Many Smart People Don't Get This, Part Deux

As a companion piece to the one that appeared on 2-Minute Sidebar today, here is something I wrote about Social Security to a friend of mine who asked about it the other day:

Socal Security is in trouble. In my opinion, there is no way to fix it, and it should be done away with entirely. And the longer we wait, the more painful it will be.

The basic problem is that there is no "return" on "investment" with SS, because it isn't an investment. It's a tax. Everyone talks about it as if it were a "trust fund" that your money goes into, and then your money comes back out of it when you retire. This is a lie. SS is just another tax and just another expenditure. Your money flows into the government, then immediately flows out to the people currently receiving SS benefits.

Currently, there is a net surplus here: The government receives more from SS taxes than it pays out in benefits. This surplus is simply spent on other things. It seems more complicated than this, because the way the government spends it is by "investing" SS funds in government bonds, then takes the income from those bonds and spends it. But this is just an accounting fiction, because those bonds are nothing more than a promise by the government to pay money back from future revenues. If they took the accounting ledger entry labeled "Social Security Trust Fund" and folded it into the general budget, the books would balance by simply canceling out all those bonds currently held by the "Trust Fund" - it's just a way of moving money from one column in the ledger to a different column in the ledger.

But starting in about 2018 or so, there won't be a net surplus anymore. The government will begin to pay out more in benefits than it collects in SS taxes. At that point, the supporters of SS say, they'll begin making up the shortfall from the "trust fund" that has built up. Except, remember, that the "trust fund" is an accounting fiction consisting entirely of government bonds, and in order to pay off those bonds, the money has to come out of the overall budget. In other words, from general tax revenues. So, as the shortfall increases, the government will be forced to either cut spending (possibly including SS benefits), increase tax revenue (i.e., raise taxes, unless by sheer good luck there's a sudden massive increase in productivity and wealth), borrow more money (i.e., increase the deficit, which just delays the issue), or inflate the money supply (which amounts to the same thing as raising taxes).

This is unavoidable: One of these things will happen, sooner or later, whether anyone wants it or not. All we can do is choose which one, and to some extent when. The best we can hope for is that we can find a way to eliminate SS without too badly screwing over those who are too old to begin building up their own retirement savings, and who have not done so (or have not saved as much as they otherwise would have) because they were relying on expected SS benefits (and/or couldn't afford to do so in addition to paying SS taxes).

The plan Bush proposes has some issues. There's a good discussion of it at mises.org. I think the main effect of it will be to move the crisis point earlier. However, since I also think the longer we wait, the more it will hurt, and since there are currently people denying that there is a crisis at all because "it'll be 50 years before the trust fund is empty", in my opinion, moving the crisis point earlier is a Good Thing. So Bush's semi-privatization scheme is probably better than doing nothing.

I'll also add one more point. Since Noam Scheiber doesn't understand why, if you don't believe in the "trust fund", it makes any difference when you start dealing with the problem, here's one reason: The earlier you deal with it, the more time those who expect to eventually reach retirement age will have to make their own private investments, to cover the expected benefit cuts (or setting up investments before the expected tax increases) in their future.