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Notes -
What would privatizing Social Security look like?
”No one’s gonna take away your grandma’s pension.” - José Piñera, Minister of Labor and Social Security in Chile, right before he took away your grandma’s pension.
Privatizing Social Security has been a conservative pet issue for as long as I can remember, despite being politically unlikely and unpopular. Even Paul Ryan, who paid for his college tuition with SS survivor funds, still reminisced on halcyon days of planning with his Delta Tau Delta bros to privatize SS at keg parties. If it were possible, what would it even look like?
The Background
Social Security is a defined benefit, "pay-as you-go-system," funded by the $1 trillion Old-Age and Survivors Insurance and $142 billion Disability Insurance trust funds, paid via payroll taxes, plus a $63.78 billion Supplemental Security Income from the General fund.
Before FDR passed SS, senior citizens were the poorest demographic in America. Nowadays it’s one of the most popular programs and everyone wants to preserve it in some way.
Problem is, we’re going broke.
What if Ayn Rand was Acting Commissioner of the Social Security Administration?
It should be said that the freest of free market solutions here still imagines coercion of mandatory contributions. Still, the position advocates switching to a privately managed, defined-contribution system, which would get a higher returns by investing in the private market instead of government securities.
Because these are personal accounts, hopefully you fix the problem where an increasingly smaller working population pays for swelling retirees. In reality, those old obligations don't disapear:
Given that this transition would be pretty expensive and the main benefit is getting to invest in the private market, the counter is: why not just let the government invest in the private market? Such a case is made here.
More Consumer Choice?
A privatized system should give individuals more control over their investment decisions. It’s hard to weigh that benefit against the risk of dumb people ending up with less retirement savings than they get under the current system.
Would Management Costs be Lower?
Surprisingly hard to figure out! SS obviously has no marketing costs and boasts astoundingly low administrative costs of >1%. However, some admin work is outsourced, ie employers and the IRS collect the funding.
But hey, the government’s gonna keep doing all that stuff anyway; a privatized system would just have to duplicate them elsewhere, plus means testing, plus marketing costs.
Costs in proposed plans vary a lot:
But forget all these technical hypotheticals. The question we’re all wondering is,
what does this look like in practicewhat would a South American military dictatorship do?El Ladrillo
The largest scale example of a country privatizing its retirement system is under the Pinochet dictatorship in Chile. Initially their rollout was a big success with high returns. However, even Niall Ferguson, a prominent advocate for their system, notes many of the downsides I wondered about above:
That public pension was in fact created by a socialist government specifically to make up for extremely low coverage under the neoliberal system. I find it pretty damning that the most extreme example of a privatized retirement system ran into all the problems its critics said it would, and handled it in the same way every public system does - through backup government funding. If we’re going to end up doing a mixed market system anyway, it might behoove us to keep our publicly managed system but give them leeway to invest privately, rather than pay a ton to transition to a privatized system then pay more later to fix the holes that left:
A broader review of the other countries that followed suit seems similarly disapointing:
Less Radical Funding Solutions
Raise Payroll Taxes - “even a modest change, such as a gradual increase of 0.3 percentage points each for employees and employers (or less than $3 per week for an average earner), could close about one-fifth of the gap.”
Raise the payroll cap - The payroll tax is actually regressive, exempting incomes over $160,200. “The Congressional Budget Office estimates that subjecting earnings above $250,000 to the payroll tax in addition to those below the current taxable maximum would raise more than $1 trillion in revenues over a 10-year period”.
Widen the tax base - “In 1982, 90 percent of earnings were subject to the Social Security tax, but by 2017 the share had decreased to 84 percent.” “Including employer-sponsored health insurance premiums could close over one-third of Social Security’s solvency gap; including other fringe benefits could close one-tenth.”
Minor point of contention: "The payroll tax is actually regressive, exempting incomes over $160,200."
It's only regressive if you ignore actual retirement payouts. SS payouts scale with how much you put in, and stop scaling up at, you guessed it, $160,200.
Further, those with lower incomes get a much bigger share of their wages as a benefit thanks to the way bend points are used in the PIA calculation. Everyone's favorite fix (raising the cap on wages) means effectively creating one more bend point of 0% at the current social security income cap.
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Fair point. The regressivity is broader than just the cap, generally as you get poorer people pay a larger sharer of the income for payroll, but payouts should ofc be factored in too.
The progressivity is in the payout structure.
Let's take 3 people. Follow along if you iike there's a quick calculator here. For simplicity lets assume all 3 were born on Jan 1, 1980 will retire in January of 2050 and remain single their entire lives. We'll assume they earn the same amount after adjusting for inflation for the 35 years that are relevant for calculating social security benefits.
Alice and Bob's incomes were chosen at the bend points of the PIA calculation, incomes in between any of those three people's will be some mix of those.
Yes, social security taxes are flat, but the benefit is enormously progressive.
I'm afraid this math is not mathing.
You're right, I started writing with the full (employer and employee contribution) then split them and forgot to edit the percentage. She contributes 6.2% or $837 and her employer contributes another 6.2% on her behalf. The full contribution per year is 12.4% or $1,674.
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Yeah, US social security is a redistribution program stealthing as a forced savings program ("and that's a good thing," many progressives/leftists might add). As if a forced savings program isn't bad enough.
Given the strongly progressive nature of SS disbursements, financially literate high-earners are far worse off than an alternate universe where they just took their social security contributions and their employer matches to go home and invest on their own, even in something vanilla like short, intermediate, or long-term treasuries depending on duration appetite and the shape of the yield curve. The difference becomes even more drastic if one throws the option of investing in equities into the mix.
Unfortunately, while "financially-literate high earners" might be able to outperform on returns, I can't see a scenario where Alice, who likely isn't terribly financially literate or prone to long-term decisionmaking (admittedly, this is generalizing heavily about the lower class, but is probably right in aggregate) doesn't get convinced to invest either in high-risk, flashy strategies (NFTs, bro! Can't go tits up!) or outright frauds (Enron, etc).
If retirees ends up destitute from mismanagement of the funds they supposedly saved on their on behalf, it's easily a sympathetic case (and large voting block) that we'll end up bailing them out anyway. I think privatizing would really need a mechanism to prevent this sort of outcome. For better or worse I could point to how the SEC defines "accredited investor" to only allow rich folks to invest in certain poorly-regulated securities. Is Alice prevented from making those sweet returns? Yes. But if high-income Charlie loses his shirt the median voter is just going to laugh, not support a bailout. It's not a good definition, but it seems to work in that context.
If the only options are index funds covering the S&P 500, msci world ex us, Russell 2000, Lehman bond, and average cost of Treasury bonds it's really hard to lose your shirt.
The government is already admistering a plan with those options. Just make the default option a target date retirement plan based on birthday and 99.9% of people will have an extremely hard time screwing it up.
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The scaling also heavily favors low earners:
Social Security has great returns if you earn minimum wage your whole life, and terrible returns if you consistently cap out every year.
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