Social Security Reform FAQ
By Ryan Walsh (02/15/05)
Anyone who watched the State of the Union and the Democrats’ rebuttal knows that Social Security is likely to be the subject of intense political warfare for maybe the next couple of years. And while President Bush mobilizes support behind reform, the Democrats are digging in, employing tactics of defensive warfare to obstruct any final plan the president proposes.
Unfortunately, as the Democrats opt for demagoguery and deception over hard facts, already the debate has become confused.
It is the purpose of this column, presented in “frequently asked questions” format to demystify the discourse:
When does the crisis truly begin? Well, that depends on what you mean by “crisis.” President Bush and his Republican allies often cite 2018 (when Social Security begins running a deficit) as the official year of ruin. In actuality, the problem manifests much earlier. As you probably know, Social Security is a “pay-as-you-go” system. That means today’s FICA taxes and income taxes on the Social Security benefits of the wealthy immediately go to pay current retirees’ benefits. Whatever is left over (the surplus) then goes into the federal government’s general revenue fund where it is used to pay for whatever program happens to be on the legislative agenda. In exchange for the money, congress credits Social Security with treasury bonds. This huge pool of government bonds constitutes what is called the Social Security Trust Fund. So when the program gets short on cash, Democrats argue, all congress has to do is redeem the bonds. Yet there is a fallacy rooted in that hollow reasoning.
Let’s say the government owes me a few thousand dollars worth of money through treasury bonds. I would correctly consider the bonds to be financial assets, since the government would eventually have to redeem them. But if I owned a few thousand dollars worth of “Ryan bonds,” my total financial assets would equal exactly zero, since the fancy-sounding “R-Bonds” would merely represent IOUs that I had written myself. Thus, the $64.4 billion Social Security “surplus,” which is made up of nothing other than federal government IOUs written to itself, serves only to remind Congress of how much money it will have to throw at Social Security at some point in order to bail it out of bankruptcy. So, to return to the original point, the surplus starts decreasing in five years, meaning that the government will have to start finding money somewhere soon to make up for the shortfall not in Social Security, but in general revenue.
What about transition costs? Right now, the government owes a future debt to future seniors through Social Security. Because of the demographic imbalance, that debt will be abnormally large. So if “transition costs” were to tackle that future crisis now, should they really be considered costs? As the liberal editorial board of the Washington Post pointed out, “…In a soundly designed privatization, this transition cost would generate an equal and opposing transition benefit. The workers who divert part of their payroll tax into personal accounts would accept an offsetting cut in future Social Security payments from the government, thus reducing the nation's debt to future recipients…. the net transition cost should be zero.”
What about the inherent uncertainty of the market? As Ramesh Ponnuru pointed out in a “National Review” cover story, there has never been a twenty-year period in U.S. history in which the stock market has taken a dive. It’s then little wonder why, as Ponnuru further notes, “The average annual return on stocks has been 6.7 percent above inflation.” The 2004 winner of the Nobel Prize in economics, Edward Prescott, also argues that personal investment accounts would trigger the economic engine by creating incentives to work more, making a disastrous decline in the future stock market even more unlikely.
What if the market drops suddenly before one retires? If the Bush plan passes, those who choose to invest a portion of their tax money in the market will probably have limited options. As economist Cesar Conda explains, the typical investment account “would be invested in a conservative mix of broadly diversified bond and stock funds.” Thus, the prospect of “losing it all” is close to unthinkable. And just in case the markets were suddenly to take a hit, those with personal accounts would possess a type of insurance policy. As Conda writes, “the Bush personal-account plan would offer a ‘life-cycle portfolio’ that would reduce the level of market risk as people approach retirement by automatically allocating funds toward safe and secure government bonds.”
Why do I keep hearing about the Thrift Savings Plan (TSP)? Would it surprise you to discover that the same Democratic congressional leaders who constantly denigrate the idea of personal investment accounts will soon reap the benefits of something called the Thrift Savings Plan, a federal employee investment-based retirement program from which the idea of personal accounts gets its inspiration? The TSP’s most cautious fund—the bond index fund—has a 4.58 real rate of annual return. That’s way more than Social Security could ever deliver, yet we’re supposed to believe personal accounts are akin to “roulette,” as Senator Harry Reid, a TSP beneficiary, described them last week.
“We have a great opportunity now to take action now to avert a crisis in the Social Security system,” a smart man once said.
It just so happens that that smart man was Bill Clinton. It also just so happens that I agree with him.
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