Tuesday, May 26, 2015

Piketty Did Not Endorse Social Security Fraud

Kevin Williamson takes us back to some dishonesty we saw a decade ago:
The Left’s favorite economist of the moment, Thomas Piketty, organizes his argument in Capital in the Twenty-First Century around the statement r > g, where r is the rate of return on capital and g is the rate of economic growth ... r > g is a stronger argument for privatizing Social Security than it is for a global capital tax.
After telling workers what they put into the Social Security Fund, he jots off this lie:
That money is not invested, so there is no return on it.
The Trust Fund does put these funds into government bonds which earn the real return to government bonds but I interrupted Williamson’s parade of lies:
Professor Piketty estimates that the return on capital over the coming decades will be between 4 percent and 5 percent; historical returns to equity investments run about 7 percent, but let’s be conservative and split Professor Piketty’s estimate, assuming a 4.5 percent return.
So many rates of return, so little insight. What is at stake here? Let’s assume the risk-free real return is 3 percent and add a 4 percent premium if someone chooses to hold risky stocks instead of government bonds. And let’s also assume some worker was able to accumulate $1 million under Williamson’s preferred world of privatization. Even if this worker was able to avoid the bad advice and huge fees from the financial advisors that Williamson is lobbying for, he is likely to get a 5 percent return if he chooses to put half of his portfolio into stocks and the other half into bonds. After all, this worker knows stocks are risky. I sometimes wonder if the champions of privatization do as their writings seem to suggest they don’t get Finance 101. So back to Williamson’s complaint about our current system:
You pay, officially, 6.2 percent of income up to $117,000 a year for Social Security. Your employer pays another 6.2 percent, and many economists and nine out of ten people who were born at night but not last night assume that you really pay that part, too, in the form of lower wages.
In our example suppose that this has taken $400,000 of our worker’s portfolio and put that into government bonds earning 3 percent. Our worker – who we are assuming knows more finance that apparently Williamson does – redoes his portfolio optimization putting $100,000 of his $600,000 into bonds and the rest into stocks. The basic message is that his retirement income is exactly the same. This is basic finance and maybe I’m being unfair. Maybe Williamson knows all of this. If so, then he has chosen to lie to his National Review readers hoping they are this stupid.


Sandwichman said...

"he has chosen to lie to his National Review readers hoping they are this stupid."

Evidence suggests he is at least accurate in this regard.

Bruce Webb said...

These kinds of calculations never discount for the Survivor's and Disability Insurance during the workers work life (just because you don't collect doesn't mean it didn't have value) and rarely account for the costs of converting a retirement portfolio into an actual lifetime annuity, still less one that is inflation protected.

Moreover they typically assume a ROI on equities that could only be achieved with much better economic numbers than are consistent with the conservative (some say pessimistic) assumptions of the SocSec Trustees Intermediate Cost Alternative. Plus they generally use a subject who earns amounts near the cap for a lifetime and who consequently gets a much lower replacement income ratio than lower income workers.

That is basically they make the case that Social Security is not a really, really good deal for someone who never suffers any adversity throughout their whole lifetime and earns income at or above 200% of median. Which is true enough and the reason we have the income cap to start with - lucky duckies at some point don't need the same kind of income insurance that most everyone else does. But by that same token privatization and personal accounts CAN'T work for the entirety of the workforce. Because returns on equity ultimately rely to a large degree by compression of labor share across the board. We can't all be residents and customers of the Lake Woebegon Investment Club where everyone's returns are above average and nobody ever collects on insurance.

So yes this argument works pretty well for those in the 75-84% of lifetime income band. For the rest of us not so much.

Bruce Webb said...

People with better math skills than me might Google on the paper popularly called 'BDK' which very interestingly I find on Piketty's site: http://piketty.pse.ens.fr/files/BakerDeLongKrugman2005.pdf
The paper is called 'Asset Returns and Ecomomic Growth' and rapidly moves from English to Equationese but is convincing up to the point that I loose track. Also worthy of note are the three authors who few people I think would imagine actually co-authored a paper and who were in 2005 less known to folk outside the econoblogosphere than they are today. Anyway BDK tells much the same story as I tried to. I think.

Unknown said...

"Even if this worker was able to avoid the bad advice and huge fees from the financial advisors that Williamson is lobbying for, he is likely to get a 5 percent return if he chooses to put half of his portfolio into stocks and the other half into stocks."

There is something garbled here. One of the "stocks" should be bonds, I assume.

But I am not sure which one.

Kaleberg said...

".. you really pay that part, too, in the form of lower wages."


At least he has a sense of humor.

ProGrowthLiberal said...

Unknown - good catch!

Don Levit said...

The trust fund investment in government bonds (or any bonds) must have principal in which to invest
The principal was loaned to pay for other government expenses so the cash available to invest is zero
Zero times any interest rate is still zero
Picketty is right
There are no funds left to invest
Don Levit

ProGrowthLiberal said...

"The trust fund investment in government bonds (or any bonds) must have principal in which to invest."

Don Levit just loves to repeat this old canard. I guess taking people's pension contributions and giving them to someone else is OK by Don.

Don Levit said...

Pension contributions are invested in specific assets
It is a very different situation if the contributions were loaned to the participants
The administrators would be in jail
Don Levit

Bruce Webb said...

Don Special Treasuries ARE specific assets.

The Disability Insurance Trust Fund has been taking interest payments IN CASH on its "Phony IOU's" since 2006. And has been redeeming Special Treasuries IN CASH since 2010 and in recent years even in advance of the face maturities of those Special Treasuries (because it is the ability of the Trustees to redeem them at par at any time that makes them 'Special'). And every penny of that interest and principal has been honored by Treasury and every check issued by SSDI has cashed.

Now you do have a point. Well two. Because of the one your head. Current Trust Fund assets are not available for investment. Because Special Treasuries are not marketable. On the other hand since the proceeds of those Treasuries are fully committed to totally predictable outlays and are FOR THAT PURPOSE 100% liquid this isn't an issue.

You need to get out more. Social Security was cash flow negative from 1971 to 1983 as the then Trust Funds were cashed out. There was never a single question as to whether that outflow of cash from Treasury was somehow illegitimate because "The Fedeal Government Cannot Owe Itself". Instead all those Special Treasuries were honored exactly in consonance with then and now current law - as obligations fully backed by Full Faith and Credit.

You can spin around on the head of your logical pin as much as you like and chop logic like a one man Cuisanart. The Treasury has and will continue to honor the claims of the ASSETS of the Social Security Trust Funds right up to the point of exhaustion. Which to repeat they have been doing right since 2006 in the case of the DI Trust Fund. Even as GWB was convincing gullible rubes like you that those were all just "Phony IOUs". Well if so why have the DI checks been cashing for all these years?

Come on Don, you know all this. And while it may sell at Alpha or BI why are you still trying to sell it here?

Don Levit said...

They are not phony IOUs in that the government can and has redeemed them
I am confident will continue to redeem the Treasury securities because the deficits they cause matter little whe the government can print money at will because of this full faith and credit backing them
The reality of continued compounding deficits caused by these redemptions of Treasuries, will, I believe shatter the illusion that these
IOUs are prefunded
They were prefunded until the money was used to pay for other government assets
And while these Treasuries are assets to the SS trust fund, they are liabilities to the Treasuru so it is an accounting wash worth zero
Don Levit