Thursday, May 05, 2005

Social Security is a Ponzi scheme...

Is that over the top? Have I gone too far? Am I way out of line on this one? Born in 1968, I'm considered a member of Generation X. For as long as I have been alive, I have been raised to believe Social Security is a Ponzi scheme. Let's take a look at the definition of a Ponzi scheme from Merriam-Webster's Online Dictionary:

Ponzi scheme: an investment swindle in which some early investors are paid off with money put up by later ones in order to encourage more and bigger risks

Damned if that doesn't sound like the current Social Security system! Ponzi (or pyramid) schemes all have three primary characteristics; 1) the first people in get the highest return on investment, 2) those returns are not realistically sustainable, and 3) an ever greater investment amount is required of each new generation of members. The whole concept of Social Security was to have larger numbers of workers entering the system and funding the benefits for a smaller number of retirees from the previous generation in the upper tiers of the pyramid scheme.

The increasing investments required from each successive generation of workers entering the Social Security system highlights the unsustainable nature of the Social Security program. A chart of historical payroll tax rates from the Tax Policy Center reveals that workers entering the system in 1937 invested up to $60 per year into the pyramid scheme. Just 20 years later in 1957, their children were required to invest up to $189 per year, and twenty more years down the road, in 1977, their grandchildren were being fleeced for up to $1,634 of their annual earnings.

Now we come to the year 1984. New workers entering into the Social Security system are devoting up to $4,310 of their wages, per year, to the program. The 15 year old workers that entered the pyramid back in 1937 are thinking about their just rewards coming due after 50 long years of paying into the scheme. Unfortunately, one year earlier, Alan Greenspan's National Commission on Social Security Reform (aka the Greenspan Commission) had submitted to Congress a means tested reduction in benefits in the form of taxes on Social Security benefits.

If the taxpayer's combined income (total of adjusted gross income, interest on tax-exempt bonds, and 50% of Social Security benefits and Tier I Railroad Retirement Benefits) exceeds a threshold amount ($25,000 for an individual, $32,000 for a married couple filing a joint return, and zero for a married person filing separately), the amount of benefits subject to income tax is the lesser of 50% of benefits or 50% of the excess of the taxpayer's combined income over the threshold amount. The additional income tax revenues resulting from this provision are transferred to the trust funds from which the corresponding benefits were paid. Effective for taxable years beginning after 1983.

The Republican controlled Senate and Democrat controlled House approved the legislation, which was signed into law by President Ronald Reagan. And so it was, Ponzi denied the first generation of the New Deal up to 50 percent of the benefits promised to them when they initially bought into the scheme.

Ten years later, in 1993, young workers entering the Social Security system were investing up to $7,143 of their annual wages, and those 15 year old workers that entered the pyramid in 1957 have since been told they'll be spending their 65th birthday and the following year toiling under the burden of the government program, instead of retiring. It was also in 1993 that a completely Democrat controlled government passed a number of Social Security Amendments, as part of the Omnibus Budget Reconciliation Act, that would apply an 85 percent means tested reduction of benefits to retirees in the form of taxes.

Modified for a taxpayer with combined income exceeding a secondary threshold amount ($34,000 for an individual, $44,000 for a married couple filing a joint return, and zero for a married person filing separately), so that the amount of benefits subject to income tax is increased to the sum of (1) the smaller of (a) $4,500 for an individual, $6,000 for a married couple filing a joint return, or zero for a married person filing separately, or (b) 50% of the benefit, plus (2) 85% of the excess of the taxpayer's combined income over the secondary threshold. However, no more than 85% of the benefit amount is subject to income tax. The additional income tax revenues resulting from the increase in the taxable percentage from 50% to 85% are transferred to the HI Trust Fund. Effective for taxable years beginning after 1993.

So, the guaranteed return on investment of the Social Security pyramid continues to decline as the government reneges on the payout by taxing the benefits. At least the Social Security Amendments of 1983 and 1993 shored up the Social Security Trust Fund so even more people didn't get burned. Right?

Mr. Ponzi Goes to Washington...

Perhaps we can't be too hard on the folks that reneged on the promise of Social Security in 1983. They'd just witnessed seven consecutive years where Social Security outlays had outstripped revenues, even causing legislators to make a one-time transfer from the Medicare Trust Fund in order to meet their benefit obligations. The situation was quite different in 1993. The Social Security program was operating well in the black, averaging a $50 billion surplus. So, why was there a need to increase receipts to the Social Security Trust Fund in 1993?

The answer to that lies back in 1990 when a Democrat Congress and a Republican President codified the Budget Enforcement Act taking Social Security completely off-budget. In short, that means the Social Security outlays, revenues, and Trust Fund will not be counted as part of the general government budget, but rather as a separate account entirely. It turns out that this did not create an actual barrier between the general government spending fund and Social Security. When the Social Security system accrues surplus revenues from employment taxes, which it has done each year since 1982, those surplus funds are pilfered from the Trust Fund and spent on other government programs (i.e. military, education, environment). The Trust Fund is back-filled with special-issue U.S. Treasury Bonds. However, since the Social Security Trust Fund is off-budget, the money pilfered from the Trust Fund is not counted in on-budget revenues, while the on-budget spending it masks magically disappears from the government ledger.

So, in the ultimate shell-game, our elected representatives increase the national debt by borrowing from the off-budget Social Security Trust Fund to mask deficit spending in the general budget and, at the end of the day, cynically call it a budget surplus.

President Clinton announced Wednesday that the federal budget surplus for fiscal year 2000 amounted to at least $230 billion, making it the largest in U.S. history and topping last year's record surplus of $122.7 billion. The federal budget surplus for fiscal year 1999 was $122.7 billion, and $69.2 billion for fiscal year 1998. Those back-to-back surpluses, the first since 1957, allowed the Treasury to pay down $138 billion in national debt.

According to the above CNN report, the public debt should have decreased by $138 billion over three years. Unfrotunately, the records at the U.S. Bureau of the Public Debt reveal a different reality.

National Public Debt

09/28/2001 $5,807,463,412,200.06 ($133 billion in deficit spending)
09/29/2000 $5,674,178,209,886.86 ($ 18 billion in deficit spending)
09/30/1999 $5,656,270,901,615.43 ($130 billion in deficit spending)
09/30/1998 $5,526,193,008,897.62 ($113 billion in deficit spending)
09/30/1997 $5,413,146,011,397.34

The truth of the federal budget deficits is they could be hundreds of billions of dollars worse than reported in on-budget numbers. It is not some monumental feat of fiscal responsibility by Congress that reduces deficit spending, but rather it is a surge of Social Security employment tax revenues masking continued federal defict spending. It is no coincidence that on-budget federal deficits follow unemployment rates. Since Social Security is the most regressive tax ever imposed on the American worker, employment taxes far outstrip income tax revenues for the vast majority of working Americans. So, the more Americans that are working and paying Social Security taxes, the more federal deficit spending can be masked by pilfering the surpluses in the off-budget Social Security Trust Fund. All the while, the Social Security Trust Fund is back-filled with worthless government IOUs.

I know many out there, like the San Diego Union Tribune and the Social Security Administration (SSA), would caution me against classifying the Social Security Trust Fund as "worthless IOUs" because those special-issue Treasury Bonds (debt) are backed by the full faith and credit of the U. S. Government. But what is that, exactly? What is the tangible promissary power of the full faith and credit of the U.S. Government? Fortunately, the U.S. Treasury Department offers an official definition:

full faith and credit -- a pledge of a government to commit its general taxing power to raise funds for payment of obligations.

Now it all becomes comes clear. Charles Ponzi couldn't have dreamed up a better scheme. Our government claims 12.4 percent of every worker's wages couched as a retirement investment, then steals from the retirement Trust Fund to mask excessive spending, and guarantees to payback those retirement investments with the power to tax those workers to any extent necessary.

It's not time to strengthen Social Security, it's time to rethink it entirely. Personal accounts that can't be raided by Congress should be the cornerstone of any proposal to reform the system. I'll explain why I think so in a follow-up post.


Blogger Mike said...

Excellent post. Back in January I suspected that as a compromise the Republicans would get personal accounts, but that we would have no control over them and the government would still be free to spend the money as they please. Now I'm not so sure what is going to happen. But you hit it right on the head. The reason the Dems are so opposed to personal accounts is they know they won't be able to spend that money on their pork anymore.

10:29 AM  
Blogger The Indigent Blogger said...

I must say that I struggled through the section about the use of the Trust Fund as an off-budget mask of higher deficit spending. It was a challenge to put into coherent language, since non-government organizations simply refer to it as "illegal".

12:04 PM  
Blogger doyle said...

The crowd rises to its feet in a standing ovation!

I'm not exactly a crowd but you get my drift, okay?

I don't get a lot of traffic, but I do have some regular readers who'll see this.

Scroll down through my sidebar and look for the section, INFO ON SS. I think you'll find a few big blogs that you'll like.

5:16 PM  
Blogger P-BS-Watcher said...

Glad to find an ally. Paul Samuelson described Social Security as a Ponzi scheme that works. Except it won't for much longer. Thanks for helping people understand that. I've been blogging on this topic for awhile, most recently Even A Broken Watch

9:28 PM  
Anonymous Anonymous said...

I applaud your intent and agree with your conclusions. Your manifesto has some errors that undermine your credibility. You may want to evaluate your conclusions from Greenspan's proposal to Reagan in the '80's and the change to that legislation in the '90's.

I am a few short years from my retirement. I am a proponent of dismatling Social Security completely in favor of mandatory IRAs. I think those special IRAs should meet certain criteria to protect those investments from dramatic market volatility. And, I think the current traditional/Roth style IRAs available to investors should be sufficient without additional cumbersome legislation. Of course, that's not the way of our government. If there is money involved, they will find a way to make it incomprehensible, unapproachable and untrackable.

4:35 AM  

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