(Note: Started Aug. 2001, in response to a pro-privatization article by Tim Penny & Bill Frenzel. Completed 3/30/2005)
The Social Contract:
The Free Market that facilitated the Industrial Revolution changed everything. Free Markets require free (i.e., unfettered) raw materials, capital, distribution, prices, wages, and labor (for details, see THE GREAT TRANSFORMATION, by Karl Polanyi, an economic treatise first published 1944 and reprinted by Beacon Press, 1957). If there's stickiness in any of these items, the market can't operate freely, and smooth manufacturing and consumption can't occur. Stickiness can happen in each of these areas for different reasons, such as shortages of raw materials, capital, or transportation. Wage and price stickiness are well established: no one wants to take a pay cut. Capital stickiness works two ways: The bank may not loan money to a project that needs it, and it wants its loan repaid in full whether or not you have a job. Labor stickiness is probably the most intractable of all. Free Labor requires that people unhesitatingly move from locations where jobs are scarce to those where jobs are plentiful. Home ownership and family obligations make labor sticky, reduce production efficiency, create pockets of poverty, and unnecessarily increase labor costs at the factories where labor is scarce.
It's no coincidence that all the industrialized nations have an economic system for caring for the aged and disabled, replacing the old feudal system. By assuming at least some of the traditional family obligations, the government encourages labor mobility. Children no longer must stay with their aged parents to take care of them. The small amount that the owners of the Means of Production must pay is returned to them many times over by the increased overall economic efficiency of the Free Market system.
Does the end of the Industrial Age change the need for Free Labor? Decentralization does reduce the need to concentrate workers near large factories, but I haven't noticed any changes in the desire for children to build large mansions (without handicap access) conspicuously far away from where their parents are living. I'm not sure where the changes will lead, but I don't think the Information Age will result in re-creation of the extended family all living together. More likely, the offspring will send Ma and Pa an e-mail asking them for help with down payment on the new house.
Social Security in the US:
Social Security was implemented as an emergency measure during a labor surplus. It was designed to reduce the labor force by encouraging older workers to retire so they could be replaced by younger, unemployed workers. The pension check converted the elders from producers to consumers, although it wasn't enough for a comfortable life. As a secondary benefit, the younger workers, being more mobile, supplied a freer labor supply. Since the retirement money was needed immediately, it was, of necessity, a pay-as-you-go program. Although capitalists benefited, the tax was applied in full only to wage earners. Self-employed people, including farmers, were not covered until the late 1950s. Managers are covered, but their FICA taxes are capped. Social Security is not a welfare program, because there is no means test. This is consistent with its original purpose.
The portions of Social Security covering disability and survivors' benefits are more like welfare programs. They were added during good economic times. They are, however, somewhat in the original spirit of Social Security, in that they help avoid the family stickiness that can keep people from moving to where the jobs are.
As long as the population is steadily growing, the advantage of increased Free Labor and enhanced consumption by the elderly greatly outweighs the inconvenience of shifting a small amount of money from people who are presently earning it to those who are not. Trouble occurs with sudden growth: the Baby Boom. The system is now not truly a pay-as-you-go program. If it were pay-as-you-go, the present FICA tax rate would be extremely low. The FICA rate is just as sticky as wages and prices, resulting in a huge surplus in the Social Security trust fund. All that surplus has been converted into IOUs: special US government bonds that pay low interest. These bonds are "off the books" and not considered part of the government debt, because it "owes it to itself." Still, if these obligations to Baby Boomers are to be met, the general taxpayer will have to pay them. If the surplus money has been truly invested, that need not be painful. If it was not truly invested, repayment will be painful.
1. Invest the money so as to increase
real future wealth.
Investment to increase real wealth is tricky. "Saving" money for the future doesn't work unless the savings are invested in something. As all economists should know, real wealth can be created only by capital investments that increase future productivity or the intrinsic value of something. Non-capital expenses, such as paper clips, do not generate wealth. You need them to run an office, but buying more of them will not produce more wealth. Unfortunately, government agencies do not distinguish between capital investments and ordinary expenses. Some part of our taxes go into the equivalent of paper clips. The US government, as part of its competition with Russia (presumably an ordinary expense), funded projects to reduce ICBM weight. One result was the integrated circuit, which had the unintended result of producing the computer revolution that vastly increased productivity and magnified our wealth. The portion of our taxes that went into developing integrated circuits greatly increased our ability to tap gains in the future. Some other portions of our taxes either had no effect or decreased future wealth. The "investment" by the Social Security Trust Fund in US Treasury obligations cannot be repaid without tax increases if the US uses the money for current expenses. It's too bad we can't tell what the money is being used for.
As for the second option, the government could degrade the money, but Social Security payments are presently indexed for inflation. I believe that inflation indexing is unworkable in the long run, partly due to the stickiness of the yearly raises, and partly because it takes away an important source of government flexibility. Indexing will have to be at least partially abandoned.
Traditionally, capital has been needed to build efficient plants and equipment. If we're truly entering a post-industrial age, it's not clear that capital is as critically necessary or has the capability to provide historic returns. Who can predict the Return On Investment of the cost to hire and train computer programming geniuses? Unlike machine tools, they can get up and walk to a competitor.
There's a little-noticed but severe problem with investing Social Security money in private companies. Per the classic inflationary model, if the economy does not grow fast enough (and it won't if there are too few consumers, which is a corollary of too few workers), there will be too much money chasing too few stocks. I find it interesting that Alan Greenspan does not raise an eyebrow if the average price/earnings ratio for stocks rises by 5%, but has a screaming fit if wages rise 5%. Stock inflation is just as erosive, and crueler to the poor shmuck who thinks he's on easy street because he's invested in the stock market. Stock inflation, of course, becomes stock deflation when the boomers retire and cash in their company stock all at once.
The Privatization Scam:
Fees are lower for stock index funds, but these work only if the funds are small enough so index prices are determined by investors buying individual stocks in the index. If everyone buys an S&P 500 fund, investment decisions will be made solely by the people who decide which stocks are in the S&P 500, and since these funds buy stocks to match fund input, the prices paid for the stocks will be based on the amount of money invested in the fund, not on fundamental prospects for individual stocks.
Solution 1--Continue Pay-As-You-Go & Legalize
I don't remember which Mexican official said this, because it was a long time ago, but the statement to the US was, "you will either take our citizens or take our products." He was right, of course. Lots of US people fear immigrants, but unless international arrangements change, we're going to need them. We cannot continue to run a trade balance deficit indefinitely, because at some point the dollar becomes so cheap that we become the third-world country where manufacturing is the cheapest. We then need the immigrants to run the machines. Even if a robot is developed to care for a retiree, it'll have to be built in China unless we import Chinese to build them here. During the time required for equilibrium to be re-established, we could apply a FICA tax to imports, thus parrying at least the domestic consumption aspect of the "we'll take our manufacturing overseas and open a help desk in Pakistan" threat that presently endangers FICA. That would provide social security income no matter where the goods were produced or the services performed. A problem with this solution is that it's hard to enforce on internet services provided from Pakistan, and it's even harder to foresee what the unforeseen consequences might be.
Solution 2: Reinstate Progressive Taxation:
The recent tax "cuts" have made Income Tax much more regressive than formerly. Another possibility would be to revive the estate tax, with funds earmarked for Social Security. Modifications can easily be made for family businesses: the tax is due only when the business is sold or abandoned. The advantage to this tax is that it recycles part of the leftover wealth of a dead generation to mediate the old age of the next generation, and it further means that the burden on the ordinary worker will not become onerous. The disadvantage is that, since it transfers this burden to the very wealthy who make large campaign contributions, it ain't gonna happen. As has often been remarked, we have the best representation in Washington that money can buy.
Crisis #1--Medical Costs:
Unlike Social Security, Medicare is already running at a deficit, even though Medicare keeps careful control over what it allows versus what it is billed. I, as the Medicare patient, am not responsible for making up the difference of billed versus allowed. Private medical insurance similarly sets prices well below the billed amount. I added up our Medicare statements for 2004, which included two hospitalizations:
Amount billed: $35,800
The billed amounts are obviously inflated in order to keep pressure on Medicare and the private insurance companies to increase allowables. But that means that the disconnect between the insured and the uninsured is outrageous. It would be relatively easy to handle the amount covered by Medigap insurance, but if you had to pay the amount billed, you'd go broke in no time. No wonder so many bankruptcies are caused by uninsured medical expenses.
One possible solution to this problem: uninsured patients should be required to pay no more than the Medicare allowance. But the high cost of medical care is partly due to the availability of high-priced treatment procedures, such as heart or liver transplants, and high-priced diagnostics, such as MRIs. No one, not even I, have any good answers for out-of-control medical costs. Any answer would have to involve a two-tier system with some sort of basic cheap medical care, particularly for public health issues such as TB, with high costs for extras. That amounts to medical rationing of services to the poor, which would have lots of unforeseen consequences, including, possibly, street riots.
The addition of a drug benefit without allowing Medicare to determine drug prices is going to run the system flat bust a lot sooner. I favor radical solutions to the drug cost problem. New drugs are developed mostly through government grants, and, as with other R&D contracts, the resulting patents should be owned by the government who could then license manufacture to competing manufacturers. And, of course, prescription drug advertising should not be allowed.
Crisis #2--Standard Of Living: