Politics

Ponzi Schemes vs. Social Security

-Submitted by David Drumm (Nal), Guest Blogger

In his 2010 book, “Fed Up,” Governor Rick Perry called Social Security a “Ponzi scheme.” A Ponzi scheme is an individual investment plan wherein investors are paid “interest” by the principal paid into the scheme by later dupes. A geometrically increating supply of new investor principal is required to pay off the “interest” to previous investors.

The WSJ calls Perry’s claim misleading and PolitiFact terms it False.

Social Security isn’t an individual investment plan, it’s a “pay-as-you-go” government insurance plan. While retirees depend on current workers to fund their benefits, that’s where any similarity to a Ponzi scheme ends. Some retirees will receive more benefits than they paid in payroll taxes and some retirees will receive less. There is no promise of receiving more than you put in. Any deficit is lost to your heirs.

As population demographics rise and fall, the balance of the Social Security Trust Fund will rise and fall. This vulnerability to demographic variability is one of the problems with pay-as-you-go systems. The amount going into, and the benefits going out of, the system must be adjusted to maintain the system. But, there is no unsustainable progression, unlike pyramid or Ponzi schemes.

Using current demographic estimates, the Social Security Trust Fund would become exhausted between 2036 and 2041. To maintain a 75-year solvency, Sen. Bernie Sanders (I-Vermont), has introduced legislation, Keeping Our Social Security Promises Act (pdf), that would remove the income cap on payroll taxes for those making more than $250,000. The wealthiest Americans would then pay payroll taxes on the same percentage of their income as the middle class, namely 100%. The bill is co-sponsored by Boxer, Whitehouse, Akaka, McCaskill, Blumenthal, Leahy, and Franken.

Perry has some noted company: Nobel prize winner Paul Samuelson who wrote “Social Security is a Ponzi Scheme that Works,” and Nobel prize winner Milton Friedman called Social Security “The Biggest Ponzi Scheme on Earth.” Even Nobel prize winner Paul Krugman said that Social Security had a “Ponzi game aspect.” Krugman says he was emulating Samuelson who was trying to be cute. There’s no cute in political theater.

The lifeblood of a politician is money, in the form of campaign contributions. The wealthy can invest in politicians to prevent any increase in their payroll taxes. Until the lifeblood of politicians is votes, the wealthy will continue to win the class warfare.

H/T: Kevin Drum, Social Security Online, Marginal Revolution.

32 thoughts on “Ponzi Schemes vs. Social Security”

  2. Charles Koch to Friedrich Hayek: Use Social Security!
    Yasha Levine and Mark Ames
    (This article appeared in the October 17, 2011 edition of The Nation.)
    http://www.thenation.com/article/163672/charles-koch-friedrich-hayek-use-social-security

    Excerpt:
    There’s right-wing hypocrisy, and then there’s this: Charles Koch, billionaire patron of free-market libertarianism, privately championed the benefits of Social Security to Friedrich Hayek, the leading laissez-faire economist of the twentieth century. Koch even sent Hayek a government pamphlet to help him take advantage of America’s federal retirement insurance and healthcare programs.

    This extraordinary correspondence regarding Social Security began in early June 1973, weeks after Koch was appointed president of the Institute for Humane Studies. Along with his brothers, Koch inherited his father’s privately held oil company in 1967, becoming one of the richest men in America. He used this fortune to help turn the IHS, then based in Menlo Park, California, into one of the world’s foremost libertarian think tanks. Soon after taking over as president, Koch invited Hayek to serve as the institute’s “distinguished senior scholar” in preparation for its first conference on Austrian economics, to be held in June 1974.

    Hayek initially declined Koch’s offer. In a letter to IHS secretary Kenneth Templeton Jr., dated June 16, 1973, Hayek explains that he underwent gall bladder surgery in Austria earlier that year, which only heightened his fear of “the problems (and costs) of falling ill away from home.” (Thanks to waves of progressive reforms, postwar Austria had near universal healthcare and robust social insurance plans that Hayek would have been eligible for.)

    IHS vice president George Pearson (who later became a top Koch Industries executive) responded three weeks later, conceding that it was all but impossible to arrange affordable private medical insurance for Hayek in the United States. However, thanks to research by Yale Brozen, a libertarian economist at the University of Chicago, Pearson happily reported that “social security was passed at the University of Chicago while you [Hayek] were there in 1951. You had an option of being in the program. If you so elected at that time, you may be entitled to coverage now.”

    A few weeks later, the institute reported the good news: Professor Hayek had indeed opted into Social Security while he was teaching at Chicago and had paid into the program for ten years. He was eligible for benefits. On August 10, 1973, Koch wrote a letter appealing to Hayek to accept a shorter stay at the IHS, hard-selling Hayek on Social Security’s retirement benefits, which Koch encouraged Hayek to draw on even outside America. He also assured Hayek that Medicare, which had been created in 1965 by the Social Security amendments as part of Lyndon Johnson’s Great Society programs, would cover his medical needs.

    Koch writes: “You may be interested in the information that we uncovered on the insurance and other benefits that would be available to you in this country. Since you have paid into the United States Social Security Program for a full forty quarters, you are entitled to Social Security payments while living anywhere in the Free World. Also, at any time you are in the United States, you are automatically entitled to hospital coverage.”

    Then, taking on the unlikely role of Social Security Administration customer service rep, Koch adds, “In order to be eligible for medical coverage you must apply during the registration period which is anytime from January 1 to March 31. For your further information, I am enclosing a pamphlet on Social Security.”

    *****

    The private correspondence between two of the most important figures shaping the Republican Party’s economic policies—billionaire libertarian Charles Koch and Nobel Prize–winning economist Friedrich Hayek, godfather of today’s free-market movement—were obtained by Yasha Levine from the Hayek archives at the Hoover Institution at Stanford University. This is the first time the content of these letters has been reported on.

    The documents offer a rare glimpse into how these two major free-market apostles privately felt about government assistance programs—revealing a shocking degree of cynicism and an unimaginable betrayal of the ideas they sold to the American public and the rest of the world.

    Charles Koch and his brother, David, have waged a three-decade campaign to dismantle the American social safety net. At the center of their most recent push is the Koch-funded Americans for Prosperity, which has co-sponsored Tea Party events, spearheaded the war against healthcare reform and supported Wisconsin Governor Scott Walker’s attack on public sector unions. FreedomWorks, another conservative group central to the rise of the Tea Party and the right-wing attempt to dismantle Social Security and Medicare, emerged from an advocacy outfit founded by the Koch brothers called Citizens for a Sound Economy. FreedomWorks now exists as a separate entity that champions the “Austrian school” of economics.

  3. As a 30 year old man I feel I have the right to choose whether or not I participate in social security. Am I not capable of taking those funds and investing them as I see fit for me and my families future? According to new-deal era progressives I am not capable.

    You are actually right this isn’t a ponzi scheme, because a ponzi scheme requires your individual right to decide whether or not you participate in it. This is keynesian forced collectivism. I am constantly amazed at how people don’t see this as a civil liberty issue, much like the issues posted on this blog.

    The democrat/progressive counterpoint will always be that “oh you would just let your grandma die?” Actually no I wouldn’t because the family unit is supposed to care for its elders, not the federal government. Why shouldn’t I be able to opt out of it and choose how I use those funds to support my family in the future? Especially since we now see that the social security system is broken? Here lies the fundamental difference in ideaology between democrat/progressive, neo-conservatives/mainstream republicans and true classical liberals and republicans. The former believe that society cannot exist without the state, while the latter believes that in can not only exist but can flourish.

    This forced collectivism is slavery and if you can’t at least objectively look at the issue, you are already indoctrinated with socialist/communist ideals that are cloaked with a bastardized version of “the american dream”. You know what “social security is to me? Knowing that I can do what and when I like with my money as long as it is done legally and within the confines of what the constitution set forth. Not hand it over to someone i’ve never met and expect them to do what is in the best interest of me and my family.

    There has to be a major reformation movement not only america but europe as well, much like the lutheran reformation that exposed the lies of the catholic church due to the proliferation of information via Guttenberg Press printing the bible.

    We are seeing the early stages of a internet reformation that is doing something very similiar to the lutheran reformation but on a much larger scale. This is precisely why western government worldwide are instituting a police state. They see what is coming and are trying to get ahead of civil unrest by controlling, fear-mongering, violating and incrementally conditioning the public to acquiesce to blatantly illegal tactics until it becomes the norm.

  4. “Also the survivor benefit available is a greatly reduced benefit and comes with a lower SS payment to the primary recipient.”

    A widow at 65, gets 100% of what her husband was getting. At 60, she gets about 70%, at 62 – about 82.5%. Every month of age is prorated about 1/2%

    A mother with a surviving child get 75% of what her late husband would have gotten – a does her child.

  6. Respectfully, I think the article points out technical flaws in the analogy while missing the more important point – Social Security funds may not be there for those of us planning to retire in 2040. The end result is the same as a ponzi scheme – the investor/taxpayers of that demographic will not be receiving social security benefits even though they paid in to a system for over 30 years with an understanding that the same system was supposed to be there for them when they retired. Thus, in that respect, it is a fair analogy IMHO.

  8. Gyges. Rafflaw, I was making a statement about my understanding of the change in demographic over time and the example of a stay-at-home female, either wife or mother was based on an older, currently outmoded social philosophy and model. At that time (pre 70’s) women were generally discouraged from working except in menial or traditional positions- saleswomen, secretary, nurses etc. Those days are long gone. The awareness that working women worked because they needed to, not for ‘mad money’ as it was called was a fiction widely held. The idea that job and economic equality made it more reasonable for a husband to stay home and take care of the kids didn’t even start until the mid to late 70’s and 80’s. I wasn’t relying on sexual stereotypes but the social model as it changed from the 30’s onward in response to Porkchop’s posting which used the 30’s as a reference.

    Stay at home moms today are more complicated and I do have a built-in prejudice that I should probably revise. I spent my work life with non-professional workers and in that group women still made less than men unless the were unionized; when babies came into the picture it was the women that took a break for a some number of years to care for them. I did hear male workers literally brag that their wives didn’t have to work into the 90’s. I do know though that at one time, having a wife that worked was a factor against which to measure her husband. I suspect that is where the concept of working only as a lark and not from need came about. I never knew anyone, female or male that worked for the fun of it but maybe we were all just slackers at heart 🙂

    Having one parent stay at home due to daycare costs is a model that probably doesn’t happen (or need to happen based on economics) if you’re dealing with 2 working professionals; I don’t know and can’t say based on any long term observation. That wasn’t my milieu.

    That you may currently have a father staying home to take care of the kids by choice is true and a relatively recent social change. That it’s a matter of economics and that you may have both parents at home for lack of a job, sometimes for prolonged periods, is absolutely true and something I’ve observed for a couple of decades.

    My nearest city hit the economic skids in mid 80s and it hasn’t gotten well in the interim. A couple of months ago a fellow that lives across the street committed suicide. Lost his job, the family had bills and big expenses coming up- one kid entering college and a wedding for the daughter coming up this fall, wife hasn’t worked since the kids were born etc. The economy is taking its toll and who stays home with the kids is a symptom but not the worst among them, unfortunately.

  10. Lotta,

    I’d be willing to bet the number of “stay at home ____” has increased the last few years. Not by choice.

  11. From article: “As population demographics rise and fall, the balance of the Social Security Trust Fund will rise and fall.”

    The most important aspect of population demographics in the equation is jobs and what kind of jobs they are, and at what level of income the tax is cut off. The best way to keep SS solvent is to put people to work and failing that to raise the maximum contribution ceiling.

    Porkchop, There was a big influx of people into the system when the system allowed farmers to pay a flat, one time fee for inclusion, that happened in the 30’s as I recall. That was necessary because a large segment of the country were subsistence farmers. Their continuing contributions were virtually nonexistent because they made no taxable income on their lifestyle. That segment of the society is virtually gone. We are no longer an agrarian society, we are now an urban society.

    Likewise the family with a stay-at-home wife and a working-class male head of household is gone. Stay-at-home wives are a status symbol and stay-at-home-mothers are an economic decision based on the cost of child care- it’s often cheaper than child care to not work if there are multiple children in the household young enough to require full time care. Also the survivor benefit available is a greatly reduced benefit and comes with a lower SS payment to the primary recipient. The nature of the SS income matrix has changed with society.

  13. The parallels between a ponzi scheme and social security are differentiated by the fact that social security has government-mandated future investors. If those mandated investors don’t provide the revenue needed to sustain the payout, social security will fail just as any ponzi scheme will fail.

    As Michael Mandel of Business Week said in December 2008;

    “Ultimately our ability to make good on the “Ponzi-like” nature of Social Security depends on the continued march of technological progress—and in particular, innovation which boosts output and living standards. If we leave the younger generation a good legacy—a sound scientific and technological base, combined with an innovative and flexible economy and an educated workforce—then Social Security is not a Ponzi scheme. The economy grows, and there’s more than enough resources for everyone.

    But if instead we—the current generation—invest in homes, flat-screen televisions and SUVs, then we don’t leave the next generation with the technological “seed corn” they need. If the technological progress slows, then Social Security does turn out to be Ponzi-like—with unfortunate consequences for everyone.”

    Read Mandel’s article: http://www.businessweek.com/the_thread/economicsunbound/archives/2008/12/is_social_secur.html

    Increasing population and a long-term recession preclude the viability of social security.

  14. David,

    Thank you for this article which laid out the situation with clarity. As someone forced to retire to early due to a failing heart, without SS, my government pension and now Medicare I probably wouldn’t be alive to write this. All too often, those that disparage these plans, are unconcerned with the real benefit derived by society and people. Then too the Financial Industry lusts after these funds, while also wanting to lessen the competition with their private investment schemes.

    Frankly,

    Fabulous point that gets forgotten as does much pertinent history. Reagan’s chief henchman in that crooked process was Democratic Senator Daniel P. Moynihan of NY. Daniel P. now remembered as a “great” statesman was a “Defense Hawk” who never saw a defense contract he didn’t like. He had been a college professor until he gained fame writing a book about the Afro-American plight, which was hailed as a “milestone” primarily by those opposed to the gains of the Civil Rights
    Movement. Since he started out poor and became rich his attitude was “if
    he could do it, then……….”. He was a thoroughly amoral man, who was fluid in the sides he took, but probably salved his loose morality in a fog of self-justification and “bonhomie”.

  15. It was not initially intended to be a pay-as-you -go system. As I understand it from an Itunes University lecture from John Geanakoplos of Yale University, the initial proposal for Social Security was only to cover those who had contributed and was actuarially sound — it was essentially a forced savings program. But Secretary of Labor Frances Perkins convinced the Roosevelt Administration to back the extension of coverage to all of those 65 and over at the minimum level regardless of contribution starting in the 1930’s. This has led to consistent underfunding from the beginning — every generation funds, not its own benefits, but those of the preceding generation. That works as long as the succeeding generations keep getting larger, but that’s not the case anymore. If not technically a Ponzi scheme, it still bears some Ponzi-like characteristics.

  16. Great article David. If I am paying SS taxes on 100% of my income, shouldn’t people making more than me also have to pay taxes on 100% of their income? Social Security is not going broke, the far right is trying to break it and turn the process over to those friendly banksters who have such a wonderful track record.

  17. Nal,

    I’m glad you did a post about Social Security. I had planned to do one weeks ago about Sanders and SS–but my summer vacation interrupted me. Still, I gathered a lot of information. Here’s a video of Sen. Sanders speaking about SS at the USW 2011 Convention:

  18. Look – it has not been a pay-as-you-go insurance plan since the Reagan Revolution. After he was stunned to discover that his tax cut package really couldn’t pay for itself he had to find a way to make somebody pay enough to hide the damage he did. They played the “Social Security is going broke!” card to great success & got the Democrats in Congress to increase the tax rate (hitting working people harder to fund tax relief for the very wealthy).

    That surplus money, somewhere between 2 & 3 TRILLION dollars with interest, is held in government bonds. They now want to steal that money for – you guessed it – tax cuts for the wealthy.

    So for 30+ years the fund has been paid in full plus for future needs. It is NOT a ponzi in any sense of the word.

  20. Well, what is the problem…at least the “Government” is not trying to make a profit off of it….

    Take for instance Insurance…That is the oldest form of legalized gambling….The insurance company knows how to calculate risks…so they charge accordingly….Any investment of this type is basically like this….You pay the money and they take it…They are gambling that they won’t have to pay out…..

    Ever tried to get private flood insurance? How about Hurricane insurance…ah…the risks are generally calculable they don’t like the odds..so they don’t insure these….Ok, so…you end up with the Government….backing the guaranteed loss….

    With SS…the investors see all of the money sitting out there and they can’t get it….so now its a ponzi scheme….

    Teacher benefit/insurance dollars…the Unions must go…

    I wonder how much longer this “Contract ON America” will continue….

    Thanks nal…

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