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Thursday, May 5, 2005

By Ralf Seiffe

OPINION - If you’re still reading the traditional media, you’ll know that the president’s 60-day offensive on Social Security is foundering on the shoals of the New York Times. Democrats have convinced the thinkers on 43rd street and elsewhere that these accounts won’t work.

Once, thoughtful Democrats actually advocated mixing in market returns to improve retirement and to reduce demands on the existing system. Now that’s all changed. Despite Democrats’ one-time support, private accounts are now the worst idea since Smoot-Hawley, New Coke or Thalidomide.

Democrats now take the position that investing in America is too risky for Americans.

Perhaps they would prefer that the Chinese repatriate the torrent Wal-Mart dollars and invest them here, buying U.S. equities. That path would, of course, shield us from stock market risk but, in a remarkably short time, Americans would no longer own America.

So what’s changed for the Democrats? Why do they now posit that these voluntary accounts, which divert less than a third of the payroll tax, are so dangerous that they cannot even be discussed in the halls of Congress?

That position is ludicrous but let’s take their objection at face value.

Let's see if there’s a design for private accounts that eliminates the Democrats' ostensible worry. Students of finance understand that risk really means uncertainty of returns. This means that risk increases as predictability of a future event decreases. Risk does not mean unfavorable variation; it simply means that a future investment outcome might be higher or lower than one predicts today.

Actually, with that in mind, there is no problem in designing a “risk-free” private Social Security account. In fact, the president has already suggested such an account which would consist of a government bond fund.

Here’s one way to do it. When the government collects payroll taxes, it immediately spends the money. Most of it goes to pay Social Security beneficiaries but the surplus, as much as $150 billion each year, is spent for other purposes. The overspent money, which rightly belongs to the Social Security system, is “borrowed” by the government and it trades an IOU for the cash.

These chits are accumulating in filing cabinets in West Virginia where the Social Security trustees store them. They are government bonds that enjoy the full faith and credit of the United States and in that sense, they are no different that treasury bonds that trade in the pits downtown or on the electronic capital markets.

These bonds do differ from regular government securities because they are not marketable. Because they cannot be sold---or foolishly spent---they make the perfect asset for long-term pension systems.

Why not create private accounts by simply distributing those West Virginia bonds to Social Security recipients?

Rather than sitting in filing cabinets in Byrdland, actuaries could calculate an equitable distribution of these assets based on age, prior contributions and, if necessary, the recipients’ financial condition, a concept the president seems to have embraced.

Moreover, the maturities of the bonds could be adjusted to reflect a national retirement age of the recipient. Going forward, new bonds could be issued to future workers.

Bonds in a personal portfolio would have a specific interest rate, a date certain for maturity and have the taxing power of the United States to guarantee payment. With these features, there would be no risk of owning these U.S. bonds because there is no uncertainty about future payment. Even if the owner dies, the bonds would still pay off at maturity.

Now, consider Social Security.

Payments made to the existing system do not purchase an asset, risky or otherwise. Unlike a bond with a certain maturity, a worker expecting Social Security payments cannot predict their retirement date because it’s subject to congressional redefinition. The payroll tax rate and the amount subject to taxation will increase, further depressing the make-believe investment “return” of Social Security. Worst, a worker who dies before receiving benefits suffers a 100% loss on his Social Security “investment”.

Social Security has real uncertainties. No one can predict how much a beneficiary will receive, when the benefits will start or how long they will last. It is possible to lose it all through premature death or a petulant future Congress. This unpredictability condemns Social Security as a much “riskier” system than a private account holding assets of utterly predictable behavior.

Opponents of private accounts know all this, of course. They know objecting on the basis of risk is not only wrong, it is disingenuous.

It strongly suggests that there is a different motive for their hostility. Democrat may succeed in hoodwinking Americans with this specious “risk” argument but by promoting it, they filch a temporary political advantage at the cost of American’s long-term retirement security.

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Ralf Seiffe advises business start-ups and product launches from Chicago, Illinois and is a political analyst and columnist for the Illinois Leader.