Political Drama: French Welfare State Showdown

I wrote last week about President Macron’s very modest effort to slow down the growth of the welfare state and started with a chart showing that France has the highest overall burden of government spending in the developed world.

The good news (relatively speaking) is that France is in third place, based on this chart from the OECD, when looking at the burden of government-provided retirement benefits.

To be sure, having the third-highest burden of retirement spending is hardly something to celebrate. And it is not exactly a big achievement to be slightly less worse than Greece and Italy.

This is why President Macron is pushing to increase the retirement age from 62 to 64.

But French voters and French lawmakers have an entitlement mentality and Macron’s initiative was faltering. So the government used executive authority to unilaterally impose the law.

Needless to say, this has triggered a lot of outrage. Here are some details from an article by Rich Noack in the Washington Post.

The French government used its executive powers Thursday to raise the retirement age to 64 and avoid a vote on an unpopular bill, outraging lawmakers who could retaliate with a no-confidence motion… Two-thirds of the French public have opposed the plans, and within minutes of Borne announcing the law’s adoption, demonstrators assembled near Parliament for their ninth day of mobilization, with some of them clashing with authorities. …Macron has been pushing for changes to the country’s pension system since he was elected in 2017… France has a lower minimum retirement age than many of its European neighbors… Germany, for instance, is preparing for an increase in the retirement age from 65 to 67, and lawmakers there have faced little public backlash. …Macron and his allies argue that the retirement age needs to reflect that increase if the country wants to preserve a welfare system that relies on a sufficiently large base of working-age contributors.

Here’s a chart from the article to show the excesses of the French system.

The Wall Street Journal opined this morning on the controversy.

The political difficulty of reforming pensions in Western democracies has been on display in France, with strikes and mass protests against Emmanuel Macron’s modest pension reform. …Give Mr. Macron credit for persistence—and political brass. …Thursday Prime Minister Elisabeth Borne invoked Article 49 of the French constitution, which enabled the Macron government to strong-arm a bill through the National Assembly without a vote. The National Assembly’s remaining recourse to block reform is to pass a motion of no confidence. That would block the legislation, oust Ms. Borne, and dissolve the government. …The opponents are on the populist left and right, including his presidential opponent in 2022, Marine Le Pen, who accused Mr. Macron of choosing “to govern with brutality” and called for Ms. Borne’s ouster. The cold reality is that France needs reform because its pay-as-you-go pension system is unsustainable. The retirement age is 62, one of the youngest in Europe, and Mr. Macron would stretch it only to 64 with some exceptions. The worker-to-retiree ratio has shrunk to 1.7 to 1 from 3 to 1 in 1970. French pensions already consume 14% of the economy.

The second-to-last sentence of the above excerpt deserves some emphasis.

Back in 1970, there were three workers (taxpayers) for every retiree. Now the ratio if 1.7 workers to every retiree, and that situation is going to get much worse over the next few decades (the same problem of demographic change exists in the United States).

So the real-world choice is reform or bankruptcy (especially since taxes already are maxed out).

P.S. Macron’s reform is better than the status quo, but it would be far better to shift to personal retirement accounts – which is something that has happened in dozens of nations.

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Biden and Trump Should Learn from Sweden’s Social Security Reform

Some American politicians, such as Joe Biden and Donald Trump, are very much opposed to dealing with Social Security, even though the current system has a massive $56 trillion cash-flow deficit.

For all intents and purposes, both the current president and his predecessor want to kick the can down the road, which surely is a recipe for massive future tax increases and may cause drastic changes to promised benefits.

Given their advanced ages, they probably won’t be around next decade when the you-know-what hits the fan.

But the rest of us will have to deal with a terrible situation thanks to their selfish approach.

Other nations are more fortunate, with leaders who put the national interest above personal political ambition.

Johan Norberg has a new column in the Wall Street Journal about how Swedish lawmakers adopted personal retirement accounts and undertook other reforms to strengthen their pension system.

President Biden refuses to consider any reforms, and so do many Republicans. But that won’t save the program; it’ll doom it. …Sweden faced the same problem in the early 1990s. The old pay-as-you-go pension system had promised too much. With fewer births and longer lives, projections showed the system would be insolvent a decade later. …Its politicians chose not to deceive the voters. …In 1994 the Social Democrats agreed with the four center-right parties to create an entirely new system based on the principle that pensions should correspond to what the beneficiary pays into the system—a system in which the contribution, not the benefits, is defined. …Sweden introduced partial privatization of the kind the American left derides as a Republican plot… The Swedish government withholds roughly 2.3% of wages and puts it into individual pension accounts. Workers are allowed to choose up to five different funds in which to invest this money…the average Swede has made an impressive average return of roughly 10% a year since its inception in 1995, despite the dot-com crash, the financial crisis and the pandemic. …Sweden’s pension system was recently described as the world’s best by the insurance group Allianz, based on a combination of sustainability and adequacy.

Back in 2018, I wrote about Sweden’s pension reforms, and I cited a study I co-authored back in 2000 for the Heritage Foundation.

Readers who want to learn more about the details of the Swedish system should read those publications.

For purposes of today’s column, though, let’s zoom out and see how Sweden’s system compares to other nations.

We’ll start by looking at a report by Mercer and the Chartered Financial Analyst Institute, which compared retirement systems in 43 developed countries. You can click here to view the full report and full rankings, but let’s focus on the United States and Sweden.

As you can see, Sweden beats America in every category, including a giant lead for integrity.

It’s also worth noting that Sweden is above average in every category while the United States is below average in two of the three categories.

Based on the Mercer/CFA report, we know Sweden’s system is good for workers.

But what about taxpayers?

Here’s a table showing the fiscal burden of old-age programs in European nations, taken from a report by the International Monetary Fund.

As you can see for both the present and the future, Swedish taxpayers face one of the lowest burdens, with old-age spending consuming significantly less than 10 percent of economic output.

I’ll close with a couple of very important observations about the international data.

• Sweden is not the top nation in the Mercer/CFA report. It trails Australia, Denmark, Iceland, Israel, Netherlands, and Norway – all of which have systems that are fully or partly based on mandatory private savings.
• Sweden does have the lowest spending burden in the IMF. The Baltic nations all do better – and all of those countries have systems that are partly based on mandatory private savings.

It’s almost as if there’s a lesson to be learned, even if Biden and Trump want to bury their heads in the sand.

P.S. Here’s my short video making the case for personal retirement accounts.

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The Adverse Economic Consequences of Busting Social Security’s Wage Base Cap

Today we are going to look at proposals to expand the burden of Social Security payroll taxes, and let’s start by recycling this 2008 video.

All of the analysis in the video is still accurate, but two of the numbers need to be updated.

• Social Security’s long-run deficit is now $56 trillion rather than $24.9 trillion as was the case back in 2008.
• Social Security payroll taxes now apply to income up to $162K rather than $102K as was the case back in 2008.

If you don’t have time to watch a 9-minute video, I can summarize the issue by noting that Social Security was designed as an “earned benefit,” which means workers contribute to the system in exchange for future benefits. The more you earn, the more you pay, and the more benefits you receive.

But because Social Security is supposed to be akin to an insurance program, there’s a limit on both the amount of benefits any retiree can receive and the amount of taxes that any worker must pay (the same principle applies in many other nations).

Some politicians want to get rid of the limit (the “wage base cap”) on the amount of taxes workers must pay. Instead of applying the 12.4 percent Social Security payroll tax on the first $162,000 of income, they want to impose the tax on all income.

In some cases, they want this big increase in marginal tax rates in order to prop up the Social Security system while in other cases they actually want to expand the program.

In either case, the economic consequences would be very bad.

In today’s Wall Street Journal, Travis Nix explains why this would be counterproductive.

…lawmakers in both parties are mulling the idea of lifting the payroll tax cap. The resulting increase in revenue would do little more than delay the inevitable by extending the program’s life a few more years. …European countries cap payroll taxes at much lower incomes than the U.S. does. Germany caps payroll taxes for health insurance at about $62,000 and the Netherlands caps theirs for social security at $40,370. Uncapping the payroll tax in the U.S. would only widen the disparity and make America a less attractive country in which to work and invest. …Uncapping the payroll tax would raise the top tax rate on Americans’ labor income—income and employee payroll tax combined—to as high as 43.2%. This excludes state taxes and the employer payroll tax, which make the rate even higher. The U.S. hasn’t seen labor tax rates that high since before Ronald Reagan. …European countries that cap their payroll taxes at relatively low incomes understand that you can’t fund a social-safety net without providing an incentive to work. The U.S. should too.

Let’s also look at what Mark Warshawsky of the American Enterprise Institute wrote last year.

…imposing a massive tax increase — 12.4 percentage points — on the earnings of about 10 million highly productive, mostly middle-class workers earning more than $160,200 would have several notable consequences. It would reduce their support for the program, severely discourage their labor market participation, and encourage payroll tax avoidance through converting earnings to incentive stock options and other forms of employee stock ownership. …In many instances, these workers would have their wages taxed at federal, state and local levels at rates exceeding 70 percent. …almost 20 percent of current and future covered workers are projected to earn above the taxable maximum in any one year.

And here is some of Allison Schrager’s analysis from 2020.

When it comes to financing the future of Social Security, many Democrats have a simple and wrong solution: lift the cap on earnings subject to the payroll tax. …there are costs to these plans. A 12.4% marginal tax increase is significant. If the cap is eliminated, an individual who makes $250,000 a year would see their Social Security tax liability increase by 88%. …many households—especially those in states with high state taxes—will be paying more than 60% in federal, state, and local income and payroll taxes… only 6% of the population earns more than the cap. But income varies over people’s lives: 36% of Americans will be in the top 5% of earners at least one year of their career.

I’ll close by observing that it we’ve had big fights under Bush, Obama, Trump, and Biden about whether the top personal income tax rate should go up by about 3 percentage points or down by 3 percentage points.

Since keeping marginal tax rates low helps encourage productive behavior, those were important fights.

Now we face a fight that should be far more important since some politicians want to raise the marginal tax rate by 12.4 percentage points.

It is true that Social Security is in deep financial trouble, but propping up (or expanding) the current system would be bad news for the economy and it would produce a bleaker future for young people.

It would be far better to begin a transition to personal retirement accounts.

P.S. Chile and Australia have created personal retirement accounts. You can also learn about reforms in Switzerland, Hong Kong, Netherlands, the Faroe Islands, Denmark, Israel, and Sweden.

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Donald Trump Supports Massive Tax Increases on Middle-Class Americans, Part I

Copying some self-styled national conservatives, Donald Trump this week endorsed major tax increases on lower-income and middle-class Americans.

But he embraced huge tax increases in an indirect fashion.

• He did not say “let’s adopt money-siphoning value-added taxes” like they have in Europe.
• Nor did he say “let’s impose very high income tax rates on ordinary people” like they do in Europe.
• And he didn’t say “let’s have much higher payroll tax rates” like they have in Europe.

Instead, Trump embraced huge tax increases by default. He told congressional Republicans to ignore America’s slow-motion crisis of entitlement spending.

For all intents and purposes, that is the same as embracing huge tax increases.

To be more specific, if you endorse European-style government spending, you are necessarily and unavoidably endorsing European-style tax policy.

And that’s what Trump did. Here are some excerpts from a report in the Hill by Brett Samuels.

Former President Trump on Friday urged Republicans in Congress not to cut “a single penny” from Medicare or Social Security… “Under no circumstances should Republicans vote to cut a single penny from Medicare or Social Security…,” Trump said in a recorded video statement posted to Truth Social. …The former president’s message about protecting Social Security and Medicare is consistent with his previous comments on the issue as a candidate in 2016.

For what it’s worth, I’m not surprised at what Trump said.

He favored big government as a candidate in 2016 and he expanded the burden of spending when he was President.

But some of us don’t want to surrender and doom the United States to European-style economic stagnation.

Which is why I’ve decided to take a sentence I wrote last month and turn it into the 15th Theorem of Government.

Here’s the bottom line: Genuine patriots recognize America has a problem and they have the courage to advocate reforms that will actually solve the problem.

It will be interesting to see how many Republicans fit that definition.

P.S. I’m not a never-Trumper or anti-Trumper. For instance, I praised his tax policy and said nice things about his record on regulation. But I’m loyal to ideas, not to people, so I don’t hesitate to criticize any politician who pushes ideas that are bad for America.

P.P.S. Here are the other 14 Theorems of Government.

• The “First Theorem” explains how Washington really operates.
• The “Second Theorem” explains why it is so important to block the creation of new programs.
• The “Third Theorem” explains why centralized programs inevitably waste money.
• The “Fourth Theorem” explains that good policy can be good politics.
• The “Fifth Theorem” explains how good ideas on paper become bad ideas in reality.
• The “Sixth Theorem” explains an under-appreciated benefit of a flat tax.
• The “Seventh Theorem” explains how bigger governments are less competent.
• The “Eighth Theorem” explains the motives of those who focus on inequality.
• The “Ninth Theorem” explains how politics often trumps principles.
• The “Tenth Theorem” explains how politicians manufacture/exploit crises.
• The “Eleventh Theorem” explains why big business is often anti-free market.
• The “Twelfth Theorem” explains you can’t have European-sized government without pillaging the middle class.
• The “Thirteenth Theorem” explains that people are unwilling to pay for bloated government.
• The “Fourteenth Theorem” explains how poor people are hurt by big government.

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Macron’s Pension Reform Is Necessary (but Inadequate)

It is an understatement to declare that fiscal policy in France is terrible.

• The highest burden of government spending in Europe.
• The third-highest level of pension spending in the OECD.
• One of the biggest long-run fiscal gaps in OECD countries.
• The fourth-highest tax burden on workers in the OECD.
• The sixth-highest top tax rate among developed nations.

In recent years, France has had terrible presidents such as Nicolas Sarkozy and Francois Hollande.

But when Emmanuel Macron took over, I wondered whether he might push the nation in the right direction.

And he has pushed a few good ideas. But his achievements have been so meager that I was only half-joking when I wrote last year that his reelection meant that a socialist beat a socialist.

But maybe I’ll have to apologize for that column because Macron is pushing reforms to the country’s pay-as-you-go pension system.

In a column for CNN, David Andelman summarizes the plan and explains the motives.

…the French government announced plans to raise the official retirement age from 62 to 64 to qualify for a full pension. …The French budget risks floundering on pensions that are siphoning off nearly 14% of the nation’s GDP each year – roughly twice the drain than in the United Sates and behind only Italy and Greece in Europe. …Currently, all men and women in France can retire with full pensions at 62 – tied with Sweden and Norway for the lowest retirement age in western Europe. …there are special exemptions dating back to the time of Louis XIV. After performing on the stage for 10 years, actors of the Comédie Française…are entitled to claim a lifetime pension. This dates to the company’s creation in 1680. Dancers in the Paris Opera can retire with full pension at the age of 42, a custom that dates to 1689… Stagehands at both companies can still take their retirement at 57. Then there are train conductors who can bow out at age 52. …In all, there are at least 42 different pension schemes… “The French can count on our determination to block this unfair reform,” said Marine Le Pen, leader of the far-right National Rally party, who Macron defeated in the presidential elections last April. At the other end of the spectrum, Mathilde Panot, from the far-left France Insoumise (France Unbowed) party tweeted that the plan was “archaic, unfair, brutal, cruel.”

Meanwhile, the Wall Street Journal opined last week in favor of Macron’s reform.

France currently has 42 different government-funded pension programs, which vary in retirement age and payout. Mr. Macron wants to wind down some of these programs and transition more French workers to a general pension scheme. That would make it easier for workers to change jobs, and it would also be a step toward a fairer pension system. This job mobility point is crucial and would benefit most workers and employers. …the French system scored a D grade, or 40.9 out of a possible 100, on financial sustainability on the Global Pension Index 2022, created by the consulting firm Mercer… The French system is a pay-as-you-go model in which current workers fund retiree pensions. Yet today there are only 1.7 workers for each retiree, compared to 3-to-1 in 1970 and headed to 1.4-to-1 by 2050. …Nothing short of French economic vitality is at stake. Mr. Macron twice won the Presidency with a vision of a more energetic, entrepreneurial France with more opportunity for young people. A more rational pension system is an essential part of the project.

The WSJ editorial is correct. Macron’s reform would give France a “more rational pension system.”

But it would not give the country a good pension system.

Macron is basically asking workers to pay more and get less. And it is true that his plan will prop up the government’s tax-and-transfer, pay-as-you-go scheme.

But that’s like patching the roof of a rotten house.

What France really needs is genuine reform so that younger workers can shift to a system of private savings. Which is something that already exists to varying degrees in other European nations such as Switzerland, Sweden, Denmark, and the Netherlands.

But don’t hold your breath waiting for that to happen.

P.S. Back in 2010, France went through political turmoil to raise the retirement age from 60 to 62.

P.P.S. Sadly, most of the flaws of France’s government retirement system are the same as the ones that exist in the United States.

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America’s Looming Entitlement Crisis

Back in July, I made the case for the right kind of entitlement reform in a discussion with the folks at Live and Let Live.

Today, I want to underscore why it is important to focus on “the right kind” of reform.

On paper, you can save money with “means testing” of benefits, but that creates an indirect penalty on work, saving, and investment.

You can also, on paper, save money by imposing price controls on health care, but that policy has a long track record of failure.

At the risk of understatement, either of those approaches represents “the wrong kind” of entitlement reform. Indeed, those policies are not really reform. Instead, they are tinkering with systems that are fundamentally broken.

For what it is worth, most politicians do not support good reform or bad reform.

As predicted by “public choice,” their preferred approach is kicking the can down the road.

Which is what Greek politicians did for many years.

But they learned in Greece that ignoring a problem does not make it disappear. Instead, it is a recipe for fiscal crisis (and we will probably have to re-learn that lesson in Italy).

So my other goal today is to show why something needs to be done.

We’ll start with a look at Medicare from Brian Riedl’s chartbook.

That’s a very sobering image, so now I’ll share some very sobering words.

James Capretta of the American Enterprise Institute summarizes America’s grim fiscal future.

In 2001, the Treasury estimated the government’s net unfunded liabilities, in present value terms, at $6.5 trillion, or 61 percent of GDP, with federal debt accounting for $3.3 trillion of the measured obligations. …By 2021, the government’s net position had deteriorated to minus $29.9 trillion, or 128 percent of GDP, with federal debt accounting for $22.3 trillion of the liabilities. The government’s unfunded commitments beyond public debt had grown by $2.9 trillion over ten years. …The financial hole is actually deeper than these numbers reveal because they exclude the dramatic effects of Social Security and Medicare. …with Social Security and Medicare included in the assessment, the federal government’s unfunded liabilities in 2021 are $93.1 trillion, or nearly 400 percent of annual GDP. That compares with $11.1 trillion as calculated in the 2001 Treasury report, which was 105 percent of GDP. …The problem posed by unfunded public liabilities is a relatively new one in U.S. history. It has only been over the past half century that the combination of an aging population and the modern entitlement system has pushed the federal government toward a financial crisis.

Having shared all this depressing data, I’ll now close with a couple of observations.

• First, doing nothing almost surely guarantees massive future tax increases. Including European-style levies like a value-added tax that will be very bad news for lower- income and middle-class taxpayers.
• Second, “funded liabilities” are hardly an improvement over “unfunded liabilities” since that simply means debt-financed spending becomes tax-financed spending. From the frying pan to the fire, or vice-versa.

As I said in the above video, we need the right kind of entitlement reform so that we save money and have better policy for old people and poor people.

P.S. Entitlements are a ubiquitous problem in developed nations.

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The Case for Entitlement Reform

If Joe Biden’s bungled economic policy is any indication, the GOP may wind up controlling Washington in the not-too-distant future.

If so, I hope Republicans rekindle their interest in the kind of genuine entitlement reform discussed in this interview.

But I’m not sure whether to be optimistic or pessimistic.

On the plus side, the GOP supported pro-growth entitlement reform during the Obama years.

On the minus side, the party largely punted on the issue once Trump took over.

To be sure, punting is the easy route from a “public choice” perspective. Politicians like offering freebies to voters and many voters like getting handouts.

However, that approach means America’s economy is weakened by an ever-growing burden of federal spending and eventually is plunged into fiscal crisis.

And that’s based on the programs that already exist. Joe Biden wants to expand the welfare state with even more entitlements!

The Wall Street Journal editorialized about the downside of making America more like Europe last October.

The result of…expanded entitlements is likely to be reduced incentives to work and invest, slower economic growth, lower living standards, and less fiscal space for essential public goods like national defense. That’s the lesson from Europe’s cradle-to-grave welfare states… Europe’s little-discussed secret is that its cradle-to-grave welfare states are financed by the middle class via value-added and payroll taxes. The combined employer-employee social security tax rate is 36% in Spain, 40% in Italy and 65% in France. Value-added taxes in most European economies are around 20%. There simply aren’t enough rich to finance their entitlements.

Amen. I’ve repeatedly warned that a European-sized welfare state would mean European-sized taxes on lower-income and middle-class Americans.

And what’s remarkable (and discouraging) is that some politicians in the U.S. want to expand entitlements even though many European governments now realize they made big mistakes and need to scale back.

The irony is that some European governments have tried to reform their tax and welfare systems to become more competitive. Germany and Sweden over two decades reformed their welfare and labor policies. …Other European governments are also pushing welfare-state reforms. French President Emmanuel Macron has passed pension reform and cut the corporate tax rate to 26.5% from 33% in 2017… Greece is pulling out of its debt trap with Prime Minister Kyriakos Mitsotakis’s tax, pension and regulatory reforms.

For what it’s worth, I’m happy about these reforms, but I fear many European nations are in the too-little-too-late category.

Why? Because the demographic outlook is deteriorating faster than reform is happening. In other words, most of them are probably destined to suffer Greek-style fiscal crises.

But if (or when) that happens, maybe American politicians will finally wake up and realize we need good reforms to prevent Social Security, Medicare, and Medicaid from causing a similar collapse on this side of the Atlantic Ocean..

Hopefully that epiphany will take place before it is too late for the United States.

P.S. For those who are interested in the history of fiscal policy, John Cogan of the Hoover Institution wrote about pre-20th-century entitlements earlier this year.

Here are excerpts from his column in the Wall Street Journal.

The history of U.S. entitlements is a 230-year record of continuous expansion… The first major entitlement, Revolutionary War disability benefits, was initially restricted to members of the Continental Army and Navy who were injured in battle and survivors of those killed in wartime. Eligibility was then expanded, first to state militia soldiers, then to veterans whose disabilities were unrelated to wartime service, and eventually to virtually all people who served during the war regardless of disability. Civil War disability pensions followed the same…process, except on a far grander scale. Pensions were initially confined to U.S servicemen who suffered wartime injuries and survivors of those killed in battle. Eventually they were extended to virtually all union Civil War veterans regardless of disability. …Congress followed the same liberalizing process with 20th-century entitlements.

If this excerpt doesn’t satisfy your curiosity, here’s Cogan discussing the topic for 46 minutes.

P.P.S. Not all entitlement reform is created equal.

P.P.P.S. Here an informative chart if you want to know whether to blame defense spending or entitlement spending.

P.P.P.P.S. I always argue in favor of a Swiss-style spending cap, which presumably would force politicians to address America’s entitlement problem.

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Social Security’s Ever-Closer Fiscal Crisis

As part of my recent appearance on The Square Circle (we discussed Uvalde police, gun control, and Ukraine), I said that the new Social Security numbers were the under-reported story of the week.

For more details, I was referring to the latest Trustees Report, published yesterday by the Social Security Administration.

Most people, when that annual report is released, focus on when the Social Security Trust Fund runs out of money. But since the Trust Fund only contains IOUs, I view that as a largely irrelevant number.

Instead, I immediately look at Table VI.G9, which shows how much revenue is being collected and how much money is being spent every year.

Here is that data displayed in a chart. The left side shows actual fiscal numbers from 1970 to 2021 while the right side shows the projections between 2022 and 2100.

As you can see in the chart, revenues going into the system (the blue line) are growing rapidly.

But you also can see that Social Security spending (the orange line) is expanding even faster.

And when spending grows faster than revenue, one consequences is more red ink.

This next chart shows that annual deficits between now and 2100 will total $56 trillion.

At the risk of understatement, these two charts should be very sobering. Especially since they only show the taxes, spending, and red ink for Social Security.

If we also add the fiscal aggregates for other entitlement programs, it would be abundantly clear why we face a “crisis” and a “train wreck.”

So how do we solve this mess. I’ve written about the needed reforms for Medicare and Medicaid, so let’s focus today on Social Security.

The ideal approach is to take the current pay-as-you-go entitlement and turn it into a system of personal retirement accounts.

Many nations around the world have adopted this approach, most notably Chile and Australia.

But as I noted two years ago, there will be a big “transition” challenge if the United States decides to modernize.

P.S. I mentioned “public choice” at the end of that clip. You can click here to learn more about the economic analysis of political choices.

P.P.S. I mentioned that Chile and Australia have created personal retirement accounts. You can also learn about reforms in Switzerland, Hong Kong, Netherlands, the Faroe Islands, Denmark, Israel, and Sweden.

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China’s Far-Too-Little Pension Reform

In the make-believe country of Libertaria, there is no such thing as Social Security or any other type of government-mandated retirement policy.

In the real world, however, most nations have created “pay-as-you-go” retirement schemes based on taxing young workers to give benefits to old retirees.

That’s the bad news.

The good news is that a growing number of nations have created personal retirement accounts based on private savings. These “funded” systems are designed to replace and/or augment the government programs.

People who study these issues often refer to “three pillars” that represent the various potential sources of retirement income.

1. Payments from mandatory government tax-and-transfer programs like Social Security in the United States (Pillar One).
2. Payments from mandated private retirement accounts, such as those in places such as Australia and Chile (Pillar Two).
3. Payments from voluntary private savings, such as the funds put in IRAs or 401(K)s in the United States (Pillar Three).

In our libertarian fantasy world, everyone would use option #3 and there would not be options #1 and #2.

In a libertarian-ish world, everyone would use option #2 with option #1 only as an emergency back-up.

A few days ago, I saw a headline that got me excited. I thought China was joining the libertarian-ish world by shifting from a pay-as-you-go government system to mandatory private savings (going from option #1 to option #2). Here are some excerpts from a Nasdaq report.

The China Security Regulatory Commission (CSRC) announced the launch of the first private pension plan due to anticipated economic challenges with an aging population. …the CSRC said that pension money “can provide more long-term, and stable funds to develop the real economy, via capital markets.” …This program was created to add additional resources for China’s aging population. In 20 years, 28% of China’s population will be more than 60 years old, up from 10% today, according to the World Health Organization.

But as I read more details, I learned that China was keeping its government system and simply adding an option #3.

Public pensions are currently in place in China; both employees and employers have contributed fixed amounts under state pension plans. …Private pensions are seen as an additional program to state pension plans. Employees can contribute up to 12,000 yuan ($1,860) per year. Contributions will be eligible for tax breaks.

Since people already had the ability to save money, this is hardly an earth-shaking development.

To be sure, it seems like Chinese workers will not have their saving subject to any double taxation if they use these new pension vehicles, so I suppose that deserves some applause.

But it would be much more exciting and praiseworthy if the Chinese government (which has been backsliding in recent years) had proposed some something far bolder.

P.S. To understand why I’m not optimistic about China, here’s my summary of the nation’s post-World War II economic history.

P.P.S. And if China takes advice from either the IMF or OECD, I’ll be even less optimistic.

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Chile Election Week, Part III: Death Knell for the Private Pension System?

One reason I’m interested in Chile’s election is that the leftist candidate, Gabriel Boric, wants to eviscerate the nation’s successful private pension system.

Bettina Horst of Libertad Y Desarrollo gave me her analysis.

As an economist and Executive Director of the nation’s pro-market think tank, Ms. Horst understands that Chile’s system has helped workers by giving them real ownership of real assets.

And that’s much better than “pay-as-you-go” systems, like we have in the United States.

Chile’s private retirement accounts have enabled workers to build nest eggs, and the system has also provided a valuable source of capital for the nation’s economy.

So why would Chile’s voters consider a candidate like Boric, who wants to wreck that system?

We’ll find out Sunday night after the votes are counted, but a Boric victory would indicate that Chile’s workers decided to trust the free-lunch promises of a politician.

In a column earlier this year for the Wall Street Journal, another Chilean weighed in on this issue.

Axel Kaiser of the Atlas Research Network wrote that the left has a (long-standing) ideological agenda.

In 1981 Chile became the first country to privatize social security, ending the pay-as-you-go system that had been in place since 1924 and had collapsed. Now Chile’s left wants to resurrect it. …Last year a group of senators even introduced a bill to nationalize the pension funds, as Argentina did in 2008. An expropriation of workers’ savings looks increasingly likely, as the radical left dominates Chile’s recently elected constitutional convention. “The destruction of the AFP system is under way,” a far-left lawmaker recently said. …The attack on the AFP system is all about ideology and power. …Its destruction has long been a goal of the radical left. With the AFP out of the picture, politicians will recover the power they once had over retirees.

That’s Mr. Kaiser’s political analysis.

His column also includes some analysis of the economic benefits of the private system.

The state-run pension system was plagued by corruption and rent-seeking… Pension privatization reversed this perverse dynamic. Instead of taxing active workers to pay pensioners through the bureaucracy, the new system, created by former Labor Minister José Piñera, established that 10% of the employee’s salary is transferred automatically to an account under his name at one of the Administradoras de Fondos de Pensiones, or AFP. These private pension funds compete to attract workers and invest their pensions for a fee. …By subsequently relying on workers’ own savings to fund their pensions instead of taxing younger workers, privatization of social security ended dependency across generations. …Average pensions are also 41% higher in the AFP system than in the old one, according to the Libertad y Desarrollo research center, even as workers contribute a smaller fraction of their salaries. Between 1981 and 2019, the savings accumulated in workers’ accounts at the AFP reached $218 billion, or around three-quarters of GDP. About 70% of these funds weren’t contributions made by workers but profits generated for them by AFP investments. This accumulation of capital contributed an extra 0.5% of GDP a year to economic growth between 1981 and 2001.

As mentioned in the column, Jose Pinera created Chile’s system of personal retirement accounts.

You can click here to see him describing the case for private accounts, both in Chile and the United States.

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The Real (and Growing) Problem with Social Security

In an ideal world, Americans would have personal retirement accounts, just like workers in Australia, Sweden, Chile, Hong Kong, Israel, Switzerland, and a few dozen other nations.

But we’re not in that ideal world. We are forced to participate in a Ponzi Scheme known as Social Security.

By the way, that’s not necessarily a disparaging description. A Ponzi Scheme can work if there are always enough new people in the system to pay off the old people.

But because of demographic changes (increasing lifespans and decreasing birthrates), that’s not what we have in the United States.

And this is why Social Security faces serious long-run problems.

How serious? The Social Security Administration finally released the annual Trustees Report. This document has a wealth of data on the program’s financial condition, and Table VI.G9 is where the rubber meets the road.

As you can see from this chart, there will be an ever-increasing burden of Social Security taxes and spending over the next 75 years. And these numbers are adjusted for inflation!

The good news (relatively speaking) is that the economy also will be growing over the next 75 years, both in nominal terms and inflation-adjusted terms.

The bad news is that spending on Social Security will grow at a faster rate, so the program will consume a larger share of the economy’s output.

And because Social Security spending is growing faster than the economy (and also faster than tax revenue), this next chart shows there is going to be more and more red ink in the future. Once again, you’re looking at inflation-adjusted data.

As indicated by the chart’s title, the cumulative shortfall over the next 75 years is nearly $48 trillion. That’s a lot of money, even by Washington standards.

And with each passing year, the problem seems to worsen. The 75-year shortfall was $44.7 trillion according to the 2020 report and $42.1 trillion according to the 2019 report.

I’ll conclude by observing that today’s column focuses on the big-picture fiscal problems with Social Security.

But let’s not forget the program’s second crisis, which is the fact that Americans are deprived of the ability to enjoy much higher levels of retirement income.

Certain groups are particularly harmed by this aspect of the current program, including minorities, women, older workers, and low-income workers.

P.S. Our friends on the left argue that the program’s fiscal problems (the first crisis) can be solved with tax increases. Perhaps that is true, but it will mean a weaker economy and it will exacerbate the second crisis by forcing workers to pay more to get less.

P.P.S. I once made a $16 trillion dollar mistake on national TV when discussing Social Security’s shaky finances.

P.P.P.S. Much of the news coverage about the Trustees Report has focused on the year the Social Security Trust Fund supposedly runs out of money. But this is sloppy journalism since the Trust Fund has nothing but IOUs (as illustrated by this joke).

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Social Security’s Inevitable Decline

It’s understandable that we’re now paying a lot of attention to Joe Biden’s risky proposals for higher taxes and a bigger welfare state.

After all, it’s a very bad idea to copy the economic policies of nations such as Italy, France, and Greece (unless, of course, you want much lower living standards).

But let’s not forget that that the United States also has some big economic challenges that existed before President Biden ever took office.

Most notably the entitlement programs.

Medicaid and Medicare are the biggest problems, but let’s focus today on Social Security.

Richard Rahn has a column in the Washington Times that summarizes the program’s grim outlook. Here are some excerpts.

Politicians love to talk about the Social Security “trust fund” and assure us that it will not be raided.  But the unfortunate fact is the “trust fund” is an accounting fiction without any real assets. In actuality, Social Security is a giant Ponzi scheme operated by the government. Benefits that are paid to existing retirees come from the current taxes from those working today and borrowing. …But now, Americans have fewer children, and life expectancies are growing rapidly. …There is no easy way out.  Future Social Security benefits will be cut (probably by not fully indexing for inflation), and/or taxes will be greatly and continuously increased until the system collapses.

The fact that Social Security is a Ponzi scheme isn’t necessarily fatal. After all, the government has the ability to coerce new workers into the system.

The problem is that there are fewer and fewer of those new workers to support the growing number of people getting benefits.

Here are the numbers from Richard’s column. As the old saying goes, read ’em and weep.

Richard ends his column by fretting that the United States is on a dangerous path.

The world has seen this play before.  In 1906, Argentina on a per-capita income basis was one of the richest countries in the world, rivaling the United States.  It has bountiful agricultural and mineral resources and had a relatively well-educated population of mainly European origin.  But after a century of fascist/socialist/welfare-state governments, it is now a poor country.  Venezuela went from a rich country with civil liberties to a poor oppressed country in only two decades.  As Margaret Thatcher famously said, “the problem with socialism is that eventually, you run out of other peoples’ money.”  The Greeks built a nice welfare state, largely using German taxpayers’ money – the Euro – until the Germans said, “no more.”  As a result, the Greeks have seen a drop in real incomes of more than 30 percent in seven or so years.

The good news is that our economic policy won’t be nearly as bad as Argentina and Venezuela, even if some of Biden’s crazy ideas – such a massive per-child handouts – are enacted.

The bad news is that we could become a lot more like Greece.

And that’s where Margaret Thatcher’s famous warning could become an American reality.

There is a solution to this problem, by the way. It’s been implemented in a couple of dozen nations around the world.

Sadly, American politicians are more interested in making the problem worse (with predictable consequences).

P.S. Here are a couple of humorous items about Social Security.

The first one actually understates how bad the trade is because workers actually pay 12.4 percent of their income into the program (the so-called employer share simply means lower pre-tax pay).

And the second item points out that Bernie Madoff was an amateur.

P.P.S. If you want more jokes and cartoons about Social Security, click here. There are other Social Security cartoons here, here, and here. And a Social Security joke if you appreciate grim humor.

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The Looming Crisis of Demographic Decline and Entitlement Expansion

There are many compelling economic arguments against entitlement programs.

• They discourage savings.
• They discourage work.
• They are funded with taxes.
• They are funded with debt.

Since I’m a libertarian, I also have moral concerns about tax-and-transfer programs.

Today, though, let’s address the big problem of entitlements and demographics, especially with regards to social insurance programs that transfer money from young people to old people (most notably Social Security and Medicare).

But I’ll start by acknowledging that demographics doesn’t have to be a problem. When nations first created such programs, they generally had “population pyramids” featuring a few old people, lots of working-age people (i.e., taxpayers), and then an even greater number of children (future workers and taxpayers).

As illustrated by this image, entitlement programs can be sustainable with that type of demographic profile.

But there’s been a big shift in demographics in developed nations.

Simply stated, we’re living longer and having fewer kids. In some sense, population pyramids are becoming population cylinders.

And this creates major challenges for entitlement programs because instead of there being many workers supporting just a few retirees, you wind up with “old-age dependency ratios” that require very onerous tax burdens (or very high levels of government borrowing).

I’ve already written how this is a big problem for the United States.

Indeed, I periodically cite long-run forecasts from the Congressional Budget Office to warn about the worrisome fiscal implications.

And I’ve also noted that Japan is in serious trouble.

Today, let’s look at some recent data to show that Europe is another part of the world where this problem is acute.

The European Commission published its 2021 Ageing Report late last year and there are three visuals that deserve attention.

First, here’s a look at the European Union’s population cylinder (or maybe an upside-down pyramid).

And here’s a table that compares the number of old people with the working-age population in 2019, 2045, and 2070.

At the bottom of the table, I’ve circled in red the averages for the eurozone (nations using the single currency) and the entire European Union. From the perspective of fiscal policy, these are horrific numbers.

But there are numbers that are even worse.

Our final visual is a table showing the economic dependency ratio, which the European Commission defines as “… the ratio between the total inactive population and employment. It gives a measure of the average number of individuals that each employed person ‘supports’ economically.”

Once again, I’ve circled the averages at the bottom of the table.

The bottom line is that most European nations already have a stifling fiscal burden, yet it’s all but certain that there will be even higher taxes and more government spending in the near future.

Which means more economic stagnation for Europe (and those of us in America face that possibility as well).

At the risk of stating the obvious, there is a solution to both Europe’s woes and America’s woes. Simply stated, there needs to be genuine entitlement reform.

That means “pre-funding,” which is the jargon for mandatory private savings, presumably augmented by some form of safety net.

Singapore is probably the world’s leading example for mandatory savings, while Australia, Denmark, Chile, Switzerland, Hong Kong, Netherlands, Faroe Islands, and Sweden are a few of the many other jurisdictions that have fully or partially shifted to systems based on real savings.

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The Destabilizing Mix of Demography and Entitlements, Part I

I’ve written many times about demographic change and the implications for public policy – both in the United States and around the world.

Simply stated, it will be increasingly difficult to maintain tax-and-transfer entitlement programs in societies where people are having fewer children and people are living longer.

I’m raising this issue because I spoke on this topic earlier today at an e-symposium organized by Trends Research in Abu Dhabi, UAE. Here’s a slide with my main message.

Why is it bad news from an economic perspective?

As I noted in the next slide, tax-and-transfer entitlement programs for the elderly (most notably Social Security and Medicare in the United States) become harder to finance when there are lots of beneficiaries and too few taxpayers to support them.

So what’s going to happen in various nations when the irresistible force of more beneficiaries meets the immovable object of fewer taxpayers?

In my presentation, I pointed out that there are only three potential solutions.

• More taxes – A policy that Barack Obama, Hillary Clinton, and Joe Biden explicitly have embraced.
• More debt – A policy that politicians such as Donald Trump have implicitly embraced.
• Entitlement reform – A policy that some Republicans supported in the pre-Trump era.

I explained that higher tax burdens and higher debt levels would not be economically prudent.

The right approach is genuine entitlement reform, but I freely admitted that this “pre-funding” model probably won’t happen.

Here’s the relevant slide.

By the way, Singapore is the role model for pre-funding, but many other nations have adopted that approach for retirement income (such as Israel, Denmark, Switzerland, Hong Kong, Netherlands, Faroe Islands, and Sweden).

Unfortunately, most nations are heading for a demographic iceberg (including the U.S.) but I fear few of them will enact the reforms that are needed to avert a bad outcome.

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Israel’s Shift to Private Social Security

What’s the best economic news of the past 40 years?

• Was it Reaganomics, which restored America’s economic vitality?
• Was it the collapse of the Soviet Empire, which freed many nations from communist tyranny and allowed at least some of them to successfully shift to markets?
• Was it partial economic liberalization in China, which lifted hundreds of millions of people out of severe poverty?

Those are all good choices, but let’s not overlook Israel.

This chart from Economic Freedom of the World shows that economic freedom dramatically expanded in that nation between 1980 and 2000 (and has since gradually risen).

Israel’s shift away from the voluntary socialism of the kibbutz has paid big dividends. The nation has become far more prosperous.

I’ve already written how Israel benefited from supply-side reduction in tax rates.

Today, let’s learn about the country’s shift to private social security.

To find out what happened, let’s look at some excerpts from an article in Economics and Business Review. Authored by Moshe Manor and Joanna Ratajczak, it starts by observing there’s been a global shift to private social security systems.

The first paradigmatic shift towards a private pension system was performed in Chile in 1981 and had its followers in Latin America… The Chilean example inspired the World Bank to propose that such a shift should become a key element of the pension reform for postsocialist countries… The shift towards private pension schemes was assumed to meet demographic challenges and the secondary goals of the pension system, especially economic growth accomplished thanks to an acceleration of domestic savings.

This has been a very positive development for the countries that made the shift, by the way.

But let’s focus specifically on the reform in Israel. Here’s some of what the authors wrote.

Israel…abandoned a controlled economy and introduced the market economy only in the last three decades. …In the last 30 years Israel has faced many reforms of the pension system as part of broader economic reforms. …the stabilization programme allowed the Ministry of Finance (MOF) to start a series of structural changes, including pension reforms… The reasons for the reforms were not strictly economic but they also were based on neoliberal economic beliefs, political motives and international relations. …The USA feared Israel’s possible economic collapse and requested that the Israelis execute reforms designed according to Milton Friedman’s neoliberal principles in order to gain American economic support.

For what it’s worth, I’m in favor of “neoliberalism” when it’s defined as pro-market (which seems to be the case in many parts of the world).

Here’s a description of how the reform moved the country from a defined benefit model (often unfunded) to a funded defined contribution model.

The pension reforms were intended to stabilize the system and prepare it for the future difficulties such as ageing and poverty relief; they were also meant to develop the capital market and reduce the burden on the state budget. The main steps included introduction of the mandatory private pension pillar.. The reforms also eliminated PAYG for new joiners and turned the system from actuarially imbalanced, DB…to actuarially balanced, DC, privately managed and invested in capital markets. …The comparison of the reforms in Israel and those in Chile…shows a large similarity: shutting down the PAYG system to new joiners; a shift to funds which are privately managed, DC type, invested in capital markets system; a mandatory pension in the second pillar; development of the local capital markets using the pension accumulation; reduction of government involvement in pensions and of the burden on the state budget.. The main differences encompass low contribution rates in Chile that led to low net replacement rates, while in Israel the contribution rates and net replacement rates are high.

Oddly, the article never states how much of a worker’s paycheck goes to mandatory savings (i.e., the contribution rate).

So here’s a blurb from a recent report by the Organization for Economic Cooperation and Development.

Since January 2008, mandatory contributions have applied to earnings up to the national average wage for all employees… Initially the rates were modest with a total contribution of 2.5% but increased to 15% (5% from employees and 10% from employers) by 2013. In 2014 the contribution rate increased further to 17.5% (5.5% from employees and 12% from employers)and since January 2018 increased to 18.5% (6% from employees and 12.5% from employers). Six percentage points out of the employers’ contribution provides severance insurance which, if utilised, diminishes the pension.

That is a significantly higher level of mandated private savings when compared to countries such as Australia and Chile.

Sadly, the United States isn’t part of that conversation since we’re still stuck with our actuarially bankrupt Social Security scheme.

P.S. While researching this column, I read the OECD’s recent Survey about Israel’s economy. The bureaucrats in Paris groused that there’s a lot of inequality and poverty in that country.

This set of data perfectly illustrates why the OECD is an untrustworthy and biased bureaucracy.

As noted by my Eighth Theorem of Government, it should focus on economic growth to reduce poverty rather than fixating on whether some people are getting richer faster than others are getting richer.

Speaking of which, the supposed poverty data doesn’t actually measure poverty. Instead, “relative poverty” is simply the share of people are below “50% of median household income,” which the OECD then dishonestly characterizes as a measure of poverty (this is how the OECD came up with the absurd claim that there’s more poverty in the United States than in comparatively poor countries such as Turkey and Portugal).

Ironically, the same OECD report admits that Israel is out-performing other developed nations.

Israel is growing faster, as you can see, while also reducing government debt at a time when it’s going up in other countries (I’m sure coronavirus has since wreaked havoc with the Israeli economy, but that’s also true for other OECD countries).

Yet the OECD can’t resist grousing about inequality and lying about poverty.

P.P.S. Shifting back to social security reform, here are some of the other nations (beside Israel, Chile, and Australia) that now benefit from private savings instead of empty political promises: Denmark, Switzerland, Hong Kong, Netherlands, Faroe Islands, and Sweden.

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Everything You Need to Know about America’s Future Entitlement Crisis

Before our depressing discussion today about the fiscal impact of entitlement programs (Social Security, Medicare, Medicaid, EITC, Food Stamps, welfare, and Obamacare, etc), here’s a video of how it all began.

I think this is a great introduction to the issue, particularly since you learn how “public choice” (i.e., politicians engaging in self-serving behavior) played a key role in the development of today’s welfare state.

But if you don’t have the time to watch a long video, here are four key things to understand.

1. Entitlements (budget geeks sometimes use the term “mandatory spending”) are programs that automatically give people money if they meet certain requirements (such as reaching a certain age or having income below a certain level).
2. Since these programs automatically give people money, they are not part of the annual appropriations process (the “discretionary spending” parts of the budget that are determined on a yearly basis).
3. Some entitlement programs are “means tested” and designed to funnel money to low-income individuals. This type of spending is sometimes referred to as “unearned benefits.”
4. Some entitlement programs are “social insurance” since people pay specific tax in exchange for specific benefits. This type of spending is sometimes referred to as “earned benefits” (though in many cases recipient receive much more than they paid).

By the way, there’s one additional thing to understand.

Indeed, it may be the most important thing to understand if you care about America’s fiscal and economic future.

5.  Entitlement programs are a slow-motion fiscal train wreck.

Let’s look at a new study authored by James Capretta of the America Enterprise Institute. He also has some sobering observations on the history of entitlement programs.

The growing expense of entitlement programs has occurred steadily for more than a half century and is reflected in the shifting distribution of federal spending activity. …by the early 1960s, two-thirds of all spending continued to require approval by the House and Senate appropriations committees each year, and less than a third was spent on entitlement programs. … By 2019, nearly two-thirds of all spending in the budget was for entitlement programs, and less than a third went to annually appropriated accounts.

If you prefer this information visually, here are a couple of pie charts from the study.

While there are dozens of entitlement programs, the big three are Social Security, Medicare, and Medicaid.

The largest entitlement programs are Social Security, Medicare, and Medicaid. Together, they now make up nearly half of all federal spending. Their combined growth over the past half century is the primary source of intensifying fiscal pressure. …In 2019, combined federal spending on them was 9.8 percent of GDP, up from 3.7 percent in 1970. CBO expects them to cost 17.2 percent of GDP in 2050, which is almost equal to the average annual revenue collected by the federal government from 1970 to 2019.

And here’s how they’ve been consuming ever-larger shares of America’s economic output.

What’s driving this ever-increasing fiscal burden?

In part, it’s because we have more and more old people and they are living longer.

So what does all this mean?

Capretta points out that uncontrolled entitlement spending may lead to a debt crisis.

I don’t disagree, but I think that’s a secondary concern. The real problem is that government spending will become an ever-larger economic burden. And that will hinder growth whether it’s financed by borrowing or taxes.

Speaking of taxes, here’s the chart from the study that deserves our close attention. It shows the relationship between demographics, benefit generosity, and tax burdens.

Here’s how Capretta describes the relationship.

…for each of the stipulated replacement rates (25, 50, and 75 percent), the tax rate necessary to keep the program solvent rises with increases in the aged dependency ratio. This explains why social insurance taxes in many aging societies have been increased to high levels in recent decades.

I’ve taken the liberty of augmenting the chart to show how these factors interact (though the order of #1 and #2 doesn’t matter).

The bottom line is that the United States is on track to become a high-tax, European-style welfare state if fiscal policy is left on autopilot.

In other words, unless there’s genuine entitlement reform, future Americans will be condemned to lower living standards.

P.S. Here’s some more history. In a column for the American Institute for Economic Research, Richard Ebeling looked at British history to explain how the private sector played a role in social insurance before being displaced by government.

Throughout the 19th century, a primary means for the provision of what today we call the “social safety nets” was by the private sector outside of government. The British Friendly Societies were mutual assistance associations that emerged to provide death benefits for the wives and children of the breadwinner who had passed away. But they soon offered a wide array of other mutual insurance services, including health care coverage, retirement pension programs, unemployment insurance, savings clubs to purchase a family house, and a variety of others. …by the end of the 19th century around two-thirds to three-quarters of the entire British population was covered by one or more of their programs and insurances. The research also discovered that a large majority of the subscribers were in the lower income brackets of the time… What stands out is that these were all private and voluntary associations and exchanges, in which the government paid little or no role.

On a related note, here’s an excellent short video on the English “poor laws” from the 1800s.

P.P.S. In addition to the fiscal burden of entitlement programs, there’s also a major problem in the way these programs discourage work.

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The Economic Consequences of Expanding Pay-as-You-Go Social Security Systems

Despite the fact that Social Security is an ever-increasing fiscal burden with a 75-year cash-flow deficit of nearly $45 trillion, many politicians in Washington have been trying to buy votes with proposals to expand the program (Barack Obama, Hillary Clinton, Bernie Sanders, Elizabeth Warren, etc).

A new working paper from the European Central Bank gives us some insights on what will happen if they succeed.

Authored by Daniel Baksa, Zsuzsa Munkacsi, and Carolin Nerlich, the study look at the long-run impact of related policies in Europe, using Germany and Slovakia as examples.

Here’s their description of the study.

In view of the adverse macroeconomic and fiscal implications of ageing, many European countries have implemented significant pension reforms… More recently, however, the reform progress has stalled, and despite an unchanged demographic outlook, several European countries reversed, or plan to do so, parts of their previously adopted pension reforms. In this paper we offer a framework that allows us to evaluate the macroeconomic and fiscal costs of pension reform reversals. …By using a general equilibrium model with overlapping generations we can account for feedback effects between changes in pension parameters, pension expenditures and macroeconomic variables. …The model is calibrated for Germany and Slovakia.

Before sharing their findings, here’s a look at how demographics are a ticking time bomb for Europe.

The yellow dots are the 2016 numbers for the old-age dependency ratio (the number of people over 65 compared to the 15-64 working-age population) and the red dots show how that ratio will deteriorate by 2070 (the numbers for the United States are similarly grim).

These bad numbers mean that Europe’s economic outlook will worsen over time.

…population ageing has adverse macroeconomic and fiscal implications. …the results show an increase in the public debt-to-GDP ratio by around 100 percentage points until 2070, compared to the initial period, for both Germany and Slovakia. Moreover, real GDP per capita is projected to decline by almost 14% in Germany and 9% in Slovakia, compared to the initial period.

But it’s possible for the numbers to get better or worse, depending on changes to public policy.

…similar to other studies we find evidence that pension reforms help to contain the adverse implications of ageing… In particular, increases in the retirement age appear to help to alleviate ageing pressures most. …we find strong evidence for the presumption that reversals of pension reforms are potentially very costly. In fact, reform reversals would not only result in higher aggregate pension expenditure and public debt-to-GDP ratios, but would in most cases also exacerbate the adverse macroeconomic impact of ageing.

Unfortunately, public policy is now trending in the wrong direction. Here’s what’s been happening in Germany and Slovakia.

Germany recently decided to cap the decline in the benefit ratio and the increase in the contribution rate until 2025 at certain levels, and is considering whether to extend this cap even until 2040. Slovakia decided to break the automatic link between changes in life expectancy and retirement age, by capping the retirement age at 64 years. …in the reversal scenario for Germany we freeze the benefit ratio at its current level of 48% and assume that the contribution rate would not exceed the threshold of 20% until 2040. With this reform reversal scenario we assume that the agreed freeze of the benefits ratio and contribution rate until 2025 will be ex-tended until 2040. In Slovakia, we assume the retirement age to stop increasing from the year 2045 onwards.

And what do they find when countries backtrack on reform?

Here’s what they estimated in Germany.

For Germany, we find that the reform reversal would imply sizeable costs (see Table 6, column “reform reversal”). Specifically, by 2070, the increase in the public debt-to-GDP ratio can be expected to be ceteris paribus almost 60 percentage points higher than under the baseline scenario, as a result of higher pension expenditures, adverse feedback effects and lower contribution rates.

For those interested, here’s Table 6, which I’ve augmented by highlighting in red the most relevant changes. Yes, the debt increases compared to the baseline, but I think it’s equally important (if not more important) to see how young people are hurt and how the burden of government spending goes up.

Now let’s see what the authors found for Slovakia.

…we quantify the fiscal costs of the reform reversal in Slovakia by comparing the debt impact under the reform reversal scenario with that under the baseline scenario. Our results show that such a reform reversal would be very costly. In fact, the increase in the public debt-to-GDP ratio would be more than 50 percentage points higher than the estimated increase of around 100 percentage points of GDP under the baseline scenario (see Table 7).

Here’s Table 7, and again I have highlighted in red the increase in debt as well as the data showing additional harm to young people and a much bigger increase in the burden of government spending.

So what do these findings mean for the United States?

Let’s explain using a homemade infographic. I’ve put four options for Social Security on a spectrum. Here’s what they mean.

• “Expand Social Security” means more taxes and spending in pay-as-you-go systems that are already costly and out of balance.
• The “Status Quo” is a typical pay-as-you-go-system (where the United States is now and where Germany and Slovakia were before their reforms).
• “Conventional Reform” means trying to stabilize a pay-as-you-go system by demanding that workers pay more while promising to give them less (what Germany and Slovakia did).
• The most market-friendly position is “Personal Retirement Accounts,” which transforms creaky pay-as-you-go systems into real individual savings.

Here’s the infographic, including arrows to indicate that some options mean more government and others mean more prosperity.

What Germany and Slovakia did was move from “Status Quo” to “Conventional Reform.” But now they’re backtracking on those reforms and shifting back to the old version of the “Status Quo.”

In other words, a move in the direction of “More Government” and the European Central Bank’s study shows such a step will have negative consequences.

In the United States, by contrast, some folks on the left want America to move from “Status Quo” to “Expand Social Security.”

Like Germany and Slovakia, we’d be moving in the wrong direction. But the damage for the U.S. presumably would be worse because we didn’t first take a step in the right direction.

P.S. If you want to learn more about the best option, Australia, Denmark, Chile, Switzerland, Hong Kong, Netherlands, Faroe Islands, and Sweden are a few of the many jurisdictions that have fully or partially shifted to systems based on real savings.

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New Numbers Confirm Social Security’s Dismal Fiscal Outlook

When I put forth the “The Case for Social Security Personal Accounts” in early 2011, I pointed out that the program’s long-run fiscal shortfall was more than $27 trillion.

We should be so lucky to have that problem today.

The Social Security Administration just released the annual report on the program’s finances, so I went to to Table VI.G9 of the “Supplemental Single-Year Tables” to peruse the yearly projections for future revenue and spending (which are adjusted for inflation so we have a more accurate method for comparisons).

The bad news is that an ever-increasing amount of our income is going to be grabbed by payroll taxes. The worse news is that Social Security’s spending burden will climb at an even-faster rate (historical data to the left of the red line, future projections to the right of the red line).

For those who focus on the less-important issue of red ink, the gap between revenue and spending over the next 75 years is projected to reach $44.7 trillion.

The gap in this year’s report is not directly comparable to the number I cited in 2011, but there’s no question the program’s finances are heading in the wrong direction.

This is partly because Social Security – as a “pay-as-you-go” program – is very vulnerable to demographic changes.

Like other types of Ponzi Schemes, it can work so long as there are always more and more new people entering the system.

But America’s demographic profile is changing. We’re living longer and having fewer kids.

In a column for the Foundation for Economic Education, Daniel Kowalski has a summary of how the program works and why it has a grim future.

Social Security recipients are not paid with the money that the government deducted directly from them and their past employers. Instead that money was used to pay the benefits for past retirees, while current retired recipients are getting their money through Americans who are currently working and contributing to the system. …the first recipients of the Social Security program took out far more than they put in with the difference being made up by the fact that active workers then greatly outnumbered beneficiaries. In 1940 this was not an issue as there were 159 workers supporting one beneficiary. …By 1960, 15 years after President Roosevelt’s death, that ratio was reduced to 5 workers for every beneficiary. In 1980, the ratio dropped to just above three and in 2010 it dropped below that. …there is one thing that Millennials and Generation Z can do to prepare themselves for that day. Start saving and planning for retirement now and make a plan that does not count on a government-issued Social Security check.

He’s right, and his column doesn’t even address the other problem for young people, which is the fact that they get a rotten deal from the program, paying in record amounts of money in exchange for hollow promises of a meager monthly benefit.

By the way, the numbers in the two charts above are based on the Social Security Administration’s “intermediate” assumptions.

I’ve never had any reason to question the reasonableness of those numbers. But in a world with coronavirus, which is causing crippling short-run economic damage and could cause significant long-run harm, it may be more prudent to look at SSA’s “high-cost” assumptions.

The bottom line is that the program’s long-run shortfall could be more than $20 trillion higher.

And remember, these numbers are in 2020 dollars. In other words, adjusted for inflation.

So how do we solve this mess? How do we avoid a grim fiscal future?

Shifting to a system of personal retirement accounts would be the most prudent approach. Yes, there would be an enormous transition cost since we would need to pay benefits to current retirees and many older workers, but that transition cost would be less than the $44.7 trillion unfunded liability (or even more!) of the current system.

I’ve written many times about the benefits of personal accounts for the United States, but I find most people are more interested in real-world evidence. Here are just a few of the several dozen nations that either fully or partially utilize private savings instead of political promises.

• Australia
• Denmark
• Chile
• Switzerland
• Hong Kong
• Netherlands
• Faroe Islands
• Sweden

P.S. Some folks in Washington want to exacerbate Social Security’s fiscal burden by expanding the program.

P.P.S. I hate to add to the bad news, but the long-run finances for Medicare and Medicaid are an even-bigger problem.

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Michael Bloomberg and Entitlements: Rational (at Least in the Past), but not Right

The race for the Democratic nomination is very depressing. All the candidates – even supposed moderates such as Biden and Buttigieg – are openly advocating a much bigger burden of government.

I’m hoping some of their proposals are simply election-year pandering, that they really don’t believe in statism, and that they would be reasonable if they got to the White House.

We got a good bit of economic liberalization under Bill Clinton, for instance, even though he didn’t campaign as any sort of libertarian.

Some people speculate that Michael Bloomberg, the former New York City mayor, might be this year’s closet moderate. A few people have even sent me this CNN article as proof of his underlying rationality.

…when he was mayor of New York City, Bloomberg twice compared Social Security to a “Ponzi scheme” and repeatedly said cuts to that program as well as Medicare and Medicaid had to be part of any serious solution to reducing the federal deficit. …if there’s ever a Ponzi scheme, people say Madoff was the biggest? Wrong. Social Security is, far and away,” Bloomberg said in a January 2009 appearance… “We are giving monies out with the next guy’s money coming in and at the end of — when the music stops — it’s just not gonna be enough chairs for everybody,” Bloomberg said. …Bloomberg’s past comments are at odds with the mainstream positions within the Democratic Party. …During other radio appearances, Bloomberg called for passing Simpson-Bowles, the deficit cutting plan named after former Wyoming Republican Sen. Alan Simpson and former Clinton White House chief of staff Erskine Bowles.

I have mixed feelings after reading that article.

The good news is that Bloomberg at one point was semi-rational about entitlements.

• He understood Social Security is a Ponzi scheme, meaning that the system is only made possible by having new people enter the scheme to finance promises made to people who joined earlier.
• He recognized that some sort of corrective action was needed on entitlements because of enormous unfunded promises, driven by demographic change and poorly designed programs.

The bad news is that Bloomberg never supported the right policies that would address both Social Security’s gigantic fiscal shortfall and the fact that the program is a really bad deal for younger workers. Instead, he supported plans such as Simpson-Bowles that would merely make people pay more to get less.

The worst news is that Bloomberg has abandoned his semi-rational view and is now urging higher taxes and program expansions. He’s presumably not as bad as some of the other candidates, but that’s damning with faint praise.

Here’s a simple way of thinking about Social Security. First, are people actually connected to reality? Do they understand math and demographics? If yes, they’re on the rational (left) side of this 2×2 matrix.

But even if people are rational and recognize there’s a problem, do they support the right type of reform (top half), which is personal retirement accounts?

As you can see, Bloomberg used to be in the bottom-left quadrant, which is bad but rational. Now he’s in the bottom-right quadrant, which is bad and irrational.

A politician who is good and rational will be in top-left quadrant.

P.S. Social Security technically isn’t a Ponzi scheme. That’s because people have the freedom to reject a con artist peddling a pyramid scam. With Social Security, by contrast, participants are legally required to be part of the scheme.

P.P.S. The logical assumption is that the top-right quadrant is empty other than a question mark. After all, any politicians who supports good policy presumably would also recognize there’s a problem. That being said, Trump could be the exception. He doesn’t think we have an entitlement problem, so he obviously belongs on the right side of the matrix. But if he decided to support individual accounts (Trump is very inconsistent on policy, but that does mean he is good on some issues), he could replace the question mark.

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Elizabeth Warren’s Reckless Scheme to Expand the Social Security Burden and Undermine American Competitiveness

Social Security is projected to consume an ever-larger share of America’s national income, mostly thanks to an aging population.

Indeed, demographic change is why the program is bankrupt, with an inflation-adjusted cash-flow deficit of more than $42 trillion.

Yet Senator Elizabeth Warren wants to make a bad situation even worse.

In a blatant effort to buy votes, she is proposing a radical expansion in the old-age entitlement program. Here’s how USA Today describes her proposal.

Warren’s strategy would make major changes to Social Security, boosting benefits for all and imposing new taxes on high-income earners to finance them. …Under the proposal, everyone would get a $200 increase in monthly payments from Social Security, including both retirement and disability benefits. …Certain groups would see even larger increases. …In order to cover these benefits and shore up Social Security’s future finances, Warren would impose two new taxes. First, a new payroll tax would apply to wages above $250,000, with employees paying 7.4% and employers matching with 7.4% of their own. This is above the 6.2% employee rate that applies to current wages up to $132,900 in 2019, …Second, individual filers making more than $250,000 or joint filers above $400,000 would owe a heightened net investment income tax at a rate of 14.8%. …The Warren proposal breaks new ground by largely disconnecting the benefits that Social Security pays from the wages on which the program collects taxes.

In a column for the Wall Street Journal, John Cogan of the Hoover Institution explains why the proposal is so irresponsible.

It’s a strange campaign season, loaded with fantastical promises of government handouts for health care, college and even a guaranteed national income. But Sen. Elizabeth Warren ’s Social Security plan takes the cake. With trillion-dollar federal budget deficits and Social Security heading for bankruptcy, Ms. Warren proposes to give every current and future Social Security recipient an additional $2,400 a year. She plans to finance her proposal, which would cost more than $150 billion annually, with a 14.8% tax on high-income individuals. …the majority of Ms. Warren’s proposed Social Security bonanza would go to middle- and upper-income seniors. …The plan would cost taxpayers about $70,000 for each senior citizen lifted out of poverty.

Cogan also explains that Warren’s scheme upends FDR’s notion that Social Security should be an “earned benefit.”

The cornerstone of FDR’s Social Security program is its “earned right” principle, under which benefits are earned through payroll-tax contributions. …in a major break from one of FDR’s main Social Security principles, the plan provides no additional benefits in return for the new taxes. …Such a large revenue stream to fund unearned benefits, aptly called “gratuities” in FDR’s era, would put Social Security on a road to becoming a welfare program. …Ms. Warren’s proposal returns the country to an era when elected officials regularly used Social Security as a vote-buying scheme.

For all intents and purposes, Warren has put forth a more radical version of the plan introduced by Congressman John Larson, along with most of his colleagues in the House Democratic Caucus.

And that plan is plenty bad.

Andrew Biggs of the American Enterprise Institute wrote about the economic damage it would cause.

…the Social Security 2100 Act consists of more than 100% tax increases – because it not only raises payroll taxes to fund currently promised benefits, but increases benefits for all current and future retirees. …Social Security’s 12.4% payroll tax rate would rise to 14.8% while the $132,900 salary ceiling on which Social Security taxes apply would be phased out. Combined with federal income taxes, Medicare taxes and state income taxes, high-earning taxpayers could face marginal tax rates topping 60%. …Economists agree that tax increases reduce labor supply, the only disagreement being whether it’s by a little or a lot. Likewise, various research concludes that middle- and upper-income households factor Social Security into how much they’ll save for retirement on their own. If they expect higher Social Security benefits their personal saving will fall. Since higher labor supply and more saving are the most reliable routes to economic growth, the Social Security 2100 Act’s risk to the economy is obvious. …an economic model created by a team based at the University of Pennsylvania’s Wharton School…projects GDP in 2049 would be 2.0% lower than a hypothetical baseline in which the government borrowed to fund full promised Social Security benefits. The logic is straightforward: when taxes go up people work less; when Social Security benefits go up, people save less. If people work less and save less, the economy grows more slowly.

And the Wall Street Journal opined about the adverse impact of the proposal.

Among the many tax increases Democrats are now pushing is the Social Security 2100 Act sponsored by John Larson of House Ways and Means. The plan would raise average benefits by 2% and ties cost-of-living raises to a highly generous and experimental measure of inflation for the elderly known as CPI-E. The payroll tax rate for Social Security would rise steadily over two decades to 14.8% from 12.4% for all workers, and Democrats would also apply the tax to income above $400,000. …The proposal would also further tilt government spending to the elderly, who in general are doing well. …Democrats are also sneaky in the way they lift the income cap on Social Security taxes. The Social Security tax currently applies only on income up to $132,900, an amount that rises each year with inflation. But the new payroll tax on income above $400,000 isn’t indexed to inflation, which means the tax would ensnare ever more taxpayers over time. …The new 14.8% Social Security payroll-tax rate would come on top of the 37% federal income-tax rate, plus 2.9% for Medicare today (split between employer and employee), plus the 0.9% ObamaCare surcharge on income above $200,000 and 3.8% surcharge on investment income. …As lifespans increase, the U.S. needs more working seniors contributing to the economy. Yet higher Social Security benefits can induce earlier retirement if people think they don’t have to save as much. Higher marginal tax rates on Social Security benefits and income also discourage healthy seniors from working.

Now imagine those bad results and add in the economic damage from a 14.8 percentage point increase in the tax burden on saving and investment, which is the main wrinkle that Senator Warren has added.

Last but not least, using Social Security as an excuse to push higher taxes is not a new strategy. Back in 2008 when he was in the Senate and running for the White House, Barack Obama proposed a Warren-style increase in the payroll tax.

Here’s a video I narrated that year, which discusses the adverse economic effect of that type of class-warfare tax hike.

By the way, Hillary Clinton supported a similar tax increase in 2016.

Though it’s worth noting that neither Obama nor Clinton were as radical as Warren since they didn’t propose to exacerbate the tax code’s bias against saving and investment.

And don’t forget she also wants higher capital gains taxes and a punitive wealth tax.

Her overall tax agenda is unquestionably going to be very bad news for job creation and American competitiveness.

The “rich” are the primary targets of her tax hikes, but the rest of us will suffer the collateral damage.

P.S. Instead of huge tax increases, personal retirement accounts are a far better way of addressing Social Security’s long-run problem. I’ve written favorably about the Australian system, the Chilean system, the Hong Kong system, the Swiss system, the Dutch system, the Swedish system. Heck, I even like the system in the Faroe Islands.

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How Women Are Disadvantaged by the Tax Code and Social Security System

I’m not a big fan of the current tax system. I’m also not supportive of America’s bankrupt Social Security system.

The country would be much better off with fundamental reform of both the tax system and Social Security.

Some groups will be reap especially large rewards if that happens.

For instance, a new report from the National Bureau of Economic Research examines the impact of taxes and Social Security on female labor supply.

…we ask to what extent the fact that taxes and old age Social Security benefits depend on one’s marital status discourages female labor supply and affect welfare. …as couples file taxes jointly, the secondary earner in the married couple faces a higher marginal tax rate, which tends to discourage their labor supply. …reduced labor supply does not necessarily imply lower Social Security benefits. Since women have historically been the secondary earners, both provisions tend to discourage female labor supply… to what extent are these disincentives holding it back? …We estimate our dynamic structural model using…data from the Panel Study of Income Dynamics (PSID) and from the Health and Retirement Study (HRS) for the cohort born in 1941-1945 (the “1945” cohort). …we also estimate our model for the 1951-1955 cohort (the “1955” cohort),

This chart from the study shows that married women face a tax penalty – i.e., higher marginal tax rates – compared to single women.

The main takeaway is that this marriage penalty, combined with discriminatory features of Social Security, discourages women from working.

How big is the effect?

The report, authored by Margherita Borella, Mariacristina De Nardi, and Fang Yang, finds that government policies have a significant adverse impact on labor-force participation.

For the 1945 cohort, we find that Social Security spousal and survivor benefits and the current structure of joint income taxation provide strong disincentives to work to married women and single women who expect to get married… For instance, the elimination of all of these marriage-based rules raises participation at age 25 by over 20 percentage points for married women and by five percentage points for single women. At age 45, participation for these groups is, respectively, still 15 and 3 percentage point higher without these marital benefits provisions. In addition, these marriage-based rules reduce the participation of married men starting at age 55, resulting in a participation that is 8 percentage points lower by age 65. Finally, for these cohorts, these marital provisions decrease the savings of married couples by 20.3% at age 66.1 In terms of welfare, abolishing these marital provisions would benefit…over ninety percent of the people in this cohort. …We find that the effects for the 1955 cohort on participation, wages, earnings, and savings are large and similar to those in the 1945 cohort, thus indicating that the effects of marriage-related provisions are large also for cohorts in which the labor participation of married women is higher.

What if these discriminatory policies were fixed?

It depends, of course, on how the problems are addressed.

The report finds that a budget-neutral approach (i.e., returning any budgetary windfall to taxpayers) would be a significant net plus.

…there would also be large aggregate gains from removing marriage related provisions and reducing the income tax… Overall our policy experiments thus indicate that removing marriage related taxes and Social Security benefits would increase female labor supply and the welfare of the majority of the populations.

Here are a couple of charts from the study, showing both an increase in labor supply and an increase in labor income.

I’ll close with a final point about family structure.

Some people will argue that the current penalties in the tax code and Social Security system are desirable because they don’t punish stay-at-home moms as much as working women.

That’s a very strange argument. Sort of like the folks on the left, including the IMF, who advocate policies that hurt the poor if rich people suffer even more.

P.S. If there’s reform, older people also will enjoy significant gains.

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Good News from Washington: Social Security’s Long-Run Fiscal Shortfall Is “Only” $42.1 Trillion

Every year, the Social Security Administration issues a “Trustees Report” that summarizes the program’s financing. So every year (see 2018, 2017, 2016, 2015, etc) I cut through all the verbiage and focus the numbers that really matter.

First, here’s the data from Table VI.G9 showing annual spending and annual revenue, and the numbers are adjusted for inflation. Everything to the left of the vertical red line is historical data. Everything to the right is an estimate based on “intermediate” economic and demographic projections.

The bad news is that there’s a never-ending increase in the program’s fiscal burden.

The only good news is that country presumably will be much richer in the future, so we’ll have more income to pay all those taxes and finance all that spending.

That being said, the fiscal burden is projected to increase faster than our income, so the economic burden of Social Security will increase over time.

But there’s also a wild card to consider. Simply stated, we have more data from Table VI.G9 that shows the program has a giant, ever-expanding deficit.

Here are the grim numbers (though not quite as grim as last year when the cumulative shortfall was $43.7 trillion). Once again, everything to the left of the line is historical data and everything to the right is a projection.

The obvious takeaway is that the program is bankrupt.

Indeed, a private pension fund with these numbers would have been shut down a long time ago. And its executives would be in prison for running a Ponzi Scheme.

Politicians won’t put themselves in prison, of course, but they eventually will be forced to address Social Security’s huge shortfall. If nothing else, the so-called Trust Fund (which isn’t a real Trust Fund since it is filled with IOUs) runs out of money in 2035.

The interesting question is what sort of “solution” they choose when the crisis occurs.

Sadly, many politicians are gravitating to a plan to impose ever-higher taxes to prop up the system.

A far better approach is personal retirement accounts. I’ve written favorably about the Australian system, the Chilean system, the Hong Kong system, the Swiss system, the Dutch system, the Swedish system. Heck, I even like the system in the Faroe Islands.

The bottom line is that there’s been a worldwide revolution in favor of private savings and the United States is falling behind.

P.S. If you have some statist friends and family who get confused by numbers, here’s a set of cartoons that shows the need for Social Security reform.

P.P.S. As I explain in this video, reform does not mean reducing benefits for current retirees, or even older workers.

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New Academic Study: Payroll Tax Burdens Stifle Entrepreneurship

When I write about Social Security, I normally focus on two serious deficiencies.

1. The program was never properly designed to deal with demographic change, which means there’s a gargantuan long-run budgetary shortfall of $44 trillion.
2. The program is a very bad deal for workers (especially minorities), offering a paltry retirement benefit compared to what could be obtained with private savings.

I’ve neglected to explain, though, that there’s also an economic cost. All government spending is a burden since resources get diverted from the productive sector of the economy. Moreover, the associated payroll taxes have an adverse impact on incentives for employment.

Those taxes also have a negative effect on entrepreneurship, according to new research from three economists. Here are some excerpts from their study, which has been published by the National Bureau of Economic Research. We’ll start with a look at the methodology.

Entrepreneurship plays a central role in modern economies. In the US, for example, new businesses account for 20% of total gross job creation. While entrepreneurs can be very successful…, entrepreneurship remains one of the most economically risky lines of activity and can result in large wealth losses. …the marginal value of resources for entrepreneurs can be substantial, given how cash-constrained they often are. Therefore, mandating social insurance, while reducing risks,could significantly affect entrepreneurial activity. …In this paper, we…exploit quasi-experimental variation in the amount of social insurance contributions and…administrative data on the full population of Finnish entrepreneurs to address this question. …We use a standard differences-in-differences strategy and exploit a reform in 2011 that changed the ownership share rule from 50% to 30% to assess how relaxing the social insurance mandate affects entrepreneurial activity. …Overall, we find that social insurance contributions are reduced by an aver-age of 19% for the treatment group, which has more discretion over insurance contributions after the reform. This reduction represents a large cash windfall, equivalent to, on average, a 5 percentage-point reduction in corporate taxes.

Here are the key results, which show that payroll taxes have a decidedly negative effect on new firms.

…we observe a larger than average decrease in social insurance contributions by the owners of younger firms. The cash saved from the lower contributions is channeled into their firms, as we observe an increase in both employee compensations and other input costs, and an increase in turnover after the reform. …entrepreneurs in younger firms are more liquidity-constrained and have access to better growth opportunities than more mature firms. …Figure 2 shows the effect of the 2011 reform on business activity for young firms that are equal to or younger than five years old. …we estimate a 9.9% increase in turnover and a 6% increase in employee wage costs. Overall, these results imply that firms use the saved cash to pay for additional intermediate inputs and labor in order to increase turnover, and suggests that these firms might be facing liquidity constraints.

Here’s the aforementioned Figure 2, showing the both sales and wages are higher when social insurance taxes are lower.

The bottom line is clear.

…our findings imply that the social insurance mandate…crowds out business activity for young firms… the social insurance mandate for entrepreneurs has heterogeneous efficiency costs. Efficiency gains could be achieved by…lower social insurance contributions.

What is meant by efficiency gains?

That’s simply economic jargon for faster growth and higher living standards. And those results occur because entrepreneurs play a key role in driving innovation.

P.S. This issue is timely and important since politicians such as Bernie Sanders and Alexandria Ocasio-Cortez are pushing “Medicare for All” and other schemes that would require huge increases in payroll taxes.

P.P.S. Other Democrats, such as Barack Obama and Hillary Clinton, have urged higher payroll taxes that would deliberately target entrepreneurs, investors and business owners.

P.P.P.S. You can enjoy some Social Security cartoons here, here, and here. And we also have a Social Security joke if you appreciate grim humor.

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Government Programs Lure Older Workers into Idleness and Dependency

When I write about Social Security, I normally focus on the program’s huge fiscal imbalance ($44 trillion and climbing).

But it’s not just a fiscal crisis. Social Security is also an increasingly bad deal for workers. Especially minorities with lower average lifespans. When compared to what they would get from a private retirement system, people are paying in too much and getting out too little.

There’s also another major problem with the program.

Academic experts have quantified how older workers are lured out of the labor force when they get money from the government. And since economic output is a function of the quality and quantity of labor and capital, this means we’re sacrificing wealth and reducing prosperity.

Here are some excerpts from a study by Professors Daniel Fetter and Lee Lockwood.

Many of the most important government programs, including Social Security and Medicare, transfer resources to older people… Standard economic theory predicts that such programs reduce late-life labor supply and that the implicit taxation reduces the ex-post value of the programs to recipients. Understanding the size and nature of such effects on labor supply and welfare is an increasingly important issue, as demographic trends have increased both the potential labor supply of the elderly and its aggregate importance, while simultaneously increasing the need for reforms to government old-age support programs. …We address these questions by investigating Old Age Assistance (OAA), a means-tested program introduced in the 1930s alongside Social Security that later became the Supplemental Security Income (SSI) program.

Here are charts illustrating how people are retiring earlier in part because of government payments.

And here are some calculations from the study.

Our estimates indicate that OAA significantly reduced labor force participation among older individuals. The basic patterns that we explore in the data are evident in Figure 2, which plots male labor force participation by age, separately for states with above- and belowmedian OAA payments per person 65 and older. Up to age 65, the age pattern of labor force participation was extremely similar in states with larger and smaller OAA programs. At age 65, however, there was a sharp divergence in labor force participation between states with larger OAA programs relative to those with smaller programs, and this divergence continued at older ages. Our regression results, which isolate variation in OAA program size due to state policy differences, imply that OAA can explain more than half of the large 1930–40 drop in labor force participation of men aged 65–74. …Our results suggest that Social Security had the potential to drive at least half—and likely more—of the mid-century decline in late-life labor supply for men. …Taken as a whole, our results suggest that government old-age support programs can have large effects on labor supply, through both their transfer and taxation components.

This chart captures how old-age payments in various states were associated with varying degrees of labor force participation.

By the way, I’m not sharing this information because it’s bad for people to retire at some point.

I’m merely establishing that there’s academic support for the common-sense observation that people are more likely to leave the labor force when there’s an alternative source of income (though it’s worth noting that there should be a sensible and sustainable system for providing that retirement income).

Moreover, people are likely to stop working when government systems give them money before age 65.

Three academics, Andres Erosa, Luisa Fuster, and Gueorgui Kambourov, have a study quantifying this problem in European nations.

There are substantial differences in labor supply and in the design of tax and transfer programs across countries. The cross-country differences in labor supply increase dramatically late in the life cycle…while differences in employment rates among eight European countries are in the order of 15 percentage points for the 50-54 age group, they increase to 35 percentage points for the 55-59 age group and to more than 50 percentage points for the 60-64 age group. In this paper we quantitatively assess the role of social security, disability insurance, and taxation for understanding differences in labor supply late in the life cycle (age 50+) across European countries and the United States. … The social security, disability insurance, and taxation systems in the United States and European countries in the study are modelled in great detail.

Here’s a sampling of their results.

The main findings are that the model accounts fairly well for how labor supply decreases late in the life cycle for most countries. The model matches remarkably well the large decline in the aggregate labor supply after age 50 in Spain, Italy, and the Netherlands. The results support the view that government policies can go a long way towards accounting for the low labor supply late in the life cycle for these European countries relative to the United States, with social security rules accounting for the bulk of these effects… relative to the United States, the hours worked by men aged 60-64 is…49% in the Netherlands, 66% in Spain, 44% in Italy, and 29% in France. …government policies can go a long way towards accounting for labor supply differences across countries. Social security rules account for the bulk of cross country differences in labor supply late in the life cycle (with its contribution varying from 50% to 100%), but other policies also matter. In accounting for the low labor supply relative to the US at ages 60 to 64, taxes matter importantly in the Netherlands (6%), Italy (6%), and France (5%); disability insurance policies are important for the Netherlands (7%) and Spain (10%).

And here’s one of their charts comparing hours worked at various ages in Switzerland, Spain, France, and the United States.

The good news is that we don’t push people out of the labor force as much as the French and the Spanish.

The bad news is that we’re not as good as Switzerland (probably in part because the Swiss have a retirement system based on private saving, so they have the ideal combination of good work incentives and comfortable retirement).

But it shouldn’t matter whether other countries have good systems or bad systems. What does matter is that America’s demographic profile is changing. We’re living longer and having fewer children and our system of entitlements is a mess.

We should be reforming these programs, both for fiscal reasons and economic reasons.

P.S. It’s not just Social Security. Other programs also lure people out of the job market and into government dependency, with Obamacare being an especially harmful example.

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Mirror, Mirror, on the Wall, Which Nation Has the Biggest Welfare State of All?

When I think about social welfare spending, I mostly worry about recipients getting trapped in dependency.

But I also feel sorry for taxpayers, who are bearing ever-higher costs to finance redistribution programs.

Today’s column won’t focus on those issues. Instead, we’re going to utilize new OECD data to compare the size of the welfare states in developed nations.

We’ll start with the big picture. Here it total redistribution spending, measured as a share of economic output, for selected countries that are members of the Organization for Economic Cooperation and Development.

Nobody will be surprised, I assume, to see that France, Finland, Belgium, Denmark, and Italy have the biggest welfare states.

The United States is in the middle of the pack. American taxpayers might be surprised to learn, though, that they finance a bigger welfare state than the ones that exist in Canada, Iceland, and the Netherlands.

The overall numbers are important, but it’s also educational to consider the various components.

And the largest chunk of social spending in most nations is for their old-age programs. The biggest burdens are found in Greece, Italy, France, Portugal, and Austria. The United States, once again, is in the middle of the pack.

By the way, keep in mind that there are many factors that determine why some nations spend more than others.

• How generous are benefits? – This is often measured as the “replacement rate,” which compares retirement benefits to income during working years.
• When can people retire? – Some countries allow people, or some classes of people, to get benefits while relatively young. Others are more stringent.
• Does a country have an aging population? – Demographic changes already are beginning to have a large effect on the finances of some systems.
• Is there a private savings system? – Nations such as Switzerland, Australia, Chile, and the Netherlands have significant private retirement savings.

Now let’s look at government spending on health.

Here’s the area where the United States is more extravagant than almost every other nation. Only France spends more money.

Actually, since per-capita GDP is significantly larger in the United States than in France, American taxpayers spend more on a per-person basis.

Some people will observe, with great justification, that the data for the United States may be a measure of the inefficiency of the American system rather than taxpayer generosity. This is a topic for another day.

Last but not least, let’s look at traditional welfare. In other words, cash assistance to the working-age population.

The fiscal burden of this spending is highest in Belgium, Finland, the Netherlands, Norway, and Luxembourg. The United States, meanwhile, is comparatively frugal.

P.S. Here are a couple of caveats for number crunchers and policy wonks.

First, there are methodological challenges when comparing OECD nations. Eastern European nations tend to be significantly less prosperous than Western European nations, thanks to decades of communist enslavement. So looking at this data does not really allow for apples-to-apples comparisons. Moreover, there are a handful of developing nations that belong to the OECD, such as Mexico and Turkey, so comparison are effectively meaningless. And Chile is on the cusp of becoming a fully developed nation so it’s in its own category.

Second, as I briefly mentioned above, nations have different levels of per-capita GDP. If we look at the last chart, Austria and Spain spend a similar share of GDP on welfare, but since Austria is a richer nation, its taxpayers actually finance a lot more per-capita welfare spending. The same is true if you compare Canada and Estonia, Sweden and Slovenia, and Germany and Greece.

P.P.S. There was virtually no welfare state in OECD nations prior to the 1930s and very small welfare states until the 1960s. For what it’s worth, the huge reduction in poverty in those nations occurred before the welfare state.

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More Evidence for Private Social Security

The world is in the middle of a dramatic demographic transition caused by increasing lifespans and falling birthrates.

One consequence of this change is that traditional tax-and-transfer, pay-as-you-go retirement schemes (such as Social Security in the United States) are basically bankrupt.

The problem is so acute that even the normally statist bureaucrats at the Organization for Economic Cooperation and Development are expressing considerable sympathy for reforms that would allow much greater reliance on private savings (shifting to what is known as “funded” systems).

Countries should introduce funded arrangements gradually… Policymakers should carefully assess the transition as it may put an additional, short-term, strain on public finances… Tax rules should be straightforward, stable and consistent across all retirement savings plans. …Countries with an “EET” tax regime should maintain the deferred taxation structure… Funded, private pensions may be expected to support broader economic growth and accelerate the development of local capital markets by creating a pool of pension savings that must be invested. The role of funded, private pensions in economic development is likely to become more important still as countries place a higher priority on the objective of labour force participation. Funded pensions increase the incentive to work and save and by encouraging older workers to stay in the labour market they can help to address concerns about the sustainability and adequacy of public PAYG pensions in the face of demographic changes.

Here’s a chart from the OECD report. It shows that many developed nations already have fully or partly privatized systems.

By the way, I corrected a glaring mistake. The OECD chart shows Australia as blue. I changed it to white since they have a fully private Social Security system Down Under.

The report highlights some of the secondary economic benefits of private systems.

Funded pensions offer a number of advantages compared to PAYG pensions. They provide stronger incentives to participate in the labor market and to save for retirement. They create a pool of savings that can be put to productive use in the broader economy. Increasing national savings or reallocating savings to longer-term investment supports the development of financial markets. …More domestic savings reduces dependency on foreign savings to finance necessary investment. Higher investment may lead to higher productive capacity, increasing GDP, wages and employment, higher tax revenues and lower deficits.

Here’s the chart showing that countries with private retirement systems are among the world leaders in pension assets.

The report highlights some of the specific nations and how they benefited.

Over the long term, transition costs may be at least partially offset by additional positive economic effects associated with introducing private pensions rather than relying solely on public provision. …poverty rates have declined in Australia, the Netherlands and Switzerland since mandatory funded pensions were introduced. The initial transformation of Poland’s public PAYG system into a multi-pillar DC approach helped to encourage Warsaw’s development as a financial centre. …the introduction of funded DC pensions in Chile encouraged the growth of financial markets and provided a source of domestic financing.

For those seeking additional information on national reforms, I’ve written about the following jurisdictions.

• Australia
• Denmark
• Chile
• Switzerland
• Hong Kong
• Netherlands
• Faroe Islands
• Sweden

At some point, I also need to write about the Singaporean system, which is one of the reasons that nation is so successful.

P.S. Needless to say, it would be nice if the United States was added to this list at some point. Though I won’t be holding my breath for any progress while Trump is in the White House.

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Saving America’s Retirement System and Providing Real Middle-Class Tax Relief

President Trump thinks he can boost Republicans next Tuesday by promising a new round of tax relief for the middle class.

I’m skeptical of his sincerity, as noted in this segment from a recent interview, but I also warn that his proposed tax cut is impractical because Republicans have done a lousy job on spending. And I also point out that it is ironic that Trump is urging lower taxes for the middle class when his protectionist tariffs (trade taxes) are hurting the same people.

At first, I wasn’t going to bother writing about this topic for the simple reason that Trump isn’t serious (if he was, he wouldn’t have meekly allowed the big spenders to bust the spending caps).

But then I saw that Tom Giovanetti of the Institute for Policy Innovation wrote a column for the Wall Street Journal explaining how reforming Social Security would be great news for lower- and middle-income taxpayers.

…44% of Americans no longer pay any federal income tax at all, and many more pay very little. …On the other hand, low- and middle-income workers do send the government a large share of their earnings in the form of payroll taxes. That same family of four pays $12,240 at the 15.3% combined rate for Social Security and Medicare. If you want to cut taxes for middle-class and low-income workers, that’s where you have to do it. …instead of…a payroll-tax cut of 4% of income, why not redirect that same 4% into personal retirement accounts for every worker? …With no decline in disposable income, American workers would suddenly be investing for retirement at market rates in accounts they own and control, instead of relying on Congress to keep Social Security solvent.

Not only would personal retirement accounts be good for workers, they also would help deal with the looming entitlement crisis.

America’s entitlements are on a path to collapse, and few politicians—including Mr. Trump—have an appetite to do anything about it. When the crisis comes, no tax increase will be big enough to solve the problem. Knowing the U.S. government is eventually going to fudge its commitment to retirees, policy makers should at least give workers a fair chance to amass the savings they will need to support themselves. The back-door solution to the entitlement crisis is to make workers wealthy. Will you worry about Social Security’s solvency or a Medicare collapse if you have more than enough money in a real retirement account to buy a generous annuity and cover your health insurance?

At the risk of stating the obvious, this is the right approach. Both for workers and the country.

To be sure, I don’t think it’s likely since Trump opposes sensible entitlement reform. But Tom’s column at least provides a teaching moment.

I’m not sure when we’ll have a chance to address this simmering crisis. But if you’re wondering whether changes are necessary, check out this chart I put together earlier this year showing Social Security’s annual shortfall (adjusted for inflation, so we’re comparing apples-to-apples).

P.S. This video has more details on the benefits of personal retirement accounts.

P.P.S. And this video shows why the left’s plan to “fix” Social Security would be so destructive.

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Denmark’s Successful Transition from Tax-Financed Old-Age Payments to Private Retirement Accounts

The United States has a bankrupt Social Security system.

According to the most recent Trustees Report, the cash-flow deficit is approaching $44 trillion. And that’s after adjusting for inflation.

Even by DC standards of profligacy, that’s a big number.

Yet all that spending (and future red ink) doesn’t even provide a lavish retirement. Workers would enjoy a much more comfortable future if they had the freedom to shift payroll taxes to personal retirement accounts.

This is why I periodically point out that other nations are surpassing America by creating retirement systems based on private savings. Here are some examples of countries with “funded” systems (as compared to the “pay-as-you-go” regime in the United States).

• Australia
• Chile
• Sweden
• Switzerland
• Hong Kong
• Netherlands
• Faroe Islands

Now it’s time to add Denmark to this list.

Here’s how the OECD describes the Danish system.

There is…a mandatory occupation pension scheme based on lump-sum contributions (ATP). In addition, compulsory occupational pension schemes negotiated as part of collective agreements or similar cover about 90% of the employed work force. …Pension rights with ATP and with occupational pension schemes are accrued on a what-you-pay-iswhat-you-get basis. The longer the working career, the higher the employment rate, the longer contribution record and the higher the contribution level, the greater the pension benefits. …ATP covers all wage earners and almost all recipients of social security benefits. ATP membership is voluntary for the self-employed. ATP covers almost the entire population and comes close to absolute universality. …The occupational pension schemes are fully funded defined-contribution schemes… Some 90% of the employed work force is covered… The coverage ratio has increased from some 35% in the mid-1980s to the current level… Contribution rates range between 12% and 18%.

A Danish academic described the system in a recent report.

As labour market pensions mature, they will challenge the people’s pension as the backbone The fully funded pensions provide the state with large income tax revenues from future pension payments which will also relieve the state quite a bit from future increases in pension expenditures. Alongside positive demographic prospects this makes the Danish system economically sustainable. … a main driver was the state’s interest in higher savings… Initially, savings was also the government motive for announcing in 1984 that it would welcome an extension of occupational pensions to the entire labour market. … Initially, contributions were low, but the social partners set a target of 9 per cent, later 12 per cent, which was reached by 2009. …it is formally a private system. Pensions are fully funded, and savings are secured in pensions funds. …It is also worth noting that the capital accumulated is huge. Adding together pensions in private insurance companies, banks, and labour market pension funds (some of which are organized as private pension insurance companies), the total amount by the end of 2015 was 4.083 bill.DKK, that is, 201 per cent of GDP.

Denmark’s government also is cutting back on the taxpayer-financed system.

… the state has also sought to reduce costs of ageing by raising the pension age. In the 2006 “Welfare Reform”, it was decided to index retirement age with life expectancy… Moreover, the voluntary early retirement scheme was reduced from 5 to 3 years and made so economically unattractive that it is de facto phased out. Pension age is gradually raised from 65 to 67 years in 2019-22, to 68 years in 2030, to 69 in 2035 and to 70 in 2040… These reforms are extremely radical: The earliest possible time of retirement increases from 60 years for those born in 1953 to 70 years for those born in 1970. But the challenge of ageing is basically solved.

Those “socialist” Danes obviously are more to the right than many American politicians.

The Social Security Administration has noticed that Denmark is responding to demographic change.

The Danish government recently implemented two policy changes that will delay the transition from work to retirement for many of its residents. On December 29, 2015, the statutory retirement age increased from age 67 to 68 for younger Danish residents. Three days later, on January 1, 2016, a reform went into effect that prohibits the long-standing practice of including mandatory retirement ages in employment contracts.

And here’s some additional analysis from the OECD.

…pension reforms are expected to compensate the impact of ageing on the labour force… To maintain its sustainability…, major reforms have been legislated, including the indexation of retirement age to life expectancy gains from 2030 onwards. …a person entering the labour market at 20 in 2014 will reach the legal retirement age at 73.5. This would make the Danish pension age the highest among OECD countries. …As private pension schemes introduced in the 1990s mature, public spending on pension is projected to decline from around 10% of GDP in 2013 to 7% towards 2060.

Wow. Government spending on pensions will decline even though the population is getting older. Too bad that’s not what’s happening in America.

Last but not least, here are some excerpts from some Danish research.

Denmark has also developed a funded, private pension system, which is based on mandatory, occupational pension (OP) schemes… The projected development of the occupational schemes will have a substantial effect on the Danish economy’s ability to cope with the demographic changes. …the risks of generational conflicts seem smaller in Denmark than in many other countries. …Overall, the Danish OP schemes are thus widely regarded as highly successful: they have contributed substantially to restoring fiscal sustainability, helped averting chronic imbalances on the current account and reduced poverty among the elderly.

This table is remarkable, showing the very high levels of pension assets in Denmark.

To be sure, the Danish system is not a libertarian fantasy. Government still provides a substantial chunk of retirement income, and that will still be true when the private portion of the system is fully mature. And even if the private system provided 99 percent of retirement income, it’s based on compulsion, so “libertarian” is probably not the right description.

But it is safe to say that Denmark’s system is far more market-oriented (and sustainable) than America’s tax-and-transfer Social Security system.

So the next time I hear Bernie Sanders say that the United States should be more like Denmark. I’ll be (selectively) cheering.

P.S. The good news isn’t limited to pension reform. Having reached (and probably surpassed) the revenue-maximizing point on the Laffer Curve, Denmark is taking some modest steps to restrain the burden of government spending. Combined with very laissez-faire policies on other policies such as trade and regulation, this helps to explain why Denmark is actually one of the 20-most capitalist nations in the world.

August 8 addendum: Here’s a chart from a report by the European Commission showing that private pension income is growing while government-provided retirement benefits are falling (both measured as a share of GDP).

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The Second Social Security Crisis

If you did man-on-the-street interviews across America and asked people about Social Security, I suspect most of them would have some degree of understanding about the program’s looming fiscal crisis.

Since they’re not policy wonks, they presumably wouldn’t know the magnitude of the problem (not that I blame them since I once underestimated the shortfall by $16 trillion).

I also doubt many of them would be able to explain why the so-called Trust Fund is an accounting fiction, which is understandable since even supposedly knowledgeable people pretend IOUs are real assets.

But at least they know the program’s finances are a giant mess and that we face a fiscal crisis.

That being said, there’s a second crisis in the program that doesn’t get nearly as much attention. Simply stated, the program is a rotten deal for workers.

I explained both crises in this video I narrated for the Center for Freedom and Prosperity.

Today, thanks to a new report from the Heritage Foundation, we have a great opportunity to peruse up-to-date numbers on the second Social Security crisis.

Here’s the problem, succinctly defined.

With Social Security consuming such a large component of workers’ paychecks and offsetting their own private savings, it is important that workers receive a valuable benefit from Social Security—one at least as good as they, as a whole, could obtain from saving on their own. This analysis looks across the United States and across generations to see if Social Security does in fact provide that.

Sadly, Social Security does a crummy job of giving workers a decent amount of retirement income.

Taking an average of all 50 states and the District of Columbia, the average worker receives significantly less from Social Security than he would have if he had conservatively invested his Social Security payroll taxes in the market. …Individuals with lower life expectancies often lose greatly. This occurs because they receive little or nothing in benefits and cannot pass along all their lost contributions to their surviving family members. …Younger workers face lower, and even negative, returns from Social Security compared to older workers. This comes as a result of paying higher average Social Security tax rates over their lifetimes, coupled with a two-year increase in Social Security’s normal retirement age—as well as the benefit cuts that will occur.

The bottom line is that the implicit rate of return from Social Security is very inadequate compared to the genuine rate of return that could be obtained if workers could invest their payroll taxes in personal retirement accounts.

Here’s the key table from the Heritage study, showing rates of return for today’s young workers based on how long they live.

You have to wonder why so many young people are intrigued by socialism when they’re the ones getting screwed by big government!

Anyhow, there are 12 tables in the report showing lots of additional data, including breakdowns based by state. The entire study is worth a look.

But for those short on time, the conclusion is a very clear summary of why we need to fix Social Security’s rate-of-return crisis as well as the program’s fiscal crisis.

The results are overwhelmingly clear. Americans would be better off keeping their payroll tax contributions and saving them in private retirement accounts than having to sacrifice them to the government’s broken Social Security system. Social Security’s design has, over the decades, presumed that many Americans are too incompetent to make informed decisions for themselves, but few Americans believe that the government knows better than they do what is best for them and their families. Moreover, Social Security’s financial structure effectively guarantees that workers will receive extremely low, or even negative, returns on their payroll taxes.

P.S. Fixing Social Security is simple, but it won’t be easy. Benefits would have to be preserved for current retirees and older workers, so there would be a “transition cost” as we shift to a “funded” system of personal accounts.

P.P.S. But reform is possible. If you want real-world role models of retirement systems based on private saving, take a look at the Australian system, the Chilean system, the Hong Kong system, the Swiss system, the Dutch system, the Swedish system, or even the system in the Faroe Islands.

P.P.P.S. Our friends on the left have a solution – albeit misguided – for Social Security’s fiscal crisis. But their approach would greatly worsen the rate-of-return crisis.

P.P.P.P. S. You can enjoy some Social Security cartoons here, here, and here. And we also have a Social Security joke if you appreciate grim humor.

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The Ever-Expanding Fiscal Burden of Social Security

Writing a column every day can sometimes be a challenge, in part because of logistics (I have to travel a lot, which can make things complicated), but also because I want to make sure I’m sharing interesting and relevant information.

My task, however, is very easy on certain days. When Economic Freedom of the World is published in the autumn, I know that will be my topic (as it was in 2017, 2016, 2015, etc). My only challenge is to figure out how to keep the column to a manageable size since there’s always so much fascinating data.

Likewise, I know that I have a very easy column about this time of year (2017, 2016, 2015, etc) since that’s when the Social Security Administration releases the annual Trustees Report.

It’s an easy column to write, but it’s also depressing since my main goal is to explain that the program already consumes an enormous pile of money and that it will become an every bigger burden in the future.

Here are the 1970-2095 budgetary outlays from the latest report, adjusted for inflation. As you can see, the forecast shows a huge increase in spending.

The good news, as least relatively speaking, is that we’ll also have inflation-adjusted growth between now and 2095, so the numbers aren’t quite as horrifying as they appear. That being said, Social Security inexorably will consume a larger share of the private economy over time.

Now let’s examine a second issue. Most news reports incorrectly focus on the year the Social Security Trust Fund runs out of money.

But since that “Trust Fund” is filled with nothing but IOUs, I think that’s an utterly pointless piece of data. So every year I show the cumulative $43.7 trillion cash-flow deficit in the system. Using inflation-adjusted dollars, of course.

Assuming we don’t reform the program, think of these numbers as a reflection of a built-in future tax hike.

You won’t be surprised to learn, by the way, that politicians such as Barack Obama and Hillary Clinton already have identified their preferred tax hikes to fill this gap.

Let’s wrap up.

Veronique de Rugy of Mercatus accurately summarizes both the problem and the solution.

The single largest government program in the United States will soon have an annual budget of $1 trillion a year. …The program is Social Security, and our national pastime seems to be turning a blind eye to its dysfunctions. …Since 2010, it has been running a cash-flow deficit—meaning that the Social Security payroll taxes the government collects aren’t enough to cover the benefits it’s obliged to pay out. …

Veronique punctures the myth that there’s a “Trust Fund” that can be used to magically pay benefits.

Prior to 2010, the program collected more in payroll taxes than was needed to pay the benefits due at the time. The leftovers were “invested” into Treasury bonds through the so-called Old Age Trust Fund, which is now being drawn down. …In fact, the Treasury bonds are nothing but IOUs. …Treasury…doesn’t have the money: It has already spent it on wars, roads, education, domestic spying, and much more. So when Social Security shows up with its IOUs, Treasury has to borrow to pay the bonds back. …Did you catch that? Past generations of workers paid extra payroll taxes to bulk up the Social Security system. But the government spent that additional revenue on non-retirement activities, so now your children and grandchildren will also have to pay more in taxes to reimburse the program.

So what’s the solution?

Veronique explains we need to reform the system by allowing personal retirement accounts. She was even kind enough to quote me cheerleading for the Australian system.

Congress should shift away from Social Security into a “funded” system based on real savings, much as Australia and others have done. The libertarian economist Daniel J. Mitchell notes that, starting in the ’80s and ’90s, that country has required workers to put 9.5 percent of their income into a personal retirement account. As a safety net—but not as a default—Australians with limited savings are guaranteed a basic pension. That program has generated big increases in wealth. Meanwhile, Social Security has generated big deficits and discouraged private saving. Who would you have emulate the other?

Though I’m ecumenical. I also have written favorably about the Chilean system, the Hong Kong system, the Swiss system, the Dutch system, the Swedish system. Heck, I even like the system in the Faroe Islands.

The bottom line is that there’s been a worldwide revolution in favor of private savings and the United States is falling behind.

P.S. If you have some statist friends and family who get confused by numbers, here’s a set of cartoons that shows the need for Social Security reform.

P.P.S. As I explain in this video, reform does not mean reducing benefits for current retirees, or even older workers.

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