Clause 61: The Pushback Blog

Because ideas have consequences

Voting Ourselves Rich

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A former co-worker sent me a link to a polemic on Social Security by Michael Goodwin, the author of Economix. Since the material is presented as a series of drawings, I have to include the drawings in order to quote them. All the drawings on this page are the work of the author, Michael Goodwin, and the illustrator, Dan Burr.

There is a lot of misinformation on this site, so let’s dig in.

The Pay-As-You-Go System?

"pay-as-you-go" system, from Economix
They way Social Security was advertised to the GI generation was as a pay-as-you-go system: your Federal Old Age Benefit payments (some pay stubs used to have a column F.O.A.B.) went into a fund to pay for your retirement. The first year anyone actually received Social Security benefits was 1940.

In fact, such a system would be unimplementable. What would the government do with such an enormous pile of money, anyway? Stick it in a vault? It would never keep up with normal economic growth. Invest it? The position would be impossible to manage and would swamp competing private investments.

Meanwhile, there would be this enormous pile of money in the Treasury, and somehow politicians were going to be able to keep their hands off it?

So what Mr. Goodwin describes, a pay-as-he-goes system, is actually closer to how the system worked than was the story that was sold to people who were voting adults back in the day. However, there is a fundamental problem with this. If you were to set up a private investment fund along this model, paying earlier participants out of the proceeds from later entrants, it would be called a Ponzi scheme and you would be slung in jail.

And Reagan Screwed Us All, Right?

Reagan borrowing, from Economix

Actually, no. This was getting out of control before Ronald Reagan ever came to town. Howard Ruff was calling Social Security a Ponzi scheme back when Jimmy Carter was still president.

Any fund that a government sets up to collect taxes now and pay benefits in the future is going to have a hard time keeping up with normal economic growth. Government is not a wealth-producing entity. You can’t “invest” in government, because there is no wealth production from which to obtain returns. It is just one big cost center.

Some of those costs are unavoidable and necessary, such as law enforcement, road repair, diplomats, soldiers and food inspectors. You may not agree with the levels at which they are funded, but they are necessary. However, their necessity doesn’t change the fact that none of them are producing wealth, and therefore none of them can contribute returns to an investment designed to provide for citizens in their old age.

But the event that really put Social Security underwater was the inflation of the seventies. Given that there was nothing in which the government could invest a fund of that size and keep up with normal economic activity, there was absolutely no chance of the government being able to keep up with the currency inflation it was driving back then.

By 1980, mortgage rates were pushing 13% and the prime rate for commercial borrowing was near 15% (See this New York Times article). This was completely unsustainable and a threat to the proper function of the economy. Business managers were beginning to question their ability to extend 30-day payment terms. Banks were starting to get interested in workarounds to avoid state usury laws, which would change the credit card business forever.

There are only 3 ways to finance government operations:

  • Levy taxes;
  • Borrow;
  • Print the money.

Taxes were off the table, because they would have pitted some voters against others. Uncle Feelgood didn’t want that. States were already experiencing tax revolts, such as the one led by Howard Jarvis in California that passed Proposition 13 in 1978. Having pushed inflation to the apparent limit, borrowing was the only unexplored avenue. Well, other than not spending — what do you think of that, Mr. Goodwin?

I’m Entitled

Social security entitlement, from Economix

Apparently not much.

Hey, wait — previously, you said that our social security payments were paying for current retirees’ benefits. So how, exactly, does this entitlement thing work?

This touches on another idea that periodically lumbers out of the woods to be beaten to a bloody pulp: means-testing Social Security. Every so many years, somebody floats it, and you will hear it trotted out again before long. But it never goes anywhere, because politicians know that means-testing Social Security will be the death of large-scale political support for the program. If a significant number of voters never expected to receive Social Security benefits, it wouldn’t be long before a revolt against Social Security started. However, with all of us in the system, expecting to receive benefits if we live long enough, there are payoffs for everyone. We can vote ourselves rich!

Only one problem: what happens when we go to collect our entitlement and the cupboard is bare?

The New Dealers never believed that there was enough wealth to make everyone above average. That is why they allowed unfavored groups, such as blacks and Asians, to be shoved to the back of the line. That mentality did not survive the sixties, and I can’t say I’m sorry about that. Nevertheless, the mentality that replaced it was that we were so rich, cool and smart that we really could vote ourselves rich. All of us.

And, yes, you’ll get your entitlement — sort of.

Furthermore, we have the capacity under the Constitution, the Congress does, to coin money, as well as to regulate the value thereof. And therefore, we have the power to provide that money. And we are going to do it. It may not be worth anything when the recipient gets it, but he is going to get his benefits paid.
— Senator William Proxmire, Senate hearings, 1976

Sure, you can have your $2,000/month Social Security benefit. Of course, a gallon of gas might be $1,000 and a gallon of milk $500. Remember that the Core Consumer Price Index does not include food or energy. The feds are never going to overtly default on federal obligations. They are going to constructively default by inflating the currency to the vanishing point.  The process is already under way:

 

Monetary Base 1979-2014. Federal Reserve Bank of St. Louis.

Monetary Base 1979-2014. Federal Reserve Bank of St. Louis.

The right side of that graph shows a 5x increase in the monetary base since 2008. Ultimately, that means more dollars chasing the same amount of wealth. Why do you think there are all these people advertising to buy your gold?

You can be entitled to something, but you still can’t get blood out of a stone. Imagine how much fun it is going to be when five people with competing claims to a dollar meet in the public square to fight over 35 cents. What do you think all that rioting in the Club Med countries was about? People there had made life decisions in the expectations of receiving benefits, and suddenly the government pulls out its pocket linings. Coming soon to a nation uncomfortably near you.

So Can’t We Default on Someone Else?

So here is Mr. Goodwin’s solution:

Components of debt, from Economix

OK, let’s think about this practically and realistically. Our plan is to flip off the people who are lending us the money to live beyond our means. That won’t cause a problem, will it?

The politicians are hooked on vote buying. Wall Street is their connection that makes it possible. Both Wall Street and Washington believe that Wall Street has the federal government by the short hairs.

As of 2012, $5 trillion in federal debt was to mature within 36 months (see this Wall Street Journal article). It’s not like the feds have the means to pay it off; they have to roll it over. And over. And whose co-operation do they need to do that?

Without the active assistance of Wall Street, elected officials have no chance of buying the votes they need to stay in office. In 2008, we had an election that sent the Senator with the most progressive voting record to the White House. And what changed in the financial sector? The heavens opened up — and a feather fell to earth. Yes, we can … keep on going just the way we have been.

You’ve heard it on the radio all your life:

Meet the new boss
Same as the old boss
— Pete Townshend

By the way, the foreigners are all too familiar with the concepts on these panels. When the wheels really start to come off, you will see foreigners dumping both government debt and dollars.

But Everything’s Cool

Social Security trust fund, from Economix

Try this simple experiment: Apply for a home mortgage. Write yourself an IOU for $1 million and list it as an asset on your mortgage application. Note the reactions of the mortgage originators. Do they laugh? Make rude gestures? Call the men with nets?

Remember the plan to stiff the rich people who lend the money? The intended suckers are the holders of government bonds. The Social Security trust fund is a very large rich person, weighing in at about $2.6 trillion as of mid-2012. When — not if — the government can’t keep with the vote-buying treadmill, the value of those bonds will be significantly impaired. As in a 99% haircut. The kind of haircut that leaves you with a razor through your throat.

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