No, It Ain't no 401(K)

Both the Lunatic Right and Joe Sixpack say about the same thing: You/I paid into Social Security, so you/I have earned $X of Social Security.  Only one problem with that; it's a lie.

Let's go back to the beginning.  When FDR got Social Security enacted, there was a small problem.  Which problem was paying for those who were immediately eligible (they were 65 or older), and those who would become eligible in short order.  Even if it made sense (it doesn't, see below) to treat SS as an annuity program, for lots of folks there wouldn't be enough "income" earned between now and 65.  In the end, SS was explicitly enacted as a current account program.  Current account is CPA speak for "paid for out of this period's receipts".  The period in question is the fiscal year.

We have one reason why SS can't be an annuity:  too many folks for too long a period of time (45 years, give or take) from inception of SS couldn't earn a nest egg if SS were some sort of annuity system.

But there are more profound reasons.  Hence this epistle.

In recent posts, I have talked about the investment process and the source of return on investment.  From a MBA or CPA point of view, all that matters is cash flow.  If the cash flow exceeds some agreed upon amount, then the application of fiduciary capital is said to be a "good investment"; the cash flow exceeds the "time value of money", imputed.  Buying that stupidity is the base cause of the Great Recession (and the Great Depression, too as it happens).  Real return on invested capital comes not from pure cash flows (Ponzi schemes provide those, don't you know), but from greater production.

Economists and policy wonks and anyone who's tried to prove otherwise, have all had a good deal of difficulty in demonstrating that purely financial investing has a beneficial (and measurable) effect on production.  The post-industrial economy is a myth (well, as an object of desire, at least).  Folks buy stuff; corporations buy services.  Hair dressing and septic tank draining are consumer services.  So are lawyering and doctoring.  Here's your homework:  enumerate all the service jobs which sell *solely to consumers* that provide an upper-middle class income.  How many of those jobs are of recent creation?  As I said, lawyering and doctoring are well paid service jobs (although lawyering doesn't qualify for the homework, since its highest paid work for corporations), but they've been around for more than a thousand years. 

The structure of an economy, whether it skews toward making things or skews toward service, matters.  Real return on investment is essentially non-existent for services.  To the extent that the USofA has drunk the post-industrial KoolAid, financing any retirement program becomes more difficult.

The truth is that "service" jobs with a consumer clientele are overwhelmingly shit jobs which could never support a middle-class family; most of those jobs have been around since the industrial revolution, and have been lower-class grunt work from the get go.  The contemporary archetype is hamburger flipping under the arches.  Build a middle-class life on that?  No.

Let's ask the simple question, then:  if SS *were* to be an annuity (i.e., a program which invests SS deductions by the Government), how would that work, and what might be the problems?

First, let's assume away the timing problem described above; all those less than 45 years from retirement just get paid out of the annual Federal budget (as it's done from the beginning).

Second, we get to the crux of the problem:  what sort of investments can be made?  Joe Sixpack and Lunatic Right, meet the can of worms.  SS currently "invests" in Federal Government "debt" (Treasuries, so called).  Does this make any sense?  I'll just say, NO.  Here's why:  in order for an investment to earn a rate of return, that investment has to increase production of some good (possibly service, but I don't buy that such really can happen) above what's currently possible.  The canonical example is a brand new machine.  And not just new, but new and better than current machines doing the same task.  Needless to say, "investing" in Treasuries is a classic example of robbing Peter to pay Paul.  The Gummint moves a bit of money from one pocket to another, and then moves a bit more back to that first pocket.  Treasury "pays" interest to SS (and anyone buying its bills, of course), but for doing nothing.  Private pension funds generally "invest" in "high quality" Federal debt.  I haven't vetted this posting, but it looks close.  Such "investing" ends up costing money, in the overhead needed to do the money transfers back and forth. 

Time for a thought experiment.  What if SS could invest in anything, in particular private companies like Microsoft and Enron and Exxon/Mobil?  The immediate problem is one of conflict of interest.  Had SS been heavily invested in Enron, or Madoff, how could it possibly carry out its duties to protect the public through DoJ/FBI/SEC/etc.?  The SS investment manager would do all he could to block discovery and prosection, same as private investors and insiders have done.  Would the resulting investments mean that the Federal government was either Socialist or Fascist (pick whichever feels derogatory)?  Of course.  The Lunatic Right cried Socialism with TARP, but, of course, TARP was the furthest thing from Socialism; Socialism means taking care of Joe Sixpack even if that means pissing off the Fortune 100.  TARP was classic Fascism; government aiding corporations at the expense of Joe Sixpack.  The fact that Joe Sixpack watches Fixed News and is easily bamboozled into believing the exact opposite of reality doesn't change reality. 

There's been a good deal of ink, most negative, over sovereign wealth funds.  If SS invested in, say, Brazilian oil fields, would you care?  Would Brazil?  It's not a simple problem.  From a real economics perspective, investing in real capital is more intelligent than investing in fiduciary instruments.  The rate of return on fiduciary instruments is arbitrary and not connected to real economic growth.  All those CDOs which caused the Great Recession depended on payments from folks who had no reasonable expectation of economic growth.  Real capital investment can, but isn't guaranteed to, be productive.

If SS had been invested in American car companies, would there have been any mewling from the Lunatic Right?  Likely not, since then it would just be a case of a motivated investor protecting his investment.

How could this privately invested SS deal with the Great Recession?  Those eligible to retire in the past 3 years would have gotten hammered, as did those who depended on 401(k)s.  Would the Feds make up the deficit?  Or would they just say, "tough luck"?  What do you think?  Remember, Bill Gates's investment income on his billions took some hit, but it had no material impact on his base income need.  His level of capital is not on the edge.  The same is certainly not true of those want to live off a 401(K).  Read this.

Third, is the dirty secret of SS.  Many in the Lunatic Right excoriate Baby Boomers as being, in their kinder remarks, self-absorbed and greedy and stupid.  What the Lunatic Right don't admit is the simple truth:  it was the Boomers who made possible the level of SS (and Medicare) enjoyed by their parents and grandparents.  Since SS is paid for on current account, the Boomers prime earning (and consuming) years dovetailed nicely with the retirement of their parents.  The problem is that Boomers didn't breed its own Baby Boom, although there has been recorded a bit of a Boomlet.  However, without a thriving middle-class, eviscerated by the Lunatic Right aided by white trash morons nation wide, the per capita cash flow to continue SS at the level of the Boomers' parents is scratchy.

Which brings us to the final question:  does it make sense to have annuity systems based on private investment for the purpose of country wide retirement?  The answer, it seems to me, is no.  Again, the basis for this conclusion is that return on investment, real return, is found in productivity improvement.  This also requires a demand side increase in consumption to absorb this burgeoning productivity.  Face it:  if you're the CEO of XYZ, Inc. the only reason to make real capital investment is the certainty that you can shift your increased production.  While you, as an individual CEO, may consider reducing production as a way to gain that increased productivity benefit, from a macroeconomic view the process fails.  Increasing productivity demands increasing consumption, which itself means dispersion of income away from capital to labor. 

Ok, you readers of the Lunatic Right can run off to the ER with palpitations.  Don't come back.

Retirement income, no matter how generated, is a generational transfer.  Labeling *only* SS (or any country's government program) a transfer mechanism is specious.  All retirement programs do this.  Since this is true (trust me on this), the lowest overhead cost lies with a SS type, current account, system.  The issue isn't some arbitrary interest rate compounded annually, determined either by government or market, rather it is increased productivity widely distributed.