Social Security reform

[fintstone]

The city of Galveston TX opted out of Social Security before 1983 when the law was changed to prevent it. The following article discusses the issue and the comparative differences. It is similar to the reforms advocated by the President until shot down by liberal lawmakers.
http://www.ncpa.org/pub/ba/ba514/

Here is an excerpt from the article:

“Galveston vs. Social Security. Upon retirement after 30 years, and assuming a 5 percent rate of return — more conservative than Galveston workers have earned — all workers would do better for the same contribution as Social Security:

• Workers making $17,000 a year are expected to receive about 50 percent more per month on our alternative plan than on Social Security — $1,036 instead of $683. [See the Figure.]
• Workers making $26,000 a year will make almost double Social Security’s return — $1,500 instead of $853.
• Workers making $51,000 a year will get $3,103 instead of $1,368.
• Workers making $75,000 or more will nearly triple Social Security — $4,540 instead of $1,645.
• Galveston County’s survivorship benefits pay four times a worker's annual salary — a minimum of $75,000 to a maximum $215,000 — versus Social Security, which forces widows to wait until age 60 to qualify for benefits, or provides 75 percent of a worker’s salary for school-age children”

Makes you wonder at the wisdom of those that frustrated the President's efforts at reform.

[jyl]

Bush's Social Security reform effort was rather puzzling.

My recollection is, he called for SS reform in a string of speeches about 2 years ago, but never put a coherent proposal into an actual bill that could get anywhere in Congress. His message was "Dear Congress: I want reform. You figure out the details." Unfortunately the devil really is in the details with this issue. The Republicans controlling Congress weren't willing to put together an actual bill and bring it to the floor, probably having heard that SS reform is the "Third Rail" of politics.
The Democrats weren't eager to supply the missing leadership, nor could they have in the wake of the 2004 election. The whole thing just fizzled, Bush found out that he had much less "political capital" than he'd thought, and Social Security reform got pushed off the stage by the worsening Iraq situation.

Social Security reform is a fearsomely complicated task. Private accounts are fine for young workers just starting out, but they make the system's funding gap worse by diverting money needed to fund benefits for older workers and current retirees, so you need to cut benefits or raise taxes or increase deficits to close the gap during the transition.

Personally and selfishly, I'd welcome a privatized or partly-privatized social security system. It would send a flood of money and fees to the capital markets, which seems like a Good Thing for someone like me who works in the market. I don't (again, personally and selfishly) much care whether a privatized system results in higher benefits or just higher transaction costs. Actually, higher transaction costs is probably good for my industry.

Some "basics" links in case anyone is interested. There is almost no chance of social security reform for the rest of Bush's presidency, but I hope the issue will come up again in some other Administration.

http://www.aicpa.org/members/socsec.htm
http://money.cnn.com/2004/12/06/retirement/social_security/

Oh, here is something I have wondered about. I think it would be interesting to think about, so I'll mention it.

One of the claimed problems with the current social security system is that it is essentially an unfunded obligation. The $1.7 trillion dollars supposedly in the Social Security Trust Fund are actually simply IOUs of the Federal government, the actual cash having been spent along the way. The great majority of the money needed for future benefits is not even represented by the Trust Fund IOUs, but will simply be funded from taxes along the way.

In contrast, the appeal behind a privatized system is that is would be funded. Your future benefits would be backed up by the money accumulating in your own account today.

Okay, let's see if that would really work. Suppose we fully privatize Social Security. Somehow we get through the transition and 150MM Americans each have private retirement accounts that are invested in the market and will provide for their retirement income. Now what?

First, how much money are we talking about?

The US labor force is appx 150MM people. Suppose a worker on the verge of retirement has $350K in his private retirement account, present value of $20K/yr for 30 yrs at 4%. Suppose the average US worker has 1/2 that amount in his account, averaging out the young and old workers. That's appx $25 trillion dollars in these accounts (in 2006 dollars).

Second, what the heck are all these accounts invested in?

Can't be stocks, not most of it anyway. The entire US stock market has a market capitalization of only $25 trillion roughly. Pouring all the private retirement accounts into US stocks would double the US stock market cap, making stocks grossly overvalued - and grossly overvalued assets have negative returns. Maybe we let these private accounts be invested abroad, but that doesn't help much - the entire global stock market is only about $44 trillion market cap.

So a huge chunk of it has got to be in bonds. The US bond market has a market cap of appx $25 trillion, about $7 trillion is US treasury debt ad the rest is corporate, municipal, mortgage, etc. I'm going to guess the global bond market is $50 trillion - I can find the actual number if it matters.

Alright now, we have the entire country's retirement savings (the Social Security part, anyway), totalling $25 trillion, invested let's say 1/3 in the stock market and 2/3 in the bond market.

Third, how secure is this?

Well, the stock part is vulnerable to bear markets. It can easily go up or down 20% in a year. Worse yet, such an enormous sum of private retirement account invested in stocks could become like the tail wagging the dog. When we get a demographic wave of retirees, their accounts start selling stocks, driving the market down. When a recession sends the market down 20%, 150MM Americans get scared about their retirements and start tightening their belts, causing the economy to slow even further. Sounds like it could be pretty volatile to me.

And the bond part? Bonds are merely IOUs from a government or a corporation. Bond issuers can and do default. The safest bond in the world, a US Treasury bond, is nothing more than an IOU of the US government - in fact, basically the same IOU that the much-maligned Social Security Trust Fund now holds. A $1MM US Treasury bond is risk free because considering the size of the US government and economy, there is no chance of default. But is a $20 trillion US Treasury bond "risk free"? The federal government takes in only about $2 trillion/yr in taxes. Wouldn't you call a borrower with debt 10X his revenue a "high risk"?

Bottom-line, my question is whether the US financial system actually has the ability to accomodate the massive sums of money that would come with a fully privatized social security system. Or would it create a massive and unstable bubble, potentially 10X larger than any previous asset bubble in our history?

Thoughts? What am I missing?

Parting (selfish) thought - if such a bubble were created, I guess I'd be okay with it. I'd make a fortune, convert it to gold, and go live in Switzerland during the ensuing Great Depression II back in the US.

[74-911]

John L.

Thank you for the well thought out, non-political response to an extremely complicated issue.

Jack

[john70t]

Can I get my inflation-corrected money back?

[Hugh R]

JYL, that's a pretty good analysis. The key issue on cities such as Galveston is are the returns guaranteed? Plenty of cities and counties are almost bankrupt from pension guarantees made to their employees, like retire at age 50 when you have 30 years of employment. I know several City of Burbank, CA firemen who get their pension under a 50/30 plan and because their pension is based on their last year of employment earnings, they worked lots of overtime, and their accrued vacation adds into the mix, they retire with something like 125% of their last years annual income. Not social security, and perhaps a different subject.

[Moneyguy1]

The entire landscape of retirement is changing. Today, responsibility for retirement is nearly totally in the hands of the individual, and the hope is the economic gods are kind and the individual makes prudent choices. Defined benefit, which in the past was the majority of plans, is far different than defined contribution. Part of the problem was the underfunding by corporations and governments, as they assumed (wrongly) that the benefits promised could be paid out of current revenues. That is to say, no rational planning for the future. The number of corporations currently tranferring their obligations to the government assurance program is proof of this. How about Enron and Global Crossings as poster children for a "safety net" of some kind? Talk to those who lost their retirement due to mismanagement and fraud.

Social Security was originally designed as a safety net, not a retirement plan. It was morphed over the years into just what it was not designed to be. The reform plans that have been proposed over the years have all been a bit vague on detail, simply bringing it up as an "issue". Perhaps if Congress had not raided the fund to balance (?) the federal budget, the potential problem would not be as much of a concern as it currently is. A possible start would be to use the "lock box" technique and put Social Security contributions off limits to our elected officials.

Originally, municipalities were not included in the Social Security program. I do not recall the year that changed, but the original idea was that pensions were generous enough to carry the retiree thorugh his or her "golden years". The government(s) were given the option; some took it, some did not.

The abuse of the system to build up individual pensions is essentially a management problem, and can be controlled. I have experience with municipalities, and there are those that can and do control this. There are others who ignore it to their own (and their taxpayers) peril.

This is a very complex problem, and no single approach will resolve it. The onus is on the individual, yet as a society, savings are at a very low ebb. Many people see no chance of ever retiring, burdened with a growing amount of personal debt. Neither this administration or any previous ones have come up with the "perfect" solution, and never will. The future is unknowable, people are nervous, and uncertainty rules in today's economic climate.

[74-911]

This article in a recent New Yorker explains the problem very well. It uses GM as an example but the same logic applies to Social Security and any other defined benefit system. To many dependents supported by to few workers will eventually bring the house down.

http://www.newyorker.com/fact/content/articles/060828fa_fact

[Moneyguy1]

It is perhaps too late now, but had the obligations been funded as they occured, the problem of too many retirees and too few workiers just might have been avoided through the magic of compound interest.

The same problem faces those planning for retirement in the future. Starting late and underfunding will result in a world of hurt.

[fastpat]

Originally posted by Moneyguy1
It is perhaps too late now, but had the obligations been funded as they occured, the problem of too many retirees and too few workiers just might have been avoided through the magic of compound interest.

The same problem faces those planning for retirement in the future. Starting late and underfunding will result in a world of hurt.

There was never an incentive for government to do that because the Social Security payments the government took from everyone was a tax, and was never a "contribution" to a retirement account.

[Superman]

I had no fear about Dubya's SS agenda. I knew, and still know, that he has no idea how to, or personal capacity to, "work" any piece of legislation. It has been done successfully by every President in our history, but Dubya has no idea how to accomplish it, nor does he have the work ethic to get it done.

It would involve accumulating support by actually meeting with legislators and working through objhections, dealing with realities. So, obviously, this current "president" will not be doing that.