Is Social Security a Ponzi Scheme?

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They used to call Social Security the third rail of politics.  To question the program at all was politcal suicide.  Times of economic crisis have a way of putting issues on the table that were once taboo.  Today that issue is social security.

To start off, my view on Social Security is that it violates the Constitution and any kind of social security program should be done on the state level.  This is not a very radical idea, considering that before the New Deal many states did have social security programs and other safety net programs that worked fairly well.  From a philosophical point of view, I am against any kind of social security.  But social security by the states, if they so choose, is legal under the constitution.  That being said, the government has made a contractional obligation to pay Social Security, so the program as it is today cannot be ended over night.  All this being said, this article has nothing to do with what we should about reforming Social Security but, instead attempts to analyze whether Social Security is a Ponzi Scheme.

 

Is Social Security a Ponzi Scheme?  Pundits from Bill O’Rielly to Rachel Maddow say no.  Bill O’Rielly says social security is not a Ponzi scheme because it can be salvaged.  Rachel Maddow says that Social Security is not a Ponzi Scheme because “it works” and has protected the elderly during the recession.  I would conted that O’Reilly and Maddow are missing the point entirely. Both Maddow and O’Reilly can be competely right about the system being salvageable and “working” to protect the elderly but, this has nothing to do with the system being a Ponzi scheme.

Ponzi Scheme definition: “an investment swindle in which some early investors are paid off with money put up by later ones”

The true question is whether Social Security is set aside for the individul for later use or whether social security payments are spent by government immediately.  If the government spends the social security money immediately upon receipt and relies on future social security payments from workers to pay of retirees down the road, this would qualify as a Ponzi scheme. This is exactly how Bernie Madoff was able to pay his investors massive yields, he simply paid early investors with the money from new investors entering into his Wall Street firm attracted to the high yields.  Little did investors know that their money was almost immediately used to pay other investors that were previously involved.  Such an investment scheme is a giant pyramid with the diverted investors’ money used to make payments to earlier investors.  Such schemes in the private economy are always destined to collapse. Government ones will as well but, the collapse will take longer.

The Social Security Trust Fund

Defenders of Social Security point to the “Social Security” trust fund to claim that Social Secuirity is in fact sustainable for a very long time.  Upon the most minimum evaluation this claim falls short.  It is a well known fact that the Social Security trust fund does not really exist, the money has been spent and has been instead replaced with government bonds (promises to pay in the future)  Social Security is called insurance but, there is no money that it holds.  This would be similiar to private insurance company having a massive amount of debt with no capital at all.  It could only pay insurance claims by creating new debt. Obviously, at some point, lenders will stop lending an insurance company that is so deep in the hole. The insurance company would have to defualt on its contractual agreements.  The obvious problems with the social security system have been known for a very long time.  Frank Chardov wrote in 1954,

“To give some plausibility to the “insurance” advertisement, the government sets up a so-called reserve fund. In place of the money it collects, it piles up its own bonds, or IOUs, in an amount equal to the collections. The interest on these bonds, it says, will be adequate to meet the old-age obligations when due. But the interest on these bonds is paid out of what it collects in taxes; where else can the government get money? Since the so-called premiums are only taxes, and since the benefit payments are also taxes, the operation is the same as if an insurance company used up its premium collections in salaries and cocktail parties and then paid out benefits from new premiums. For doing that, the directors of the company can be sent to jail. However, the laws made for ordinary citizens are somewhat different from the laws made for public officials.”

So is Social Security a Ponzi Scheme?  When considering the dictionary definition, I think the obvious answer is yes.  If the Social Security trust fund truly existed, it would not be a Ponzi Scheme but unfortunately the fund has been raided by greedy politicians for the last 60 years and there has been nothing there for a long time. The only way Social Security can be “saved” is by a massive injection of funds, likely in the tens of trillions, from another source.  If such a course of action is taken, (if it were even possible which is highly unlikely), this would not mean that Social Security is not a Ponzi Scheme because the program would still be in default.  This would be similar to the government ordering liquidation of Apple Computers to pay off Bernie Madoff’s investors, the orginal program still defaulted.

Other moral problems with social security:

Social Security is a transfer from the poorest age demographics in society (the young) to the wealthiest age demographics in society (the old).  As long as the program exists, the young are getting exploited by the elderly.  This is even more pernicious when considering how much wealthier the old are compared to the young.  The numbers are staggering, the average net worth for people under 35 in 2009 was $3,662.  The average wealth for those over 65, $170,494. See here for more details.  Simply put, the elderly on average do not need social security checks, the young on the other hand need every penny they can get.  Especially when considering how social security deduction will dramatically lower their wealth over time.   For as long as the program exists in its current form, it will get worse and worse.   Frank Chardov, once again goes into more detail:

“One of the arguments which helped to sell social security is that the “contributor” will not be dependent on his children for a livelihood when he can no longer work. Let’s see if that is true. We must keep in mind that taxes are part of production; they are levied on what is being produced currently, not in the past. The payments to the nonproductive aged therefore come from what the government collects from those who are producing, their children. The government cannot get the money from anybody else. So that, in effect, the children are supporting their parents, collectively and without love.”

 

The government has already defaulted those dependent on social security by inflating the money supply year over year.  The government does not count food and fuel and other commodities when calculating inflation, so each year when social security payments are “adjusted” to inflation, the govenment shorts social secuirity recipients.  Each year Social Security recipients buying power becomes less and less.  It is not an outright default but a gradual one instead.  Each year, those dependent on social security find it harder and harder to make ends meat.  This has been especially true since 2008 where government calculated inflation has stayed flat but food prices have gone through the roof.  In the end, Social Security is actively defrauding the very people it is trying to protect.

Finally, it should be recognized that Social Security is not the third rail of American Politics that it used to be. Americans need to start talking about it and making tough choices because in the near future, those choices will be made for us as the Social Security system completely collapses.

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