America is Going Broke

The largest national debt of any country in the world is that of the U. S., where the gross Federal public debt reached 486.4 billion dollars on June 30, 1974. This is expected to climb to 508 billion dollars by June 30, 1975. This amount in dollar bills would make a pile 30,073 miles high, weighing 428,102 tons.

--The Guinness Book, of World Records, 1975

The Guinness Book is wrong. Though the national debt exceeded the 508 billion dollars estimated for June 1975 and has been growing at the rate of one or two billion dollars a week, it is dwarfed by the liabilities of the Social Security system. Known to its defenders as a "compact between generations" and to its detractors as "the biggest chain letter in history," the Social Security system now has liabilities in excess of 2.4 trillion dollars.

If you'd like to develop some perspective on a figure this size, 2.4 trillion dollars is about twice as large as the gross national product (an unfathomable number in its own right) and in the same league, give or take a continent or two, with the gross world product.

It's also about equal to the value of all the financial assets owned by all Americans, including all corporate stock, all corporate bonds, all Government securities, all cash, all demand deposits and savings and all pension-fund rights. The Social Security system owes a sum about equal to what everybody has.

These liabilities are the result of legislative promises to pay present and future beneficiaries an income so that we will avoid the distasteful sight of poverty, starvation and death among the elderly and disabled. The total liability figure is arrived at by mixing a small horde of accountants with a crowd of actuaries in a building full of computers and calculating the value of all future payments to all future beneficiaries over the next 75 years. While quibbles over minutiae may shift the liabilities up or down a few hundred billion, it is a fact that Social Security now mails 31,000,000 Americans monthly checks of an annual value in excess of 67 billion dollars. Fabled corporate America has fewer than 29,000,000 beneficiaries, who receive less than 30 billion dollars in annual dividends; and the whole thing could be had, lock, stock and barrel, for less than a trillion.

The assets of the Social Security system are easier to understand. That's because they're so insignificant. The Social Security Trust Fund amounts to less than 60 billion dollars, less than a year's benefits at the current rate of disbursement. This is little more than petty cash when measured against the benefit commitments and means the system is short some 2.345 trillion dollars and has two and a half cents in assets for every dollar of liabilities, a ratio unrivaled by any intentional fraud, including that of the ill-famed Billy Sol Estes.

The Social Security Administration is being forced to liquidate its tiny pool of assets to meet its growing benefit commitments. The trust fund will be gone sometime in the early Eighties. Then the Social Security tax will have to rise sharply or Social Security will have to vie with competitors for a share of the money raised through personal and corporate income taxes. The most likely result will be some combination of both--higher Social Security taxes and money from general revenues. In the end, it means higher taxes, because public debate is over which pocket to take the money from, not whether or not the money should be taken at all.

Some would call a situation in which liabilities exceed assets by 40 to I a bankruptcy. Certainly, in any private or commercial situation, the outraged creditors would pull the plug and force a bankruptcy long before the assets had been totally dissipated. Corporate pension plans are regarded as skating the edge of irresponsibility if less than 75 percent of their future benefit commitments are funded with cash. The pension-reform act of 1974, which required years of pious legislative rhetoric to produce, was inspired by a combination of occasional irregularities in some pension funds and the tendency of corporations to fund their pensions with promises. The Western Union Corporation is a good example; in 1971, it owed its fund $364,000,000, or 44 percent of the net worth of the company. Uniroyal was in a similar position, owing one third of its 1.3 billion dollars in assets to its pension fund. What this means is that 33 cents of every dollar the shareholders think they own is actually owed to the company's employees--a situation few company presidents are eager to explain, because they have provided themselves with pensions even more generous than those provided the workers.

While the Congress was expressing righteous indignation at corporate America for its unfunded liabilities, it blithely allowed the unfunded liabilities of the Social Security system to burgeon to the point of absurdity: Social Security owes its fund 82 percent of the net worth of the American public. We regularly experience this liability in the form of pay cuts as the Social Security tax rises each year. Those at the top of the taxable-income scale for Social Security have seen their annual payment increase from $144 in 1960 to $824 in 1975, an amount that is matched by the employer.

Some would say Social Security cannot be compared with private pensions because it is public and was never meant to accumulate assets. The American Social Security system is "pay as you go," a younger generation of workers financing the retirement of an older generation. Hence the compact between generations. The trouble is that future workers will balk at the bill when the payroll tax climbs to 23 percent, a rate predicted by one Senate study. Doubters need only consider the effect of such a tax on their own incomes to realize the lack of enthusiasm with which our children will pay up.

The idea of bankruptcy is played down by authorities; the Social Security system, they argue, can't go bankrupt, because it is supported by taxes and the power of the U. S. Government. But the power to tax, however impressive, is not infinite and any assurance based on it avoids the real issue.

Using an optimistic set of assumptions about future birth rates, employment, productivity, real wages and inflation, the total gap between Social Security revenues and benefits over the next 75 years is expected to be a monstrous 1.3 trillion dollars, a sum more than twice as large as the current national debt.

The real question is, Where will the money come from? In effect, the Social Security system has a 2.4-trillion-dollar lien against the earning power of present and future workers--almost $30,000 per worker--a lien that is growing faster than our ability to pay. Future generation gaps will be measured in billions of dollars rather than attitudes or beliefs.

While all the actuaries and administrators are assuming that people will adjust to having an ever-increasing amount lifted from their salaries, I have to admit to some fears that the adjustments won't be made. Lately, I've been having visitations from Saint Murphy (the one best known for his law). He has graciously shown me a few passages from his monumental work, The Economic History of the United States.

With unemployment peaking over nine percent in mid-1975 and then hanging there as a record 4,000,000 people turned 21 yearly, it was realized that our institutions of higher education were destined to have the same role for people in the Seventies as the Midwestern silos and Hudson Liberty ships had had for grain in the Fifties--to keep a surplus off a glutted market. New degree programs proliferated (with Government support) and by 1980, it was necessary to have a doctor of philosophy in sanitary science to obtain employment at the local bus station.

The young (regarded as dangerous and disruptive) forced an early-retirement drive, which had the effect of expanding Social Security roles and bankrupting state unemployment-insurance funds. While unemployment among the young remained painfully high, retirees collected both unemployment and Social Security. At long last, old age was truly golden. The Federal deficit grew handsomely.

Young dropouts joined the barter economy, avoiding the money economy altogether, a move that made them virtually immune from tax collection. Corporate America, meanwhile, became increasingly restless about its role as the nation's primary tax collector. With payroll and withholding taxes accounting for 80 percent of all Federal revenues by 1980 and with employer commitments to Social Security contributions and unemployment insurance rising astronomically, many employers found ways to contract workers without making them employees, a tactic that reduced real labor costs.

Thus, just as Federal deficits were becoming totally unmanageable, the tax-collection process became dependent on regular submissions by millions of reluctant individuals rather than by thousands of corporations. By 1990, the Internal Revenue Service had more agents than the Marines had infantrymen. But tax collections became virtually impossible as the nation grew rebellious about the inevitable impoundings, seizures and public auctions. The Treasury's first Tax Anticipation Notes brought a nearly unanimous groan from the nation's bankers, who remembered the infamous notes floated by the ill-fated city of New York.

The wild, debt-fueled inflation that had been incorporated into the conventional vision of the future would probably have been realized in 1991 if the Government hadn't collapsed in scandal. A young reporter revealed that HEW had been suppressing the use of the cure for cancer (discovered in 1976) in the belief that the economy could not endure the strain of an increase in life expectancy. At the public hearings, the Secretary cited, as precedent, the deliberate decision (on the part of international health organizations) to withhold smallpox vaccine from underdeveloped nations. Had such decisions not been made in the early Seventies, he argued, there would have been an unnatural and economically devastating rise in population.

The Revenue Wars (1992-1999) followed the trials, the collapse of the Government and the failure of martial law. They resulted in the now-well-established system of Feudal States, which most believe is the only workable form of government....

Alas, my nightmares may be closer to the truth than the benign projections of those who don't bother to ask who's going to pay the bill. The Social Security tax is already the lost burdensome and regressive tax in the nation. Since it is paid by all workers with any income and stops at an income of $14,100, the burden of the tax falls heaviest on those with the lowest incomes. It now exacts more money from half the nation's workers than the Federal income tax and has become part of a pattern of legislative hypocrisy in which Congress offers regular rounds of "tax reform" with one hand and raises taxes via Social Security with the other.

Between 1960 and 1975, the maximum Social Security tax rose 572 percent, so that in spite of two rounds of tax reform, the Federal income and the Social Security taxes exact a larger portion of our incomes now than in 1960. The cause is not the income tax but Social Security, for its rate of increase works out to 12 percent a year, compounded for 15 years!

The Social Security tax has become a significant part of the revenue collected by the Federal Government; it increased from 16 percent of the total in 1960 to 29 percent in 1974. Since this tax is levied without exemptions, our dependence on a tax that hits the poor mercilessly has nearly doubled in the past 15 years.

A performance like that makes you (continued on page 208)America Is Going Broke(continued from page 142) wonder if things could get much worse. The answer is yes. It also makes you wonder what the source of the problem is.

Start with Congressional error. In 1972 legislation was passed that called for automatic increases in Social Security benefits to reflect changes in the cost of living. The basic idea was sound; indexing--increasing benefits in accordance with the general increase in prices--meant that the elderly were no longer dependent on Congressional action (or inaction) and their benefits would reflect the increases in the cost of living. Nor should Congressional sacrifice be overlooked: By voting for indexing, the lawmakers were giving away a guaranteed display of big heart. No longer would they be able to tell their legions of elderly voters about their annual struggle to put bread on Grandma's table.

Things ran amuck in the translation from conception to action. When you plug the benefit formulas together with the consumer price index, you get double indexing. Benefits and future costs rise even faster than inflation. This happens because the increase in current benefits to existing beneficiaries is financed not by an increase in the tax rate but by an increase in the taxable wage base. This, in turn, means that present benefit increases are financed by increasing the promise of future benefits! No one knows how this happened; and virtually no one can explain how it works; somehow, with an entire nation filled with underemployed consultants, readily available experts and assorted technical talents, the Congress managed to create a generosity multiplier capable of bankrupting us.

One way to see the effects of double indexing is to ask what portion of your income Social Security benefits will replace at retirement. If you're an average person, Social Security payments will replace 63 cents of each dollar of your preretirement earnings; the "replacement rate" drops rapidly as income rises and exceeds the taxable wage base ($14,100).

Double indexing and a four-percent rate of inflation have the long-run effect of increasing the replacement rate to as much as 164 percent of preretirement income; it will provide the average worker with 95 percent of preretirement income. A substantial portion of the population, in other words, may get their largest raise on the day they retire! For millions of Americans, working will come to involve a real financial sacrifice--a macho demonstration of the work ethic.

Mistakes of this nature are a tradition with the Congress. Federal pensions are already over indexed and increase at the rate of four percent for every three-percent increase in the cost of living. While this lacks the subtlety of the Social Security method, the effect is the same; some Federal workers receive more in retirement than they ever earned working.

Congress with its insistent generosity has created a new class of public rentiers. It has also created something that might be called transcendental capital.

Transcendental capital is not based on buildings, machinery or any of the other vulnerable, depreciable stuff employed by corporations such as Penn Central or Con Ed. Nor is it susceptible to a lack of money or desire on the part of consumers, who may decide they've bought enough cars from Chrysler or make-up from Avon Products. Transcendental capital is sublime because it creates income from the ability to tax rather than from our faltering ability to produce.

The superiority of transcendental capital is best demonstrated by a comparison. If you were dumb enough to save money in recent years, you got a taxable return of five percent and saw the purchasing power of your savings demolished.

If you were a bond buyer, you saw rising interest rates depress the market value of your cautious investments; long-term bonds that were sold to yield six percent are now discounted far below their purchase price. But the income is still taxable. Stock buyers now constitute an endangered species, as people have learned that speculating in peanut butter, salad oil and old comic books pays bigger dividends. While corporate dividend payments increased 50 percent over the past decade, from 20 billion dollars to 30 billion dollars, Social Security benefits increased more than threefold, from 20 billion dollars to 57 billion dollars, and public-employee retirement benefits increased from 1.5 billion dollars to 7.6 billion dollars. Clearly, the best market to "play" was the transcendental-capital market; it was the only "wealth" safe from inflation. Better yet, it's backed by the U. S. Government and its subsidiary, the Internal Revenue Service.

In 1940, the total value of Social Security wealth was only 175 billion dollars--less than one fifth of the net worth of all consumers, measured in ownership of things real and palpable. In less than 40 years, a small tax whose purpose was to put a floor under incomes for the elderly (and simultaneously put money in circulation to stimulate a morbidly depressed economy) has grown to the point that now it is a substantial burden on everyone who works and on the economy itself. It is a burden, however, with a growing political constituency--31,000,000 direct beneficiaries--and an active voting record. Social Security recipients are now the largest pressure group in the country.

By 1969, Social Security wealth had increased eightfold to 1.4 trillion dollars, while consumer net worth had risen to 2.3 trillion dollars. In the past five years, Social Security wealth has grown by another trillion to more than 2.4 trillion dollars, a sum that is within wheezing distance of the value of real wealth. None of this wealth is represented by anything more concrete than the future earning power of today's children. Perversely, it's likely that the wealth of the Social Security system will surpass the collective real wealth of Americans just as it spends the last assets of its trust fund.

There is, unfortunately, no immediate cure for the Congress' love of creating income via taxation; but we will soon see an effort to eliminate double indexing.

But another problem is insoluble. Since both the birth rate and the absolute number of children being born each year are declining, the ratio of people working to people retired is going to decline. Barring a sudden return to the three-or-four-child family, the ratio of retirees to workers (called the dependency ratio) is going to shift from 30 per 100 to 45 per 100, an increase of 50 percent, as those now entering the job market retire. The only way to maintain the flow of promised income will be to increase the Social Security tax burden by 50 percent.

Some might conclude that we can solve the economic problems posed by Social Security with a resumption of fruitful lovemaking. Alas, the problem is more complicated than that. Bodies alone aren't enough. Those bodies must have jobs to produce the necessary taxable income. In industrial societies, jobs require capital. By most estimates, it now takes more than $30,000 to buy the machines, factory space, materials inventory and related equipment necessary to support a single productive worker. In many industries, such as petroleum refining, utilities, etc., each worker is supported by as much as $200,000 of capital investment.

Since the vitality of any industrial economy depends on capital and the formation of new capital depends on the ability to save rather than consume, the growth of the Social Security system poses a curious problem. By participating in Social Security, you "save" without accumulating real capital: Your payments enable the retired to consume and entitle you to a future income based on taxing the income of the next generation. The illusory savings in Social Security occur at the expense of real savings that are put aside by individuals and then used by corporations, builders and others to make the investments in new plant, equipment and housing necessary to provide employment (and products) for a rising population.

What happens if the nation doesn't save enough real money to provide employment for the next generation? You can't tax an income that doesn't exist. Since people perceive Social Security as a substitute for personal savings and will be neither inclined nor able to save as the costs of Social Security increase, our real savings may be choked off, limiting economic growth and future employment.

Gaylord Freeman, chairman of Chicago's First National Bank, contrasted the savings of the United States and Japan at the National Conference on Capital Investment and Employment in New York last spring: While Japanese families save 15 to 19 percent of their disposable income, Americans save only six to eight percent.

The difference is what allows Japan to grow and achieve a remarkable degree of employment security. Japan has little in the way of government-sponsored retirement programs.

Contrary to the prevailing mythology about the new industrial state and the power of corporate America, corporate savings in the form of retained earnings--profits the company does not distribute to shareholders--are inadequate to sustain the rate of economic growth required to support the Social Security system. After adjusting for inventory valuation (the cost of replacing working inventories), corporate savings have deteriorated from being about equal to personal savings in 1950 to less than half of personal savings in 1973. In that banner year, American corporations set aside a piddling 25 billion dollars for growth, while individuals and families socked away 55 billion!

Martin Feldstein, a Harvard economist who is highly critical of Social Security, testified before Congress last spring. His research indicates--as Freeman's figures suggest--that Social Security is a direct cause of our dangerously low rate of personal savings. He believes that further increases in the tax will produce an era of stagnation and inflation that will make us nostalgic for 1975. As might be expected, Feldstein's observations are seldom greeted with enthusiasm. More than a few of his professional brethren consider him a hair-shirted conservative and would like to see him drummed out of Harvard Square.

Whether Feldstein is liberal or conservative is irrelevant. While Congress debates the distribution of national wealth and income and constantly creates new programs that will solve our economic problems by a policy of "soaking the rich," it glibly assumes that the supply of wealth and income is unending and that the machinery of growth and new investment is immune to damage or outright failure. Rather than join the tiresome deliberations on the distribution problem, Feldstein is addressing a more basic and crucial issue: Is the burden of Social Security crushing our ability to save and to create wealth and income?

The essence of Feldstein's observations is a kind of economic catch-22: If we save as though we're personally responsible for our future, the economy will grow adequately and Social Security benefits will be large enough to have made our diligence and thrift unnecessary; if we stop saving, trusting to Social Security, the economy will collapse, taking the Social Security system with it.

Ironically, the entire vast structure--the 2.4-trillion-dollar chain letter that is the Social Security system--rests on the personal savings for which it is a substitute!

Is there hope? Although there is a substantial laundry list of practical cures, they all require a return to an unfashionable enthusiasm for thrift and a kind of economic fundamentalism that has been absent for nearly half a century. Consider, for instance, the political appeal of the following possible cures:

1. Increase the Social Security tax dramatically.

2. Discourage retirement.

3. Scale down benefits or put a flat ceiling on future benefits.

4. Give greater incentives to private savings by reducing the taxes on dividends and capital gains or deferring taxes on reinvested dividends.

While the last idea has been proposed, the probability of seeing anything enacted is about as high, say, as the chance Patty Hearst will be the Republican nominee for President. Economic reality and political survival, alas, are mutually exclusive.

So the answer is, no, there isn't much to sustain hope. Looking into the future is not a Congressional strong point. Worse, the Social Security system is a sacred object, ranking in esteem with re-election and motherhood. Congress lacks both an incentive to act and understanding of the inner workings of Social Security. But we can give it credit for one thing: faith in the future!

Social Security Will Provide For You In Your Old Age, Right? And If It Doesn't, There's Always The Tooth Fairy or the Easter Bunny