How exactly does one unwind a Ponzi Scheme? People like Bernie Madoff have done a fine job showing investors, and eventually the American public, how to build one up. Essentially, you use the contributions from incoming investors to pay “profits” out to departing investors. And you repeat this process for as long as the incoming checks are larger than the outgoing checks. When the inevitable tipping point finally arrives – and there isn’t enough new money to pay off all the old money – you skip the border and leave your clients waiting for their next share of the profits…and waiting…and waiting.
To describe American Social Security as such a scheme wouldn’t be much of a stretch. For a system with so many complicated facets, advanced accounting and half-truths, there is one absolute fact: Social Security is not taking in enough money to write all the retirement checks it is obligated to write over the next couple of decades.
So last week, President Obama’s Bipartisan Deficit Commission set out to begin unwinding the scheme. Their proposal, like most things from Washington, was ambiguous at times and difficult to understand. Some suggestions included “creating a new bendpoint,” “reducing replacement factors,” and “phasing into a higher taxable maximum.” But stripped down to the essentials, the plan has some merit. Here are the basics:
• The retirement age will go up to 68 by 2050 and 69 by 2075
• The government will make “hardship exemptions” for people 62 or over who are physically unable to work
• There will also be a minimum SS benefit for those making very little income
• The rich will likely be eligible for fewer benefits while having to contribute slightly higher FICA taxes.
• Cost of living adjustments will be gradually reduced by using a different measure of inflation (Chained CPI)
How does a government back its way out of an accidental Ponzi? Well, something like this proposal. In abstract terms, the Social Security system either has to pay out less, take in more, or both. That means lower benefit payments and/or higher taxes.
And to the credit of the Commission, this proposal would work just fine. Everything about it is built to please both Democrats and Republicans – or rather, to displease both Democrats and Republicans. For starters, the commission is co-chaired by a member of each party, lest the whole thing be billed as a scheme to usurp power by the “liberal elite,” the “radical right” or some other political affiliation that actually makes most people nauseous.
Then there’s the mechanics of the proposal. To appeal to the left, there are several provisions aimed at the underprivileged and disadvantaged. In essence, no one who REALLY needs a retirement insurance plan will be hung out to dry. Those dastardly “top earners,” on the other hand, will have to pay more. And the left’s precious “middle class America” will be just Goldilocks…tucked in that warm sweetspot of relatively few benefit cuts and minimal tax increases.
For the right, the whole plan should appeal to the true blue Republicans (are there any?) that value fiscal responsibility above all. Allegedly, for every $1 of higher taxes in this plan, there’s $3 in spending cuts. Of course, hiking taxes sounds like nails on a chalkboard to that crowd, especially during a recession. But the plan also proposes to cut individual tax rates to a maximum 23%, which would counteract the higher FICA taxes that would help pull Social Security out of the red.
So, what we’ve got here is a fair, bipartisan proposal. It’s flawed, of course, like any other first attempt. But is it that insufferable? Apparently so:
• “This proposal is simply unacceptable,” lame duck Speaker Nancy Pelosi said flatly, and in the same breath insisted we “do what is right for our children and grandchildren’s economic security.”
• “We’re not talking about cuts in Social Security,” blackballed Jim DeMint, supposedly one of the biggest Republican debt and deficit hawks. He promised to somehow fix this mess “without cutting any benefits to seniors or veterans.”
• “Especially in these tough economic times, it is unconscionable to be proposing cuts to the critical economic lifelines for working people, Social Security and Medicare,” said AFL-CIO President Richard Trumka. “The very people who want to slash Social Security and Medicare spent this week clamoring for more unpaid Bush tax cuts for millionaires.”
• “Deficit Reduction Plan Draws Scorn From Left and Right” headlines the liberal New York Times, noting that “Republicans face intense pressure from their conservative base and the Tea Party movement to reject any deal that includes tax increases.”
• “Commission Offers Controversial Solutions to Axe Deficit” reports conservatives at FOXNews
• Even the Independents hate it! The Commission’s proposal is “extremely disappointing and something that should be vigorously opposed by the American people,” said Vermont’s Bernie Sanders, the House’s only official Independent.
Dear reader, bad-mouthing the Commission’s proposal on fixing Social Security might be the most bipartisan effort in the history of Washington DC. Alan Simpson, the Republican Co-Chair of the Commission, half joked on Thursday, “We’re entering the witness protection program.”
Simpson and his Commission colleagues forgot they were in the business of politics. And politics, of course, is the business of being re- elected. It doesn’t matter if none of the changes proposed would be felt for years, and that not a single current Social Security beneficiary would be affected. What does matter is that Nancy Pelosi, Jim DeMint, Bernie Sanders and all their brood can hear the 2012 campaign ads already… “Pelosi voted to CUT your Social Security benefits”… “Jim DeMint abandoned his Republican roots and voted to RAISE your Social Security taxes,” and on and on.
By even hinting at messing with Social Security, no matter Republican or Democrat, any politician is ruffling the feathers of the greatest golden goose of them all: seniors. Is there any demographic as coveted and important to election results as the grey hairs? No, there isn’t. Seniors, much thanks to the entitlement programs their generation built, have plenty of time and wherewithal to shuffle over to the polls and vote down any candidate with the political fortitude to cut benefits…whether the threat to their actual retirement is real or just perceived.
Thus, the Deficit Commission’s proposal is dead on arrival, shot down by the most bipartisan hunting party assembled in years – all of whom are acting on behalf of a constituency that claims it cares for future generations, but has historically voted to save its own skin. Entitlement reform? It’ll have to wait.
“Democrat or Republican, Elephant or Donkey, nothing much ever seems to change,” famous bond investor Bill Gross wrote in his monthly letter to investors earlier this month. “Each party has shown it can add hundreds of billions of dollars to the national debt with little to show for it, or move our military from one country to the next chasing phantoms instead of focusing on more serious problems back home. This isn’t a choice between chocolate and vanilla folks, it’s all rocky road: a few marshmallows to get you excited before the election, but with a lot of nuts to ruin the aftermath.”
With that in mind, nuts to you Republicrats, and you too, Bernie Sanders… and to anyone else who wants to reduce the deficit without making a single sacrifice. Interestingly, one of the only Washingtonians making sense last week was President Obama. “If we are concerned about debt and deficits,” he said, “then we’re going to have to take actions that are difficult and we’re going to have to tell the truth to the American people.”
Well, you know the truth. Ready to take action?
for The Daily Reckoning Australia
Editor’s Notes: Ian Mathias is the managing editor of Agora Financial’s Income Franchise, where he writes and researches about retirement, dividend and fixed income investing. Much of his work is featured in The Daily Reckoning and Lifetime Income Report – Agora Financial’s flagship income investing advisory.