Arnold Kling  

The Case for Social Security Reform

Freak Storm... Anti-Foreign Bias Strikes Agai...

Allan Sloan praises General Motors.

the company traded that implicit pension obligation for explicit debt with an interest rate of 7.5 percent and an average maturity of 19 years...

GM says that without the big 2003 deal, it would have had to contribute $3 billion annually to its pension funds. Now it won't have to put in a penny for years. So even after paying interest on its huge borrowing, GM's cash position is $2 billion a year to the good. The gamble looks brilliant now

That "brilliant" substitution of explicit debt for pension obligations is exactly what reformers advocate for Social Security and what opponents of Social Security reform condemn as "transition cost." See Social Security's Worn-out Roof.

Speaking more directly about Social Security, Jagadeesh Gokhale writes,

First, postponing reforms that fix the system's financial shortfall would be a mistake. Second, addressing solvency by hiking taxes under the current set of Social Security institutions would be an even a bigger mistake: Those institutions won't save any additional resources devoted to Social Security. The value of a properly crafted personal accounts system would be in its ability to genuinely save and invest funds meant for Social Security.

In other words, private accounts are the ultimate lockbox.

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CATEGORIES: Social Security

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The author at Right Mind in a related article titled re: Privatizing Social Security writes:
    TITLE: re: Privatizing Social Security URL: IP: BLOG NAME: Right Mind DATE: 07/05/2005 12:10:38 PM [Tracked on July 5, 2005 12:10 PM]
The author at The Club for Growth Blog in a related article titled Wednesday's Daily News writes:
    CAFTA Reflects Dems’ Shift From Trade Bills - Washington Post The Social Security “Gamble” - A. Kling, EconLog The Price Of The Trust Fund - Penny & Abdnor, Stop Spending The Surplus - Edwin Feulner, Heritage Hill G... [Tracked on July 6, 2005 9:00 AM]
COMMENTS (4 to date)
If conferring asset ownership to individuals rather than to the government can effectively increase national saving and investment without reducing work-incentives, the future benefits funded by present law payroll taxes could be higher or those taxes could be reduced. Hence, separating the issue of fixing Social Security's insolvency from that of introducing personal accounts is inappropriate. Ownership and management of retirement assets by the government has been shown to be ineffective. It's time to adopt a new approach.

Which nicely sums up what is wrong with the Axis of Ostrich, 'Do Nothing Til You Hear From Me, Because Something Might Turn Up', approach that is so in vogue on the left.

Victor writes:

Yes, but it's only "brilliant" because

a) the implicit pension obligations were already priced into GM's bond rating,
b) GM bonds subsequently went into the tank, making the 7.5% rate of interest better than anything they could get now,
c) Project Alpha can find a set of investments combined which yields greater rewards for same or lower risk.

I distrust the ability of even modern portfolio theory to deliver (c) on a macroeconomic basis, I trust that (b) will never happen, although it is conceivable that borrowing and locking in low rates today is a good idea, and I am entirely skeptical of (a).

Brilliant for one does not mean brilliant for all.

Technologydude writes:

The problem, as I see it, is much larger than Social Security. We are trending in the direction of too few productive people supporting too many unproductive people. This is certainly one of the reasons Medicare and Medicaid costs have been soaring.

Solutions involve hard decisions about raising revenue and/or decreasing benefits, but they do not involve investing in the stock market. That may be a political solution, but it is not an economic solution.

Instead of simply relying on a historical perspective, where there has been predominantly a large net investment into the stock market, we should find out what a significant, long term withdrawal would do. Demographics insures this scenario. Does anyone out there know how much of a net withdrawal creates how much of a stock market decline? How much of a decline can we expect for, say, a 100 billion dollar net withdrawal in a year? If we don't know, the scheme is simply too risky.

jldugger writes:

One critical difference between GM and your average taxpayer is the resources dedicated to outperforming the investment. 120 people is a lot, and outperforming the market is rare, especially over multiple years. We've seen it demonstrated over and over that a lot of personal investments are poorly made. People put significant amounts of their paycheck into money market accounts. Diversification means investing in five stocks. College students frequently find themselves mired in high interest credit card debt. Mutual fund companies regularly outperform their own funds, ie it would have been smarter to invest in the company selling their product than the product itself.

Also, it's important to note that GM's junk bond status is in part because of their move to explicitly fund the pensions. So to call it brilliant because it locked in great rates (for them) is a bit peculiar. In constrast with GM, the US bond market is broadly expected to be the low hurdle of interest rates, reguardless of how much is issued.

If you want to eliminate Social Security, why not be out with it? I have a suspcision that few politicians want to actually eliminate SS as they want to grease the wheels of mutual funds and stock brokers by the forced participation of an undereducated investor.

As a member of the "future generations" category, I don't see a great preference for either leaving things are or selling more bonds to cover the shortfall. I guess the good news is that despite the underrepresentation of my generation in Washington, the costs of the change will be ridiculusly low.

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