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Tuesday, July 13, 2010

The Coming Generational Storm: What You Need to Know about America’s Economic Future

Our Intergenerational Wealth-Transferring Scheme Is in Crisis

Boston University’s Laurence Kotlikoff is a serious scholar who has devoted much of his professional life to examining Social Security. What he writes on this issue it’s wise to read. The Coming Generational Storm, co-authored with Dallas-based financial columnist Scott Burns, is a worthwhile book.

Their description of the fiscal nightmare known as Social Security is a must-read for both academics and interested laymen. It’s a credit to Kotlikoff and Burns that they can produce a page-turner for both groups, despite some technical sections on general equilibrium, intergenerational accounting, and actuarial science.

The picture they paint isn’t pretty. Social Security is in crisis because it’s organized as an intergenerational wealth-transferring scheme in which the assets of workers are turned over to current retirees. It’s a welfare program, pure and simple, but a unique one in that it gets its own special tax—a tax on labor.

It is also unique because since the late 1960s Social Security expenditures—though not its revenues—have been off-budget, an accounting rule that would never be tolerated in the private sector where investors would punish such deceit. But it is one that serves the government’s needs because it understates budget deficits year to year. For decades Social Security has allowed the feds to appear less fiscally irresponsible than they really are.

The authors note that at Social Security’s creation, 16 workers supported each retiree. That ratio was achieved because the labor force was so young and because oldtimers just didn’t get that old. (The late John Attarian pointed out that the New Dealers’ purpose in Social Security was no higher-minded than to get older workers to leave the workforce. Their presence was blamed for the failure of New Deal programs to reduce unemployment.) Those were Social Security’s glory days.

But life expectancy has been rising and the worker-to-retiree ratio has been falling. Result: The ratio now stands at 3:1, and over the next 30 years, the figure is expected to fall to 2:1. The longer reforms are put off, the greater the burden placed on future generations to pay for current spending, and it is here that Kotlikoff and Burns make their most compelling case. We have long been told that the national debt represents spending to be paid for by future generations, but we are rarely told that the special accounting rules applied to Social Security (and Medicare/Medicaid) mask the debt’s actual size. In truth, the fiscal gap—defined as the present value difference between the government’s expected expenditures and receipts—is $45.5 trillion. This is six times higher than the official national debt figure.

Kotlikoff and Burns note that this is the government’s number—well-hidden in the fine print of Treasury documents—and that it’s probably a low-ball estimate. What’s more, it was computed before passage of the new Medicare drug benefit. That massive expansion promises to increase the fiscal gap to over $51 trillion. Each year that these programs or the tax system that funds them are not reformed, the fiscal gap grows by $1 trillion.

The book’s chief shortcomings are two. The first is in Kotlikoff and Burns’s personal saving system. While their approach improves on the various proposals currently being discussed in Washington, it still maintains the form of a compulsory saving program with the inherent assumption that individuals are incapable of planning for their own retirement.

Why not simply abolish Social Security outright, cut everyone’s taxes, slash spending, and allow the market to work? There would be more jobs available for workers in short order, resulting in increased wealth creation and greater self-sufficiency across society. (Provision for current retirees does not require continuation of this failed system.)

A second problem with the authors’ approach is that their description of the future and proposed solution assume that the size and continuing growth of the state won’t change. But it seems likely that as Social Security inflicts more costs on the economy, some of the burden of big government will become harder to hide from the masses. The result will be a crisis for politicians, who will find it harder to redistribute wealth. For the majority of Americans, who are net taxpayers (as opposed to net tax consumers), the crisis may actually be an opportunity to highlight the bankruptcy of the state, in both theory and in real life.

While their book is flawed, Kotlikoff and Burns should be applauded for calling attention to Social Security’s moral and financial bankruptcy.

  • Dr. Christopher Westley joined FGCU from Jacksonville State University where he held the rank of Professor of Economics. He is an associated scholar at the Ludwig von Mises Institute. A native of Naples, Florida, he studied at the University of Florida and St. Mary's University of San Antonio, Texas, before receiving his Ph.D. in economics from Auburn University. He has also worked as a Summer Research Fellow at the Acton Institute in Grand Rapids, Michigan.