For Social Security, it’s print as you go

Sep 23, 2011 16:24 UTC

“Americans are more and more aware that Social Security contributions are not “invested” to finance future benefits; instead, they are used to disguise the true amount of borrowing necessary to fund the Administration’s unprecedented spending spree. As the General Accounting Office stated last September: ‘The present situation, in which trust fund surpluses are combined with and partially offset a deficit in the general fund, means that the payroll tax is being used, not to make provision for future retirement benefits, but to pay for today’s general operations of government.’”

–R.C. Whalen
“Mess With Social Security — Change It From Ponzi Scheme To Private Pension Fund”

Barron’s, March 4, 1991


One of the dangers of using your Dad as a prop in a commentary is that he may call you out on it:

I am not as much of a cynic as you make out to your readers. I want you to write about solutions, how to create new credit. There are not many people alive today who remember the deflation of the 1930s, when I was born. Be careful what you wish for. We need to avoid severe deflation. This young, spoiled country of ours is still trying to figure out its politics. We must avoid extreme economic swings to avoid extreme political outcomes.

The desire to avoid extreme swings in US economic life is ingrained in my dad’s generation. They still feel the fear and uncertainty of past years of deflation and unemployment, one of the reasons that debates over things like Social Security generate such visceral reactions. Yet whether we talk about the federal safety net or how we purport to “manage” the US economy, Americans talk like “capitalists” — whatever that is (please send comments below) — but behave very much like socialists.

Take the comment by GOP presidential contender Rick Perry that Social Security is a “Ponzi” scheme. See James Kwak’s “Ponzi Schemes for Beginners” for a “it’s not a Ponzi scheme” perspective on Social Security.

I differ with Kwak, but he and I seem to agree that Social Security is not a funded retirement scheme. But there is no shoe box — no assets separate from the finances of the republic — to make Social Security payments. Ponzi himself could not help but smile.

Since the 1930s, the youthful population of the US allowed Washington to pay current beneficiaries in what is known as a “pay-as-you-go” system, dreamed up by Franklin Delano Roosevelt. Social Security built up a substantial cash surplus because 80 years ago there were more than 10 workers for every retiree. The government spent the cash on other activities and the Social Security Administration (SSA) got a piece of paper from Uncle Sam, promising to pay on demand with interest, etc., etc.

Wind the clock forward. The US population is aging. The SSA is in deficit, meaning that Treasury must start to raise cash to redeem the bonds given to the SSA. This will represent a growing part of overall Treasury financing operations as time goes on. Too few observers have thought about what the scale of the cash funding requirements of Treasury will be in future years to make good on the debt to the SSA.

Now people like Kwak argue that “there’s nothing wrong in principle with a pay-as-you-go system, as long as the future revenue stream is secure.” Indeed. The future revenue stream in the US is not secure. The dependency ratio, which Kwak discusses in his article, is basically the way to look at the number of workers vs. retirees in the long term to see if the pay-as-ya-run scheme still works.

But at the end of the day, Kwak and other supporters of Social Security always fall back upon tax increases to support benefits to approximately the year 2035, when the demographic effects of the Baby Boom will have run through the system and your faithful blogger will likely be feeding the shrubs. Says Kwak:

As all informed observers realize, you could close the seventy-five-year Social Security budget gap simply by raising the payroll tax rate by two percentage points (or by other means that have a similar financial impact, such as eliminating the cap on taxable income). This in itself should make clear that it isn’t a Ponzi scheme.

No, James, you save your worst argument for last. Rick Perry is right: Social Security is a Ponzi scheme. The nature of the pay-as-you-go system and the high budget deficits being run by the federal government for other services makes it a precise parallel with the work of Carlo Ponzi. The US fiscal mess makes it increasingly unlikely that the federal government will be able to make good on the Social Security payments without resorting to hyperinflation. All of the cash collected from past recipients is gone with no assets to show for it but Treasury debt.

As former Fed Chairman Alan Greenspan famously said in his 2005 Congressional testimony on Social Security from The Daily Bail:

I believe that we should maintain the principles of Social Security, but I think the existing structure is not working. Until we construct a system that creates the savings that are required to build the REAL assets, so that the retirees have REAL goods and services. We don’t have a system that is working. We have one that basically moves cash around and we can guarantee cash benefits as far out and whatever size you like, but we cannot guarantee their purchasing power. Do we have the material goods and services that people will need to consume, not whether or not we pass some hurdle with respect to how legal financing occurs. Financing is a secondary issue and it is a means to create the REAL wealth, not an end into itself.

Photo: Gail Sredanovic (L) and Ellyn O’Toole join the California Alliance for Retired Americans at a demonstration outside the office of U.S. Senator Dianne Feinstein (D-CA) in San Francisco, California August 17, 2011. The group was urging Feinstein to protect social security benefits. REUTERS/Robert Galbraith





Whalen is not a Conservative and is not a hack. He is a staunch libertarian from the Austrian Mises School of Economic Thought. The problem I have with him as well as all other Austrians/Libertarians is that they seem to think they have all of the answers but rarely will confront the social problems and dislocations from their policies. This is why Libertarians always fall on their faces. There are no aetheists in a fox hole. They will be the first ones to run to governemnt for a bailout when the feces hits the fence.

Posted by JayTrader | Report as abusive

Profiles in competence: Jesse Jones & Leo Crowley

Sep 6, 2011 19:31 UTC

Alan Boyce, Glenn Hubbard, and Chris Mayer (“BHM”) have published an important paper, “Streamlined Refinancings for up to 30 Million Borrowers,” which makes the case for refinancing all loans – trillions of dollars in face amount — now covered by the housing GSEs, Fannie Mae and Freddie Mac. This proposal breaks-down the evil cartel of banks and GSEs currently blocking more than 30 million American families from refinancing their homes and thus stalling economic recovery.

But this proposal, while admirable, has a cost. Income now flowing to investors and banks who own GSE paper will instead be retained by consumers to the tune of $70 billion annually. If other proposals to compel refinancing of non-GSE mortgages are adopted, the reduction in income to investors, banks and the GSEs themselves as a result of mass prepayments is over $100 billion per year. The banking system made $28 billion in Q2 2011, thus the dilemma.

I use the term “dilemma” deliberately. The GSEs and large banks are still hiding losses on their books and subsidizing these losses by preventing consumers from refinancing their mortgages. It remains only to recognize these losses, restructure insolvent institutions and get on with the business of recovery and growth by refinancing eligible home owners. Let’s ponder two figures from the 1930s who typify the sort of focus and purposefulness required by our government today — Jesse Jones and Leo T. Crowley.

Jones is the better known of the two men, having headed the Reconstruction Finance Corporation during the Great Depression. Jones was a businessman and public citizen first and foremost, a man who saved several banks in his home town of Houston, TX, before he traveled to Washington to serve on the board of the RFC under Presidents Herbert Hoover and Franklin Roosevelt. He also wrote a great book describing his experiences, Fifty Billion Dollars: My thirteen years with the RFC (1932-1945).

Under Jones, the RFC issued debt, purchased commodities, invested equity in solvent banks and closed insolvent institutions, and operated as the merchant bank and receiver of the US government in tandem with the FDIC. While the Fed played a relatively minor financial role during the Depression and WWII, the RFC was where the action was happening, financially and politically. Jones reported to two men: FDR and Senator Carter Glass of Virginia, who helped to create the Fed and served as Treasury Secretary under Woodrow Wilson.

Jones understood that recapitalizing sound banks helped to stabilize communities, but that closing insolvent banks and selling the assets quickly was also a necessary condition for economic revival. In his memoir, Jones tells of meeting with the Maine Trust Company in 1933, which sought an RFC loan of $1 million.

“We in the RFC knew what their situation was,” wrote Jones. “I replied that they needed not $1 million but $4 million, and that they would raise $2 million and the RFC would buy preferred capital of $2 million.” Jones, you see, had his own “stress tests” even in the 1930s.

At first the bankers from Maine Trust Company balked at the idea of raising capital, but Jones persuaded them to go back home and raise the $2 million from the community in a scene right from Frank Capra’s film “It’s a Wonderful Life.” The alternative was closing the bank, and prosecution for the officers and directors. Jones wrote about the episode: “The truth can hurt, but not as badly as uncertainty and fear.”

Leo T. Crowley was appointed Chairman of the FDIC in 1934 and was the agency’s first chief executive. A banker from Wisconsin, Crowley organized the state’s first banking agency in the early 1930s and then went to Washington seeking funds to help 385 of his state’s banks qualify for FDIC insurance. In a 1945 letter to Jones, Crowley recalled “how overjoyed I was to be able to go back home and report that every one of these banks had been accepted for [FDIC] deposit insurance.”

Not only did Crowley get money from the RFC, but he also got a job from FDR and became one of the most important leaders of Depression era. He worked closely with Jones and helped restructure hundreds of banks. Under Crowley the FDIC took on the organizational design it still has today, including insurance, resolutions & receivership, regulation and research. The agency requested and obtained from Congress more time for smaller banks to qualify for permanent FDIC insurance in 1935 and full membership in the Fed in 1937. Crowley knew that “the small bank was really the backbone of the nation’s financial structure” and was then, as it is now, the nation’s largest employer.

Crowley became even more significant than Jones during his years of public service and also as a powerful political ally of FDR. He joined the wartime cabinet in September 1943 and ran the Lend-Lease program that financed much of WWII. Like FDR and most reasonable people, Crowley did not get on with President Harry Truman. At the end of 1945, Crowley cut off the Soviets from the Lend Lease program, provoking the Cold War in Truman’s view, and then returned to private life. Crowley did not write a memoir, but Stuart Weiss wrote a biography in 1996, The president’s man: Leo Crowley and Franklin Roosevelt in peace and war.

The lesson to be taken from Jones and Crowley is one of defining economic problems and acting decisively to deal with these problems so that fear does not conquer all. Today the task is to restructure the largest banks and GSEs, reliquify the economic situation of millions of American home owners, and deal with the financial consequences of that adjustment. If we remember that there is a cost to doing nothing and that prompt action to eliminate insolvency and uncertainty can restart economic growth, then the path ahead is clear.


Lee: It’s not a question of personal qualities, but a question of ownership.

Obama is owned by the banks (they’re “savvy businessmen”). The banks also own the political process in DC, and both legacy parties, as the kabuki on the debt shows.

Obama and the political parties do what they know their owners want. They are one and all criminals and thieves, and criminals don’t enforce the law against themselves.

Posted by lambertstrether | Report as abusive