This series of papers proposes solutions to American governmental problems that could be addressed by a Constitutional Convention. Please refer to American Rebirth Paper No. 0 to understand additional context of this paper and subsequent papers. American Rebirth Paper No. 6 addressed problems with the Federal budget and proposed solutions to alleviate those problems. As stated in American Rebirth Paper No. 6, it is proposed that the Social Security and Medicare programs be eliminated. This American Rebirth Paper No. 7 will address Social Security. Paper No. 8 will address Medicare and other Federal health programs.
When first enacted in 1934, Social Security was intended to provide retirement income to the elderly that could no longer work. At that time, most people did not have jobs that provided a pension, and there was no 401K program to build a retirement nest egg. Because the standard of living was much lower, many people had very little of their income left over after paying for the basics of housing and food. So, at the time, Social Security made some sense. Just give us a little of your income now (along with having your employee contribute) and we, the Federal Government, will take care of it until you can no longer work, then give it back to you in your old age, and if you live long enough, you will get more back than you’ve contributed.
For people born in 1938, the full retirement age was 65 years and two months (full retirement age is the age at which you receive full benefits; one can access benefits at a younger age, but the benefit amount is reduced). In 1938, the life expectancy for Americans was 61 years, over four years less than the retirement age. Social security payments were expected to be a few years for most. Over time, the retirement age, by law, has been slowly increased such that those born in 1960 or later have a full retirement age of 67 years. In comparison, the life expectancy as of 2019 is 79 years, over 12 years more than the full retirement age. As a result, those that retire today are likely to receive payments for 12 years.
After World War II, the so-called “baby boom” occurred between 1946 and 1966. Many families had held off on having children during the war. The young men and women who participated in the war effort got married and started having children, lots of children. These children started to enter the work force in the mid-sixties, and by 1980 most of the baby boomers were working. A booming economy after the war along with more women entering the work force resulted in an influx of cash into Social Security (through payroll deductions), resulting in a surplus. The surplus was used to buy US Treasury Bonds, and the Treasury then gave the money to Congress, which, much like drunken sailors couldn’t resist the temptation to spend, spend, and spend some more.
The bonds did pay some interest that was another source of income in addition to the payroll deductions. So, while Social Security was handing over the surplus to the Treasury, the Treasury at the same time was giving some back in interest.
Starting in about 2009, the baby boomers began to retire. Families began having fewer children starting in the 70s, resulting in an aging population demographic. As a result, there are fewer young people working to pay into Social Security while there is an increase in the number of retirees drawing money out of Social Security. The surplus into Social Security decreased precipitously starting in 2009 and reached zero in 2020. Projections are that Social Security will now be in deficit going forward with more expenditures than revenue.
You may have heard that Social Security is projected to be “bankrupt” in 2034. Starting in 2020, Social Security started to cash in the Treasury bonds (bought when they were running a surplus) to cover the deficit. Year 2034 is the year that the last of these bonds will be cashed in, at which time Congress will need to address how to fully fund Social Security.
The Social Security program is similar to a Ponzi scheme, which is a form of fraud that lures investors and pays profits to earlier investors with funds from more recent investors (some of the following text is taken verbatim from Wikipedia). Victims of a Ponzi scheme are led to believe that profits are coming from legitimate business activity (e.g., product sales or successful investments), and they remain unaware that other investors are the source of funds. Investors that are on the ground floor of the scheme can do very well with their investment as the person or organization running the scheme want to entice new investors by showing how great the earliest investors are doing. A Ponzi scheme can maintain the illusion of a sustainable business as long as new investors contribute new funds, and as long as most of the investors do not demand full repayment and still believe in the non-existent assets they are purported to own.
In the 1920s, Charles Ponzi carried out this scheme and became well-known throughout the United States because of the huge amount of money that he took in. His original scheme was based on the legitimate arbitrage of international reply coupons for postage stamps, but he soon began diverting new investors' money to make payments to earlier investors and to himself. Unlike earlier similar schemes, Ponzi's gained considerable press coverage both within the United States and internationally both while it was being perpetrated and after it collapsed – this notoriety eventually led to the type of scheme being named after him.
Ponzi schemes all inevitably collapse. Generally, it starts when the person running the scheme is unable to find enough investors and is then unable to make interest payments to investors. As the amount of money invested grows, more and more investors are needed to support the growing fraud. When investors start to hear about or are faced with non-payment or late payment of interest on their investments, many begin to cash in their investment. This starts a snowball effect like a run on a bank, where everyone that has invested finds out that they may have lost it all. Once the collapse begins, the fraud is quickly exposed.
Social Security is, perhaps, even more insidious than a Ponzi scheme. While the government is upfront about what your taxes will be used for while promising you will get your money back with interest, there is no way to opt out of the taxes, other than breaking the law. Imagine if someone running a Ponzi scheme had the ability to force people to invest. I would think an organized crime syndicate would find this ability to be an ideal situation. Just like a Ponzi scheme, Social Security’s financial situation appears to be rosy – until 2034 when the surplus has been consumed. What will Congress do? So far, they are content with not facing the looming problem. Any effort by a politician to address the issue is immediately vilified by the opposing party as a person that wants to take away the hard-earned retirement funds from seniors.
President George Bush tried to make some headway towards reforming Social Security after he was reelected in 2004. He addressed the fiscal and demographic pressures moving the system toward eventual bankruptcy and recognized that for young people there is a better way to plan for retirement, namely personal retirement accounts such as a 401K plan: “As we fix Social Security, we also have the responsibility to make the system a better deal for younger workers. And the best way to reach that goal is through voluntary personal retirement accounts.” President Bush argued that personal retirement accounts would offer younger workers a “better deal” where their rate of return would be higher than the return offered by Social Security. Also, unlike Social Security, personal retirement accounts could be passed on to children and grandchildren and “best of all, the money in this account is yours, and the government can never take it away.”
President Bush was absolutely right about the looming problems with Social Security and the idea that younger people would be better off to invest in a personal retirement account. Numerous analyses of the rate of return from Social Security compared to a 401K-type plan have shown that Social Security is inferior to a 401K plan. More importantly, if you die before you’re able to take advantage of your Social Security, you may not be able to pass the money you have contributed to the program on to your heirs. If you are married, your spouse can get some additional benefit, but only at a lower amount than what you would have received if you lived. If your children are adults, they will get nothing. If you are faced with any emergency, such as a pending bankruptcy due to a health crisis, you cannot access any of the money you’ve contributed to Social Security.
If President Bush was on-target with at least starting a conversation on Social Security reform, why did his effort crash and burn? Unfortunately, in politics, demonizing your opponents has a much greater upside than showing you can “work across the aisle.” Democrats (as have Republicans, but perhaps not as much) have used demonization as their primary modus-operandi to gain political favor amongst the voters. Demonizing anyone that even suggests Social Security should be reformed is easy to do – how dare you take away Social Security from seniors! – and the Democrats were quick to use this tactic against Bush. As a result, nothing happened, and Bush’s efforts went nowhere. Even Republicans were loath to support Bush as they were reluctant to be thrown into the same box as Bush.
The bottom line is this: if Social Security did not exist today, we would never enact such a system because there is already a much better system in place, namely Individual Retirement Accounts (IRAs) and 401K plans. Fully informed young people, given a choice between putting their money into Social Security or a 401K, will chose the 401K plan. This decision is made easier with the knowledge that in 2034 Social Security will be “bankrupt.” Do you have any confidence that Congress will be able to solve this problem? Simply printing the extra money needed to keep Social Security benefits at their current level will lead to even greater deficit spending than we are currently faced with. Put simply, Social Security as it currently operates is unsustainable, and unless cuts are made to the benefits, the US economy will be faced with run-away inflation and low growth. Raising taxes will not help, either, as this will cause even lower growth. Unfortunately, there is no easy solution.
Just like a Ponzi scheme, Social Security is headed for a collapse. Those that have paid into the system for decades will continue to demand they be paid back. Those that are being forced to pay into the system will realize that Social Security is a bad investment and will revolt against having to pay more in taxes. I have no faith that Congress can solve this problem because the vast majority of the House and Senate members will be more concerned with being reelected than actually working together to solve a major problem.
However, a Constitutional Convention could solve the problem. Anyone that agrees to participate in a Constitutional Convention (I hope) would be focused on making some serious effort to revise the Constitution, and would, therefore, not be concerned about his political future, but would instead be concerned about the future of the United States. If that is the case, then the representatives to the Constitutional Convention would work to correct serious problems, including the looming bankruptcy of Social Security.
First, and foremost, Social Security should be ended and replaced with a program that requires all employers to put part of every employee’s paycheck into a 401K retirement plan. The amount contributed by the employer would be the same as the current amount they are required to pay into Social Security; for employers, the amount they contribute to employee’s retirement is the same. Employees should also be required to contribute some of their pay into a retirement plan. This approach is a good deal for employees – their employers contribute to a retirement plan, and they have a retirement fund that will grow over time to provide a nest egg upon their retirement that is better than Social Security and allows them to bequeath the savings to their heirs upon their death. In this scenario, Social Security payroll taxes are eliminated.
Converting to a 401K-type plan is the easy part of the transformation. The hard part is figuring out what to do with the citizens that have paid into Social Security for many years and are expecting to get what they’ve paid into the system back. Unfortunately, like all Ponzi schemes that collapse, there is plenty of pain to be spread around. The best, and most ethical approach, is to attempt to spread the losses across many people while attempting to protect those that would be damaged the most by the lack of Social Security. With that in mind, I offer the following ideas for consideration. A detailed analysis of the financial situation for individuals and for the United States is necessary to arrive at a final approach.
Here are my ideas for consideration:
1. Everyone younger than 45 years old will get no income at all from Social Security.
2. All retirees will need to submit information on other sources of income they have other than Social Security, including 401Ks, IRAs, pensions, and other income they may have (e.g. rental income from property they own). If this income exceeds a certain amount (e.g. 5 percent of a 401K plus a yearly pension is more than $100,000 per year), the retiree is no longer eligible for Social Security benefits. A sliding scale could be used for these cases, where retirees are able to retain from 0 to 100 percent of their Social Security benefit.
3. People between 45 and 67 years old will have no guarantee of Social Security benefits upon retirement. Just like those that have already reached retirement age, they will be subject to a necessity test and will only receive benefits if they do not have sufficient income from other sources.
4. A national sales tax will be used to provide funding until such time Social Security benefits are no longer being paid out. The sales tax will be adjusted downward as benefit requirements fall and will be eliminated once benefits are no longer required.
The Constitution would be modified to enact the above changes. In addition, the Constitution would state that the Congress shall have no authority to modify the retirement plan without a Constitutional amendment.
In addition to retirement, Social Security also includes disability insurance. Expenditures for disability are about 14 percent of the total Social Security budget. Expenditures, and the involvement of the Federal Government in providing support to disabled persons, will be covered in another American Rebirth Paper. As a precursor to that Paper, it is proposed that the Social Security disability program be eliminated and replaced with a new approach, to be described in a subsequent Paper.