Topic: Social Security

Nadya Suleman’s Octuplets & the Perils of Public Charity

The AP reports that you and I will be paying the cost of rearing Nadya Suleman’s newborn octuplets –  as well as her other six children – through various state and federal welfare programs:

Even before the 33-year-old single, unemployed mother gave birth to octuplets last month, she had been caring for her six other children with the help of $490 a month in food stamps, plus Social Security disability payments for three of the youngsters. The public aid will almost certainly be increased with the new additions to her family.

Also, the hospital where the octuplets are expected to spend seven to 12 weeks has requested reimbursement from Medi-Cal, the state’s Medicaid program, for care of the premature babies, according to the Los Angeles Times…

In California, a low-income family can receive Social Security payments of up to $793 a month for each disabled child. Three children would amount to $2,379.

The Suleman octuplets’ medical costs have not been disclosed, but in 2006, the average cost for a premature baby’s hospital stay in California was $164,273, according to the U.S. Department of Health and Human Services. Eight times that is more than $1.3 million, and the average cost for just one cesarean birth in 2006 was $22,762 in California.

A reasonable person might ask, “So what?  Poor kids need help.  Would you rather let them die?”  That certainly does not seem to be the answer.  Yet there are perils inherent in having government come to the rescue. 

One challenge confronting both public and private charity is known as the Samaritan’s dilemma: any effort to help the needy inevitably discourages self-help.  People at the margins don’t work as hard, or even take deliberate advantage of others’ altruism, which increases the number of people “in need.”  That appears to have happened in Suleman’s case:

Word of the public assistance has stoked the furor over Suleman’s decision to have so many children by having embryos implanted in her womb…

Suleman received disability payments for an on-the-job back injury during a riot at a state mental hospital, collecting more than $165,000 over nearly a decade before the benefits were discontinued last year.

Some of the disability money was spent on in vitro fertilizations, which was used for all 14 of her children, Suleman said. She said she also worked double shifts at the mental hospital and saved up for the treatments. She estimated that all her treatments cost $100,000.

The First Peril of Public Charity is that government does a relatively poor job of discouraging such opportunistic behavior.  Food stamps, Social Security disability payments, and Medicaid benefits are entitlement programs.  So long as Suleman meets the statutory eligibility criteria, she is legally entitled to benefits no matter how much she may be milking the system.  It is extremely difficult to tailor government eligibility rules (whether statutory or regulatory) to prevent all the possible forms of abuse.   And even if some government bureaucrat tries to cut off welfare recipients who are abusing the system, those recipients can sue the government and there are legions of lawyers who will help.  Private charity is much better at discouraging opportunistic behavior by tailoring assistance to the truly needy.  Did Suleman and her children truly need all the public assistance they had been receiving?  Would she have been able to afford in-vitro fertilization had she not been on public assistance?  If the availability of additional charity were less certain, would she have tried to get pregnant again?  Maybe, but probably not.

The Second Peril of Public Charity is that taxpayers and politicians respond to the First Peril of Public Charity by insisting that government take away people’s rights.  Much of the crusade against smokers’ and restaurateurs’ rights is justified by the need to limit government spending on medical care for smoking-related illness.  Ditto the crusade to limit your right to eat fatty foods. 

Suleman’s case has led taxpayers to recommend some startling policy responses:

On the Internet, bloggers rained insults on Suleman, calling her an “idiot,” criticizing her decision to have more children when she couldn’t afford the ones she had, and suggesting she be sterilized.

“It’s my opinion that a woman’s right to reproduce should be limited to a number which the parents can pay for,” Charles Murray [not the American Enterprise Institute scholar] wrote in a letter to the Los Angeles Daily News. “Why should my wife and I, as taxpayers, pay child support for 14 Suleman kids?”…

“From the outside you can tell that this woman was playing the system,” host Bryan Suits said on the “Kennedy and Suits” show on KFI-AM. “You’re damn right the state should step in and seize the kids and adopt them out.”

Emphasis added.

Those responses are a predictable consequence of government charity.  They reflect the same selfish rationale that the Church of Universal Coverage uses to argue for eliminating your right to choose health insurance. 

If somebody is abusing generosity, the appropriate response is not to take away their rights but to take away the generosity. (Some curtailment of parental rights can be justified if the children are in danger. But we don’t yet know if Suleman is going to get a reality-TV deal out of this.) Private charity can do that. Government is ill-equipped to do so, and so our rights come under attack.

The irony is that the Left’s adamant support for government charity is eroding smokers’ rights, property rights, dietary rights, medical rights, and now even the Left’s cherished reproductive rights – making the Left less and less liberal by the day.

How Will Barack Obama Reform Social Security?

Barack Obama says he will make entitlement reform a central part of his attempt to control government spending. Just how serious is President Obama about entitlement reform? Are private accounts for Social Security on the table? In today’s Cato Daily Podcast, senior fellow Michael D. Tanner weighs in on Obama’s plan for the future of entitlement programs.

“The fact is, of course, private investment would still be a better deal than Social Security, but you have to face the fact that people are scared of the market right now,” Tanner says. “But I think you’ve got to give Barack Obama points for political courage. In addressing the need for entitlement reform he is taking on one of the mainstays of his party.”

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Obama, Entitlements, and Political Courage

One has to give Barack Obama at least half a point for political courage. In warning that Social Security and Medicare are ticking fiscal time bombs, the president-elect took on one of his party’s most prized shibboleths–the idea that there is nothing wrong with those programs that repealing the Bush tax cuts wont fix. After all, hardly any Democrat anywhere campaigns without attacking his Republican opponent for wanting to destroy Social Security and Medicare.

But to get full courage points, Obama would have to come up with an actual plan to reform the two troubled programs. So far, he hasn’t. The Social Security plan he put forward during the campaign, a 4% payroll tax hike on those earning more than $250,000 per year, would give the United States one of the highest marginal tax rates in the world, with devastating economic consequences, but would do almost nothing to extend Social Security’s cash-flow solvency.

In the end, there are only three ways to fix Social Security: raise taxes, cut benefits, or allow private investment. Moreover, as Cato has long pointed out, solvency is only one of the problems facing Social Security. Social Security taxes are already so high, relative to benefits, that Social Security has quite simply become a bad deal for younger workers, providing a low, below-market rate of return. In fact, many young workers will end up paying more in taxes than they receive in benefits. They will actually lose money under the program. And the single most important problem with the current Social Security system remains that workers have no ownership of their benefits. This means that workers are left totally dependent on the good will of 535 politicians to determine what they will receive in retirement. This lack of property rights also translates to poorer bequests. Since workers do not own the money they pay in Social Security taxes, they are unable to pass their inherited retirement savings on to their heirs. No matter how much a worker has paid in Social Security taxes, his benefits are reduced at death and then expire with the spouse.

Having bucked his party on whether Social Security needs to be reformed, will Obama have the courage to go further and allow younger workers the option of privately investing a portion of their Social Security taxes through personal accounts?

On Medicare, the president-elect has been equally lacking in specifics. During the campaign, he actually called for expanding Medicare, notably by increasing coverage under the prescription drug program, eliminating the so-called “donut hole.” Now he talks mostly about eliminating the Medicare Advantage program, the program’s private managed-care option. Managed care providers may indeed be overcompensated under that program, but the program’s real long-term problems lie in its open-ended indemnity-style, fee-for-service payments. Obama also suggests that his overall health care reform will reduce the growth in health care spending, thereby reducing Medicare costs. That’s more a prayer than a program.

But speaking of health care reform, it seems somewhat oxymoronic for President-Elect Obama to warn about the dangers of entitlement spending while calling for a massive new entitlement in the form of national health care.

Obama has shown the first signs of political courage. But the devil is in the details. Let’s see what he actually proposes. Only then will we know if his courage is more than rhetoric deep.

Bernard Madoff for Social Security Commissioner

As Barack Obama prepares to take office, a few crucial administration positions remain unfilled. Herewith a modest proposal for one still open position: Bernard Madoff for Social Security Commissioner.

True, there may be a minor problem since Madoff is under indictment for running a $50 billion “Ponzi scheme” on Wall Street, but think of the qualifications. Madoff is accused of running a scheme in which he took money from people with a promise to invest it. But instead of making investments, he kept the money for himself, and simply took more money from later investors and used it to pay earlier investors. Now compare that to a Social Security system that takes money from workers but does not save or invest it. Instead the government simply uses money from younger taxpayers to pay benefits to earlier retirees, while spending any “surplus” on other things. In the end, neither Madoff’s scheme nor Social Security are sustainable.

The big difference is that Madoff will likely go to jail; the politicians in Washington will likely get reelected.

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Skidmore’s Weak Defense of Social Security

University of Missouri-Kansas City political scientist Max Skidmore recently criticized as “add[ing] nothing” Cal-Berkeley economist Konstantin Magin’s arguments in support of Social Security personal accounts. Let’s examine some of Skidmore’s arguments in favor of the current system:

Magin seems almost to promise guaranteed, risk free returns. Even if this were correct, it is irrelevant. Social Security is not an investment scheme; it offers more than retirement benefits, and its low administrative expenses make it more efficient than any private scheme.

Skidmore’s focus on just administrative costs misrepresents the program’s true costs, which includes distortions in saving and work effort in the economy. The payroll taxes that fund Social Security — to the extent that they are perceived as unrelated to future benefits — reduce worker incentives and, at the same time, Social Security retirement benefits induce workers to exit earlier from the work force. Those effects are well-documented by economists David Wise (Harvard) and Jonathan Gruber (MIT). Tax-financed benefits reduce personal saving (as demonstrated by Harvard’s Martin Feldstein), and the program’s institutional structure — the Trust Fund’s investment restrictions — means the program’s surpluses are not truly saved and invested (as argued by Penn’s Kent Smetters and Stanford’s John Shoven). Thus, overall the program reduces national saving. Those resource costs should be added to obtain a true picture of how costly Social Security is.

It has a mildly redistributive effect: workers who earn less receive a greater portion of their earnings in benefits than do those who earn more.

The redistributive effect is not mild at all when you consider its redistribution from younger and future generations toward older ones. There are any number of measures developed by well-respected economists — such as Alan Auerbach (Berkeley) and Larry Kotlikoff’s (Boston University) generational accounting measures — that document the massive intergenerational redistribution that the program imposes. That redistribution remains hidden because of the cash-flow budget accounting adopted by official scoring agencies. As the program’s shortfalls compel policy adjustments in the future, the true scope of the program’s redistributive force will become obvious — but it will be too late to avoid the negative economic effects of forced higher taxes and smaller benefits for future generations.

[I]nsurance against long life is very valuable, and private annuity markets appear to be quite costly[.]

But annuity markets are costly because we already live in a world with Social Security, which forcibly annuitizes retirement resources. And there is evidence that private insurance purchases do not fully unwind the forced annuitization via Social Security (Auerbach et al.). This is increasingly so as the intensity of desires to bequeath assets to children has eroded over time, as Kotlikoff and I have shown using data from the Federal Reserve’s Survey of Consumer Finances.

Social Security effectively monopolizes the annuity market and any residual purchasers on private markets are the high-risk ones — those likely to live longer than average. That explains the high cost of private annuities. If Social Security were altered by the introduction of personal accounts, private annuity sales would increase and broader risk pooling would lead to lower costs.

Nearly one third of all Social Security checks go to children, and to others younger than retirement age.

Children’s Social Security benefits as survivors and dependents could be replaced easily by independent insurance programs under a Social Security reform that establishes personal accounts.

Because of the independence it gives to seniors, young couples now rarely are required to support their elderly relatives, as documented by Kathleen Mcgarry and Robert Schoeni.

Again, this is an extremely shortsighted view. By encouraging independence among the elderly from their children, Social Security is destroying family cohesion and extended family links that are crucial for transferring human capital to the next generation. By increasing the costs for younger workers through the program’s excessively costly payroll taxes, it is also promoting lower fertility — thereby weakening a key growth-promoting factor in developing countries. Studies by Washington University’s Michele Boldrin indicate that, in countries with generous public pensions, fertility rates have declined.

Personal Accounts for Social Security: Still the Best Deal

With the stock market in turmoil, opponents of personal accounts for Social Security have once again raised the specter of Social Security “privatization” in political campaigns across the country. “Imagine if your Social Security taxes were invested in the stock market today,” they suggest ominously. The implication is that if we had allowed today’s seniors to privately invest a portion of their Social Security taxes when they were young, those seniors would be destitute today.

But let’s look at what would really have happened. Someone retiring today, who started paying Social Security taxes when they were, say, 22, would have begun investing 43 years ago, in 1965. As Figure 1 below shows, at that time, the Dow was at 969.26. Even adjusting for inflation, as shown in Figure 2, the Dow was at 43.25.

To show just how much better a deal private investment would have been, look at Figure 3. Assume you had invested a hypothetical $100 in 1965. The redline shows what would have happened if that money had annually earned Social Security’s imputed rate of return (about 2.2 percent for someone retiring today). The blue line represents what would have happened if you earned the actual market return. If you invested $100 in 1965 at Social Security’s rate of return, today you would have $254.91. But if you invested that $100 in the market, today, even with the current down market, you would have $4,135.92.

Any way you look at it, personal accounts are still a better deal.

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Obama’s Non-Plan for Social Security

In the closing days of the presidential campaign, Barack Obama has had relatively little to say about Social Security — other than attacking John McCain for his (tepid) support for personal accounts. There may be a good reason for his reticence. 

Senator Obama has explicitly rejected any proposal to allow younger workers to privately invest part of their payroll taxes through personal accounts. He has also ruled out any reduction in Social Security benefits. Instead, he has proposed a 4 percentage point payroll tax hike, beginning in 2019, for individuals earning more than $250,000 per year in wages. While this fits in well with Sen. Obama’s “tax the rich” philosophy, it does very little for Social Security. 

As we know, Social Security will begin running a deficit — paying out more in benefits than it takes in through taxes — in just nine years, by 2017. Of course, in theory, Social Security is supposed to continue paying benefits after 2017 by drawing on the Social Security Trust Fund until 2040, after which the Trust Fund will be exhausted. In reality, the Social Security Trust Fund is not an asset that can be used to pay benefits. Any Social Security surpluses accumulated to date have been spent, leaving a Trust Fund that consists only of government bonds (IOUs) that will eventually have to be repaid by taxpayers. Therefore, in looking at Social Security’s looming crisis, what really counts is the program’s cash-flow solvency, which turns negative in 2017.

Senator Obama’s proposal would do very little to change this. Most people earning more than $250,000 per year receive the vast majority of their income in forms other than wages or salary. In fact, according to the IRS, only a little more than $1 billion in wages were earned by people with more than $250,000 in wage income. Assuming standard wage growth in the future, Senator Obama’s tax would generate barely $50 million per year. That would not even push back Social Security’s cash-flow insolvency by an additional year.

On one hand, compared to Senator Obama’s other proposed tax hikes, this one offers relatively little pain. On the other hand, it offers even less gain.

If you want to see a Social Security plan that actually works, check out Cato’s 6.2% solution.