make changes to favor market conditions? Can I invest in equities as well as bonds? IS it linked to my other retirement accounts and can I tranfer? How would this special account be taxed?

What other alternatives to "fix" social security do we have?

[Chewbacca]

Related article from a favorite bank site:


http://www.bankrate.com/brm/news/sav/20041222a1.asp

[Azred]

I don't like the government running any more of my life than it does now, either.

Yes, my use of 9% doesn't count inflation, which I usually assume to be 4%, which is still higher than the current long-term actual inflation rate of somewhere between 3.4% - 3.7%. 9%, though, is a good rate for a moderately-risky growth fund, which is more than enough to couteract the effects of 4% inflation.
No, $840 won't buy you much of anything in 25 years, if things keep going as they are. My hastily-crunched calculations (done between bites of lunch, mind you) figured on someone saving only $100/month. Anyone who is serious about securing their future will set aside more than that, and a period of 25 years is rather short and assumes that the person begins saving at the age of 40. If you're not setting aside money for the future beginning at age 30 (or 25, if you can manage it) then you have lost a lot of time.

The whole point is that no one can count on Social Security offering anything in their golden years. The only person who can--and should--secure the future for you and your family is yourself. I would love for Social Security to be completely restructured, but those who begin saving early in plans like a 401(k), Keogh, or Roth IRA (if you can get one) won't need it anyway.

The really sticky point is that we cannot simply stop the program altogether--no one could, in good conscience, stop payments to elderly folks who really depend upon their Social Security for food and medicine. However, as the projections show that soon payments out will exceed payments in, something must be done even though politicians are still wringing their hands and doing nothing.
I think the proposal to take some of the 6.2% we pay now and set it into a higher-return fund will help, but too many people still see that as "gambling on the stock market". [img]graemlins/erm.gif[/img] Any well-diversified portfolio will minimize risk, meaning that no matter what happens to the markets the fund continues to grow.

*sigh* I didn't mean to write an economics and finance treatise. [img]graemlins/petard.gif[/img]

edit to add comments for Chewbacca
One would hope that the proceeds set into a fund are taxes up-front, so that the funds grow tax-exempt (like in a Roth) and later withdrawals are not taxable as capital gains. Also, such funds should be transferrable, since they are tied to the depositor and not their employer.

[ 12-23-2004, 12:11 PM: Message edited by: Azred ]

[Seraph]

No, $840 won't buy you much of anything in 25 years, if things keep going as they are. My hastily-crunched calculations (done between bites of lunch, mind you) figured on someone saving only $100/month.

Yes, but $100 a month for someone who is only investing 2% of their income (which is what you said Bushes plan was) would mean that person is makign $5000 a month, which is a lot better then most people can manage.

Anyone who is serious about securing their future will set aside more than that,

Anyone who is seruous about securing their future will set aside money regardless of what the government is doing with 2% of their paycheck.

The whole point is that no one can count on Social Security offering anything in their golden years. The only person who can--and should--secure the future for you and your family is yourself.

If you're the only one who should be worrying about your future (a position I fully support) then why are you in favor of having the government screw around with securing your future?

The really sticky point is that we cannot simply stop the program altogether--no one could, in good conscience, stop payments to elderly folks who really depend upon their Social Security for food and medicine.

I could. I don't see why I am in any way responsible for providing for some random persons retirement.

[Azred]

Originally posted by Seraph: Yes, but $100 a month for someone who is only investing 2% of their income (which is what you said Bushes plan was) would mean that person is makign $5000 a month, which is a lot better then most people can manage.

I make that much. You mean you don't? [img]tongue.gif[/img]

Originally posted by Seraph: Anyone who is seruous about securing their future will set aside money regardless of what the government is doing with 2% of their paycheck.

I couldn't agree more.

Originally posted by Seraph: If you're the only one who should be worrying about your future (a position I fully support) then why are you in favor of having the government screw around with securing your future?

Because I am thinking of the larger picture. Most people save nothing towards the future, which means that since they aren't looking ahead and the government can save for them then that person will have something in the future. Either that or they'll continue to take it out of your paycheck.

Originally posted by Seraph: I could. I don't see why I am in any way responsible for providing for some random persons retirement.

Be that as it may, no elected politician will vote for a program that stops the only source of income for many elderly citizens.

[Chewbacca]

I have a problem with Social Security being percieved as an investment. SS is a benefit, a gaurantee. Choosing investments takes at least a little work, understanding, and know how, particularly to do better than average or meager in returns. A benefit takes none of that. Making an investment can mean risks and votility, though some investments are safe. Safe investments usually means lower yield and even these markets have fluctuations. Unless this new plan has gaurantees for folks who do not want with fiddle with, or know how to fiddle with investments, I am sketchy.

I'm not against the concept of social security. Poor, elderly folks depend on it. If that bi-weekly deduction from my pay was voluntary, I would probably still do it, maybe offer a bit more.

[ 12-24-2004, 01:25 AM: Message edited by: Chewbacca ]

[Chewbacca]

Do we really need to fix it? It worked along just fine til we hit the great black hole of deficit spending and spent the money acculated for Social Security. I can see why conservatives want to get rid of it, but cant say it politically correctly because it might not appear compassionate... 50% elderly poverty rate without social security...wow.

Here is an interesting article about Social Security.


http://www.dollarsandsense.org/1104orr.html


Social Security Isn’t Broken

So Why Does Greenspan Want to Fix It?

BY DOUG ORR

Federal Reserve Chairman Alan Greenspan told Congress earlier this year that everyone knows there’s a Social Security crisis. That’s like saying "everyone knows the earth is flat."

Starting with a faulty premise guarantees reaching the wrong conclusion. The truth is there is no Social Security crisis, but there is a potential crisis in retirement income security and there may be a crisis in the future in U.S. financial markets. It’s this latter crisis that Greenspan actually is worried about.

Social Security is the most successful insurance program ever created. It insures millions of workers against what economists call "longevity risk," the possibility they will live "too long" and not be able to work long enough, or save enough, to provide their own income. Today, about 10% of those over age 65 live in poverty. Without Social Security, that rate would be almost 50%.

Social Security was originally designed to supplement, and was structured to resemble, private-sector pensions. In the 1930s, all private pensions were defined-benefit plans. The retirement benefit was based on a worker’s former wage and years of service. In most plans, after 35 years of service the monthly benefit, received for life, would be at least half of the income received in the final working year.

Congress expected that private-sector pensions eventually would cover most workers. But pension coverage peaked at 40% in the 1960s. Since then, corporations have systematically dismantled pension systems. Today, only 16% of private-sector workers are covered by defined-benefit pensions. Rather than supplementing private pensions, Social Security has become the primary source of retirement income for almost two-thirds of retirees. Thus, Congress was forced to raise benefit levels in 1972.

What has happened to private-sector defined benefit pensions? They’ve been replaced with defined-contribution (DC) savings plans such as 401(k)s and 403(b)s. These plans provide some retirement income but offer no real protection from longevity risk. Once a retiree depletes the amount saved in the plan, that pension is gone.

In a generous DC plan, a firm might match the worker’s contribution up to 3% of his or her pay. With total contributions of 6%, average wage growth of 2% a year, and an average return on the investment portfolio of 5%, after 35 years of work, a retiree would exhaust the plan’s savings in just 8.5 years even if her annual spending is only half of her final salary. If she restricts spending to just one-third of the final salary, the savings can stretch to 14 years.

At age 65, life expectancy for women today is about 20 years, and for men about 15 years, so DC savings plans will not protect the elderly from longevity risk. The conversion of defined-benefit pensions to defined-contribution plans is the source of the real potential crisis in retirement income. Yet Greenspan did not mention this in his testimony to Congress.

No Crisis

Opponents of Social Security have hated it since its creation in 1935. The first prediction of a Social Security crisis was published in 1936! The Heritage Foundation and Cato Institute are home to many of the program’s opponents today, and they fixate on the concept of a "demographic imperative." In 1960, the United States had 5.1 workers per retiree, in 1998 we had 3.4, and by 2030 we will have only 2.1. Opponents claim that with these demographic changes, revenues will eventually be insufficient to pay Social Security retirement benefits.

The logic is appealingly simple, but wrong for two reasons. First, this "old-age dependency" ratio in itself is irrelevant. No amount of financial manipulation can change this fact: all current consumption must come from current physical output. The consumption of all dependents (non-workers) must come from the output produced by current workers. It’s the overall dependency ratio—–the number of workers relative to all non-workers, including the aged, the young, the disabled, and those choosing not to work—that determines whether society can "afford" the baby boomers’ retirement years. In the 1960s we had 1.05 workers for each dependent, and we were building new schools and the interstate highway system and getting ready to put a man on the moon. No one bemoaned a demographic crisis or looked for ways to cut the resources allocated to children; in fact, the living standards of most families rose rapidly. In 2030, we will have 1.27 workers per dependent. We’ll have more workers per dependent in the future than we did in the past. While it is true a larger share of total output will be allocated to the aged, just as a larger share was allocated to children in the 1960s, society will easily produce adequate output to support all workers and dependents, and at a higher standard of living.

Second, the "demographic imperative" ignores productivity growth. Average worker productivity has grown by about 2% per year, adjusted for inflation, for the past half-century. That means real output per worker doubles every 36 years. This productivity growth is projected to continue, so by 2040, each worker will produce twice as much as today. Suppose each of three workers today produces $1,000 per week and one retiree is allocated $500 (half of his final salary)—then each worker gets $833. In 2040, two such workers will produce $2,000 per week each (after adjusting for inflation). If each retiree gets $1,000, each worker still gets $1,500. The incomes of both workers and retirees go up. Thus, paying for the baby boomers’ retirement need not decrease their children’s standard of living.

So why the talk of a Social Security crisis? Social Security always has been a pay-as-you-go system. Current benefits are paid out of current tax revenues. But in the 1980s, a commission headed by Greenspan recommended raising payroll taxes to expand the trust fund in order to supplement tax revenues when the baby boom generation retires. Congress responded in 1984 by raising payroll taxes significantly. As a result, the Social Security trust fund, which holds government bonds as assets, has grown every year since. As the baby boom moves into retirement, these assets will be sold to help pay their retirement benefits.

Each year, Social Security’s trustees must make projections of the system’s status for the next 75 years. In 1996, they projected the trust fund balance would go to zero in 2030. In 2000, they projected a zero balance in 2036 and today they project a zero balance in 2042. The projection keeps changing because the trustees continue to make unrealistic assumptions about future economic conditions. The current projections are based on the assumption that annual GDP growth will average 1.8 % for the next 75 years. In no 20-year period, even including the Great Depression, has the U.S. economy grown that slowly. Each year the economy grows faster than 1.8%, the zero balance date moves further into the future. But the trustees continue to suggest that if we return to something like the Great Depression, the trust fund will go to zero.

Opponents of Social Security claim the system will then be "bankrupt." Bankruptcy implies ceasing to exist. But if the trust fund goes to zero, Social Security will not shut down and stop paying benefits. It will simply revert to the pure pay-as-you-go system that it was before 1984 and continue to pay current benefits using current tax revenues. Even if the trustees’ worst-case assumptions come true, the payroll tax paid by workers would need to increase by only about 2%, and only in 2030, not today.

If the economy grows at 2.4%—which is still slower than the stagnant growth of the 1980s—the trust fund never goes to zero. The increase in real output and real incomes will generate sufficient revenues to pay promised benefits. By 2042, we will need to lower payroll taxes or raise benefits to reduce the surplus.

The Real Fear: An Oversupply of Bonds

So why did Greenspan claim cutting benefits would become necessary? To understand the answer, we need to take a side trip to look at how bonds and the financial markets affect each other. It turns out that rising interest rates reduce the selling price of existing financial assets, and falling asset prices push up interest rates (see "How Does the Bond Market Work?" p. 15).

For example, in the 1980s, President Reagan cut taxes and created the largest government deficits in history up to that point. This meant the federal government had to sell lots of bonds to finance the soaring government debt; to attract enough buyers, the Treasury had to offer very high interest rates. During the 1980s, real interest rates (rates adjusted for inflation) were almost four times higher than the historic average. High interest rates slow economic growth by making it more expensive for consumers to buy homes or for businesses to invest in new infrastructure. The GDP growth rate in the 1980s was the slowest in U.S. history apart from the Great Depression.

But high interest rates also depress financial asset prices. A five percentage point rise in interest rates reduces the selling price of a bond (loan) that matures in 10 years by 50%. It was the impact of the record-high interest rates of the 1980s on the value of the loan portfolios of the savings and loan industry that caused the S&L crisis and the industry’s collapse.

Greenspan is worried because he sees history repeating itself in the form of President Bush’s tax cuts. In his testimony, Greenspan expressed concern over a potentially large rise in interest rates. This is his way of warning about an excess supply of bonds. Starting in 2020, Social Security will have to sell about $150 billion (in 2002 dollars) in trust fund bonds each year for 22 years. At the same time, private-sector pension funds will be selling $100 billion per year of financial assets to make their pension payments. State and local governments will be selling $75 billion per year to cover their former employees’ pension expenses, and holdings in private mutual funds will fall by about $50 billion per year as individual retirees cash in their 401(k) assets. Private firms will still need to issue about $100 billion of new bonds a year to finance business expansion. Combined, these asset sales could total $475 billion per year.

This level of bond sales is more than double the record that was set in the 1980s following the Reagan tax cuts. But back then, the newly issued bonds were being purchased by "institutional investors" such as private-sector pension funds and insurance companies. After 2020, these groups will be net sellers of bonds. The financial markets will strain to absorb this level of asset sales. It’s unlikely they will be able to also absorb the extra $400 billion per year of bond sales needed to cover the deficit spending that will occur if the new Bush tax cuts are made permanent. This oversupply of bonds will drive down the value of all financial assets.

In a 1994 paper, Sylvester Schieber, a current advisor to President Bush on pension and Social Security reform, predicted this potential drop in asset prices. After 2020, the value of assets held in 401(k) plans, already inadequate, will be reduced even more. More importantly, at least to Greenspan, the prices of assets held by corporations to fund their defined benefit pension promises will fall. Thus, pension payments will need to come out of current revenues, reducing corporate profits and, in turn, driving down stock prices.

It’s this potential collapse in the prices of financial assets that worries Greenspan most. In order to reduce the run-up of long-term interest rates, some asset sales must be eliminated. Greenspan said, "You don’t have the resources to do it all." But rather than rescinding Bush’s tax cuts, Greenspan favors reducing bond sales by the Social Security trust fund. Doing that requires a reduction in benefits and raising payroll taxes even more.

Framing a question incorrectly makes it impossible to find a solution. The problem is not with Social Security, but rather with blind reliance on financial markets to solve all economic problems. If the financial markets are likely to fail us, what is the solution? The solution is simple once the question is framed correctly: where will the real output that baby boomers are going to consume in retirement come from?

The federal budget surplus President Bush inherited came entirely from Social Security surpluses resulting from the 1984 payroll tax increase. Bush gave away revenues meant to provide for workers’ retirement as tax cuts for the wealthiest 10% of the population.

We should rescind Bush’s tax cuts and use the Social Security surpluses to really prepare for the baby boom retirement. Public investment or targeted tax breaks could be used to encourage the building of the hospitals, nursing homes, and hospices that aging baby boomers will need. Such investment in public and private infrastructure would also stimulate the real economy and increase GDP growth. Surpluses could be used to fund the training of doctors, nurses and others to staff these facilities, and of other high skilled workers more generally. The higher wages of skilled labor will help generate the payroll tax revenues needed to fund future benefits. If baby boomers help to fund this infrastructure expansion through their payroll taxes while they are still working, less output will need to be allocated when they retire. These expenditures will increase the productivity of the real economy, which will help keep the financial sector solvent to provide for retirees.

Destroying Social Security in order to "save" it is not a solution.

Doug Orr is a professor of economics at Eastern Washington University. He is a regular speaker on the issues of private sector pensions and Social Security and has published articles on these issues in national and international journals. His e-mail is dorr@ewu.edu.

Resources Dean Baker and Mark Weisbrot, Social Security: The Phony Crises, University of Chicago Press, 1999; William Wolman and Anne Colamosca, The Great 401(k) Hoax, Perseus Publishing, 2002; Sylvester J. Schieber and John B. Shoven, "The Consequences of Population Aging on Private Pension Fund Saving and Asset Markets," National Bureau of Economic Research, Working Paper No. 4665, 1994.

[ 12-24-2004, 08:47 PM: Message edited by: Chewbacca ]

[John D Harris]

Interesting, very interesting, The way it is NOW is the government runs the current SS program. The proposed changes will make it so we have some control over OUR money, not much control, but some. The last figures I have heard about the rate of return for the current SS system is less then what we would get in an avg savings acount at a bank. Now think about that, as it is we get less than we would if we were resposible and took care of ourselves, but instead we give the government 15% of our pay, make no mistake the money our employers "contribute" in matching funds would go to us if they didn't have to match our SS. It's to late to stop SS we have too many people depending on it, we need to make some changes, the changes proposed are changes made by Ex-politicians, people no longer depending on our votes to get in office, so they don't have to lie to us to get elected anymore. Personnally I trust someone that isn't trying to get elected over somebody trying to get elected, their jobs aren't on the line so they aren't going to blow smoke up our skirts, or at least not as much smoke.

The Harris retirement plan: invest in Whiskey, Bullets, and Gold, you can always use the Whiskey for medicinal purposes, and for trade along with the Gold, the Bullets well, you'll need them to protect you stash of whiskey and gold.