a425couple
2025-03-12 23:42:09 UTC
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Permalinkhttps://www.econlib.org/social-security-is-a-ponzi-scheme/
Social Security Is a Ponzi Scheme 12
David Henderson
Last week, Alex Tabarrok wrote a post at Marginal Revolution titled, “Is
Social Security a Ponzi Scheme?”
His answer is yes.
That reminded me of what I wrote about Social Security in my 2001 book,
The Joy of Freedom: An Economist’s Odyssey.
Here’s the start of the chapter.
I say we scrap the current [Social Security] system and replace it with
a system wherein you add your name to the bottom of a list, and then you
send some money to the person at the top of the list, and then you . . .
Oh, wait, that IS our current system.
—Dave Barry, “Election could come down to who kisses most orifice,”
Miami Herald, September 24, 2000
In 1991, one of my students, Stephen Banus, wrote to the Social Security
Administration requesting information about the Social Security taxes he
had paid and the benefits he could expect to receive. In the form letter
he got back, Gwendolyn King, the commissioner of Social Security wrote:
I want to assure you that Social Security is built on a sound financial
foundation. Social Security benefits will be there when you need them.
A prudent man and a good planner, Banus sent a similar request in 1995.
This time, the message in the form letter was different. The
commissioner of Social Security, Shirley Chater, wrote:
The latest report of the Social Security Board of Trustees says the
Social Security system can pay benefits for about 35 more years. This
means there’s time for Congress to make the changes needed to safeguard
the program’s financial future.
In just four years, the commissioner had scaled back the blanket
assurance that the benefits would be there “when you need them” to
“about 35 more years.” What happened between 1991 and 1995?
Actually, nothing much happened in those four years except that the
Social Security Commissioner in 1995 was perhaps less dishonest than her
counterpart in 1991. The fact is that Social Security was never on a
“sound financial foundation.” Contrary to the Social Security
Administration’s official propaganda, there is no real trust fund.
Roughly 80 percent of the payroll taxes collected from current workers
today are sent out to current retirees, with only a brief stayover in
Washington. The government spends the rest of the money on other items.
The so-called trust fund contains bonds that the government has created.
These bonds are simply IOUs from one branch of government to another.
Chris Jehn, an associate director of the Congressional Budget Office,
compares these bonds to notes that you write every year and put in a box
for your child’s college education. The note says, “I owe $5,000 to my
daughter’s college fund.” After 18 years of such saving, when your child
turns 18, you open the box and out comes, not $90,000, but 18 worthless
pieces of paper.
Those who retired in the early 1940s got huge benefits in return for
paying low payroll taxes for only a few years. But as the system has
“matured,” so that current retirees have been paying Social Security
taxes for virtually their whole working lives, these retirees have
received a much lower return.
A private citizen who set up such a financial chain letter would go to
prison. In fact, he did. His name was Charles Ponzi, and he was arrested
in 1920 for promising investors that they could double their money in 90
days and using the proceeds from later participants to keep his
commitments to earlier ones. Thus was born the term “Ponzi scheme.”
There are two main differences between Ponzi’s original scam and the
Social Security system. The first difference is that Social Security is
run by government and, whatever its constitutionality and its
questionable ethics, is legal. The second difference follows from the
first: Whereas Ponzi had to rely on suckers, the government can and does
use force. It’s true that the government refers to the Social Security
payroll taxes—a hefty 10.6 percent (an extra 1.8 percent is for
disability insurance and a further 2.9 percent, levied on all income
from work, is for Medicare) of every worker’s earnings up to $80,400 in
2001—as “contributions.” But just try not “contributing.” That’s what
Valentine Byler, an Amish farmer in New Wilmington, Pennsylvania, did in
1961. His religion taught that its members should care for each other
and he tried to act on his religious beliefs by not paying Social
Security taxes. The Internal Revenue Service responded by seizing three
of his horses and selling them to collect $308.96 in unpaid taxes.
The Social Security Administration’s new line is that the fund is
solvent until 2037. What the government officials who say that really
mean is that by 2037, the last of the special federal government bonds
that the Social Security Administration has bought and kept in the
Social Security “Trust” Fund will be sold off to the U.S. Treasury. This
“sale” of bonds is simply a transfer between the government’s left and
right hands. To free up the cash to pay for these bonds, the Treasury
will have to float new bonds, increase taxes, or cut other spending.
The more relevant date, therefore, is when the government’s benefit
payments start to exceed its income from payroll taxes and from interest
on these bonds—because that’s when the bonds will first be sold and the
government will have to come up with extra cash. That date, the Social
Security Administration now projects, will be 2024, about two-thirds of
the way through the retirement of the baby boomers.
In the late 1990s, the government’s own actuaries estimated that, to
maintain promised benefits, the tax rate would have to rise over the
next decades from its current level of 12.4 percent to more than 18
percent. At an 18 percent rate, Social Security taxes would be about 7.5
percent of overall GDP. But total federal revenues from all sources, not
just from the Social Security payroll tax, have stayed within a narrow
range of 18 to 20 percent of GDP since the early 1950s. If this
historical constant held, then the Social Security program alone would
take about 40 percent of the total tax revenues collected by the federal
government, leaving the remaining 60 percent to pay for Medicare,
interest on the debt, defense, and everything else the federal
government does. That doesn’t seem likely, which means that the odds of
raising the Social Security tax rate substantially are, fortunately,
fairly small. At some point in the future, therefore, benefits will have
to be less than promised.
READER COMMENTS
READ COMMENT POLICY
Jose Pablo
Mar 11 2025 at 9:01pm
Reply
and replace it with a system wherein you add your name to the bottom of
a list, and then you send some money to the person at the top of the
list, and then you . . .
In fact, the whole US government’s debt is a Ponzi scheme, the new debt
buyers (aka the new suckers) add their names to the bottom of a list,
and then the government sends some money to the person at the top of the
list (whose bonds have matured), and then you …
In the absence of new suckers, the US government couldn’t send the money
owed to the debt investors at the top of the list.
There are two main differences between Ponzi’s original scam and the
Social Security system
These are, in fact, the same two differences between Ponzi’s original
scam and US government debt.
The interesting thing is that everybody knows this … and yet.
Thomas L Hutcheson
Mar 11 2025 at 10:12pm
Reply
You are under estimating the damage of accumulating government debt
(deficits). If I understand your metaphor correctly there is no
economic loss from these debt mediated transfers.
But that ignores that the amounts of deficit are borrowed and mostly
displace private investment in order to finance the current transfer.
The income not generated by the private investment not made is the
“burden” that an earlier time period imposes on a later period.
Thomas L Hutcheson
Mar 11 2025 at 10:04pm
Reply
I disagree completely with your characterization of Social Security. It
is NOT, should not be, and never has been a pension plan. It is a
government program to transfer income from people in one life
circumstance (not old) to those in another life circumstance (old), just
like automobile insurance transfers income from those who do not suffer
accidents to those that do. Under current definitions of who is taxed
how much and who benefits and by how much, more is being paid out than
is taken in.
Personally, I think the definitions of revenue and benefits are wrong,
mainly becasue revenues are less than outlays whihc contributes to the
federal deficit and diverts resources from private investment to
consumption.
Secondarily I think it is a mistake to use revenues from a capped wage
tax to fund the benefits, as some of the taxed wage income might
otherwise be saved. I prefer taxing consumption, say a consumption VAT,
to generate the revenues for whatever level of benefits we decide to pay
leading to an approximate zero deficit year by year. [A “trust fund
mechanism is fine for avoiding literal year by year changes in the VAT
rate, but I see no value in building up and them drawing down the fund
over decades as the numbers of beneficiaries varies with demographic
changes in order to avoid changes in the rate]
In addition to a VAT being a tax on consumption and not on income, it i
probably easier to change to keep revenues in line with benefits and
probably avoids some employment discouragement. [Probably as not all
participants may see FICA taxes as part of remuneration equivalent to
wages.)
FWIW I think the same logic applies to Medicare, ACA, Medicaid and
unemployment insurance.
https://thomaslhutcheson.substack.com/p/the-ponzi-scheme-scheme
David Henderson
Mar 11 2025 at 11:52pm
Reply
You write:
I disagree completely with your characterization of Social Security. It
is NOT, should not be, and never has been a pension plan.
Reread my post and you won’t see the word “pension” or the words
“pension plan.” So you’re not disagreeing with me, completely or otherwise.
My post was about Social Security being a Ponzi scheme.
Mactoul
Mar 11 2025 at 10:14pm
Reply
Presumably it takes a legion of economists to run Social Security.
So, what does the questionable ethics of SS say about the ethics of
economist profession, generally speaking?
What did the great or leading economists, past or present, Krugman for
instance, say about ethics of SS? Or do they tend to avoid the topic?
David Henderson
Mar 11 2025 at 11:54pm
Reply
You write:
Presumably it takes a legion of economists to run Social Security.
Your presumption is wrong. It takes a lot of actuaries and a few economists.
You write:
What did the great or leading economists, past or present, Krugman for
instance, say about ethics of SS? Or do they tend to avoid the topic?
In the rest of my chapter, I talk about Samuelson praising Social
Security as a Ponzi scheme. But if you want to avoid buying the book,
read the Tabarrok post I linked to. He discusses both Samuelson and Krugman.
Rob Rawlings
Mar 11 2025 at 10:48pm
Reply
I had always assumed that one of the attributes of a true Ponzi Scheme
is that it is mathematically certain that it will eventually collapse –
the need for new investors grows exponentially and cannot be funded
from a finite pool of investors. I do not believe this to be the case
for Social Security. All that is needed is for the current workforce to
be taxed sufficiently to pay the benefits of current retirees. With
appropriate adjustments to the SS tax and (perhaps) benefits paid –
this is almost certainly sustainable.
I’m not a fan of Social Security in its current form but I don’t think
it is a Ponzi Scheme.
Jon Murphy
Mar 11 2025 at 11:13pm
Reply
I’m not trying to be a jerk, but how is your proposal different from a
Ponzi scheme? A Ponzi scheme could be similarly adjusted. The
fundamental problem remains, though.
David Henderson
Mar 11 2025 at 11:46pm
Reply
You write:
I had always assumed that one of the attributes of a true Ponzi Scheme
is that it is mathematically certain that it will eventually collapse –
the need for new investors grows exponentially and cannot be funded
from a finite pool of investors.
That’s your assumption, but there’s nothing in a Ponzi scheme that says
it will collapse. If the pool starts small, it can go on for a long
time–until people find out. That’s why I said:
Whereas Ponzi had to rely on suckers, the government can and does use force.
We have found out about the government scheme, but we can’t get out.
Rob Rawlings
Mar 12 2025 at 12:45am
Reply
Your post does a good job of demonstrating that Social Security is an
ugly government program that will have to be severely adjusted if it is
not to be a huge drag on the economy – but I still quibble that its not
a Ponzi scheme!
Of course it comes down to definitions. I’m guessing based on your
post that your definition might be something like “A Ponzi scheme is a
financial arrangement in which returns to earlier participants are paid
exclusively from the contributions of new participants”. Social
Security clearly qualifies under this definition.
For me however the attribute of non-sustainability is also important as
otherwise the definition would include sustainable non-government
entities such as Burial Societies (and other Mutual Aid schemes) which
most people would not view as Ponzi schemes. These types of
organizations may have to adjust their fees from time-to-time to make
sure they have enough money coming in to meet outgoings. Unlike Social
Security however people who don’t like the new fees can just stop
participating or not join in the first place – and I suppose I can sort
of see why people are saying that Social Security with its mandatory
participation is more like a Ponzi schema (using my definition) that
would quickly become unsustainable (people would not opt-in) if it
were not for this government backing.
john hare
Mar 12 2025 at 4:29am
Reply
At 68, I have been paying in to SS for 54 years as I started paying at
14. Reasonably invested, the money I have paid in would be well into the
millions. No way will I ever get that much value back. I have worked to
make sure that I am not dependent on SS to live the rest of my life.
If a graceful and legal way to wind the Ponzi scheme down and eventually
eliminate it, I would give up any of my remaining “benefits” as part of
the price. Too many people can’t do that as they have planned their
retirement around the Ponzi scheme.
Dennis Bortolus
Mar 12 2025 at 8:36am
Reply
Okay mister smart guy (and everybody else who tells us what’s wrong with
social security .. which we know)…
what is your solution?
We are in too deep. It should have been constantly adjusted over the
years instead of waiting for social security to destroy itself (so that
no one in congress can be the bad guy).
Some writer at the Heritage Group says we would all do better
financially if the money went into an investment fund. Trouble is, she
assumed that employers would put their share of the tax into the
investment fund with yours. HA! why do you think they hate social
security (hint: they don’t want to pay their share … and they sure as
hell won’t give it to you if they lobby enough people in congress to
kill the program)
Here is my idea:
Adjust the brackets so that the top earners get a little less, and
increase the tax amount a little more, and raise retirement age a
little, and raise the cap. Tinker rather than smash.
Anyway. In order to come up with solutions, we should elect smart
people to congress instead of these dumb asses like MTG or Bobberts or
every other idiot we seem to send to Washington.