The case for privatization

As things stand today, the government spends 100 percent of the Social Security funds it receives and promises to pay all future Social Security payments out of future tax collections. Today, there is nothing there to pay future social security payments. Nada. Zilch.

If Social Security funds had been invested in the stock market, the fund would have temporarily lost value. However, the fund would have been making significant gains in the previous years, cushioning this loss. Today, the fund would contain a very large portfolio of stocks that could be used to fund future Social Security payments. Furthermore, this market drop would be a great buying opportunity for the Social Security fund, which would profit handsomely when the market comes back.

The stock market would have to drop 100 percent and never come back before the stock market funding model would be as bad as the current Social Security funding model.

Michael Hansen
Leawood

Comments

[Marctnts]

Jack,

You need to read pmcw's initial link. The proposal outlined (which I'm not sure how I feel about) specifically addresses the questions you raised.

[jack]

"If ifs and buts,
Were candy and nuts..."

Okay, so if FICA funds had been imvested here or there things would be different. They weren't. What is, is.

So the question becomes, if you are going to change it, how are you going to do this while protecting those who don't have time on their side? Telling someone 55+ "you are just S.O.L. because we need to change this," seems a little harsh.

My first suggestion for change would be for the government to cease and desist from stealing out of the so-called "trust fund". Actually put the trust fund money some where safe. As opposed to the government "loaning" the money to itself in order to hide the actual size of the deficit.

From there on out, I am at a loss. We owe it to those who have spent a life time paying in to return something to them. The other option is elderly people starving, being tossed in the street and/or eating dog food while heating their home with charcoal. Some of us are old enough to remember those "good old days".

My challenge to the learned out there? Make serious suggestions as to how to protect those without the protection of time, while improving things for the future. Do this while NOT George Bushing the federal debt any further.

[pmcw]

"Personally, I would prefer a company to reinvest it's free cash flow than pay a dividend if they are on a growth curve that exceeds the dividend payout."

Casady, I couldn't agree more. However, tax treatment of dividends effects this equation and, as it was prior to the Bush tax cuts, led to irresponsible investments in growth. Since dividends were hit first by 35% corporate tax and then by as much as 39% federal tax and as much as 10% state tax, the equation was heavily skewed towards making very high risk growth investments.

When money is returned to investors via dividends a large amount of it finds it's way back to the market where it is a part of capital formation that tends to seek optimal returns. This system works best when not heavily skewed by tax policy.

[Casady]

Thanks PM. I'm painfully aware of dividend tax policies. Personally, I believe that companies should not be allowed to deduct dividend payouts since these are a portion of after tax profits and enhance the attractiveness of company stock, I do, however believe that dividend income should not be taxed as income as all but $400 a year was before the Bush tax cuts were enacted. As you know, this represented the double taxation trap. As for companies incentive to pay dividends, I think that really depends on where a company lies on the growth curve and how that growth is reflected in the company stock price. Personally, I would prefer a company to reinvest it's free cash flow than pay a dividend if they are on a growth curve that exceeds the dividend payout.

[pmcw]

Casady, All the data is data I've collected and pounded into a spread sheet that includes annual earnings of the companies in the index and the dividends paid. Dividend reinvestment is a big part of the equation.

Due to recent changes in tax code, dividends are finally reemerging - even most tech companies (I follow roughly 200) are paying dividends now - some being pretty decent.

Companies are not allowed to take a tax deduction for dividends paid, yet until the Bush tax cuts were enacted, investors receiving dividends (includes virtually all mutual fund investors) paid tax on dividends at the normal income rate. The change to 15% incentivized companies to move to a more generous dividend policy.

Prior to this change, the incentive to pay dividends simply wasn't there. Therefore, corporations used the money to make acquisitions (we saw a flood of this in the late 1990's) that were often not good deals. Corporations also used their excess money to buy back stock - often at unrealistically high prices - again, bad behavior encouraged by dumb tax code.

Sorry for straying off subject, but if you want to enhance investor returns and optimize the job creation in America, one of the best things that could be done is to reduce corporate tax rates and keep dividend taxes very low.

[Gary]

I don't think that the plan ever was for the government to make private investments. Instead, it would have allowed individual wage earners to elect (or not elect) to send part (not all) of their SS contributions elsewhere than into the gaping maw of the government.

[Casady]

Good Morning pmcw(and Marc):

While I agree with the your contention on the mismangement of SS, I've run a couple of ad hoc analyses on S&P and DJIA gains and I am not coming up with double digit gains. My results always come up in the 8% to 9% range. My only conclusion is I am omitting the dividend factor. Do you have a link to your analysis somewhere? If not, could you outline the key parameters? I'm always up for learning and adopting different modeling approaches. Thanks.

[pmcw]

"There's the biggest problem I have with privatization schemes that seek for the government to invest as an entity. It gives the government de facto control of the market. Where Uncle Sam moves "our" money (which after time would be a considerable portion of the whole) would have the effect of "controlling" the market."

There are few things that scare me more than government investing in the private market. This is not the best way to manage the problem. Please see the report linked in my previous post for details on how the system works and how it can be fixed.

[Marctnts]

"Today, the fund would contain a very large portfolio of stocks that could be used to fund future Social Security payments."

There's the biggest problem I have with privatization schemes that seek for the government to invest as an entity. It gives the government de facto control of the market. Where Uncle Sam moves "our" money (which after time would be a considerable portion of the whole) would have the effect of "controlling" the market.

I'm amazed at how many "free-market" advocates also advocate this type of plan. I guess there's always the possibility that invested finds would be "individually directed", but without some sort of safety net (or 300 million potential mini-bailouts), I think the likelihood that the government would re-take control of individually directed funds would be great.

Then again, it looks like we're going to have a partially nationalized banking industry. Maybe taking the next step and going ahead and nationalizing the rest of the market isn't so bad...

[pmcw]

Well stated Michael, but there is more to the story. Due to the fact Social Security funds would be invested on a regular basis over a working lifetime (dollar cost averaged) the odds of a very solid double digit return are significantly increased. As a matter of a fact, if you use the S&P500 as a model and start investing regular amounts on a regular basis over a working lifetime (47 years) the end result is always a double digit return - ALWAYS.

To learn more about how Social Security is mismanaged, see www.nextinning.com/socialsecurity2.php