The following is a continuation of the Is Social Security a Ponzi Scheme? (Part 1) and Is Social Security a Ponzi Scheme? (Part 2: An Explanation of Social Security Works). Those articles explained the history of Charles Ponzi and the original Ponzi scheme and explained how Social Security works. In this article, we’ll cover how to fix Social Security
How to fix Social Security
As explained in part 2, the demands of the baby boomers are putting a strain on the system. The current system is not sustainable without some changes (unless the US adopts a Logan’s Run sort of policy, which seems somewhat unlikely).
There are two sides to the equation – the taxes being taken in and the benefits being paid out.
One way to help pay for benefits would be to raise the tax rate, which is currently 6.2% of wages $106,800. This is levied on both the employee and employer, resulting in the government collecting 12.4% of these wages. Ratcheting the rate up a point or two would put more money into the coffers – but would be very unpopular with the voters. In fact the employee share of OASDI (Social Security) was temporarily dropped to 4.2% for 2011 in an attempt to jump start the economy.
Alternately, the cap could be removed so that all earnings would be taxed. No longer would the contributions of Alex Rodriguez be capped at $6621.60 (with an identically capped contribution from the Yankees).
There are three ways to balance the equation from a benefits perspective.
The first, and least popular, is to simply reduce the benefits the program pays out. This is a hard sell to voters (and older voters are more likely to vote than younger ones) as well as powerful lobbying organizations such as AARP.
The second method is to reduce the duration of payments. The government has already begun doing this. People born in 1937 or earlier are eligible for full benefits at age 65, while those born in 1960 or later are not eligible for full benefits until age 67 (chart here). Will we see further tweaks in the future? Perhaps someday you’ll need to wait until age 70 (or later) to receive full benefits.
Benefit payments could also be reduced by instituting a means test. The intent of Social Security is to serve as a safety net, rather than a full-fledged pension. Billionaire Warren Buffet is entitled to Social Security payments – but does he need a financial safety net? Of course not. As the general populations begins to pay more attention to the funding of their retirement, it’s possible than many people in the current generation will not need the safety net of Social Security.
The downside to the means test is that it may discourage people from taking care of their finances. Why bother to invest for your retirement when those who don’t will get bailed out by Social Security? That’s a very penny-wise and pound-foolish sentiment, of course. The prudent investor may be able to afford a house on the beach and lobster for dinner, while the person who ignored their retirement with the plan to be bailed out by Social Security may end up renting a room in a rundown part of town and cooking dinner in a hot pot. Still, it’s the kind of thing that many Americans could consider.
My advice: invest with the assumption that you won’t receive any Social Security benefits. The odds of this are extremely unlikely to happen as unless it taken down completely people will still be paying into the system. I still plan for my retirement as if Social Security doesn’t exist – simply because a lot can happen in the 30 years before I get to take it. If I do end up receiving benefits, that’s just frosting on the retirement cake.
I was thinking of ending the discussion of Social Security and Ponzi Schemes there, but I could probably be persuaded to write a few words on what some famous other people have said about Social Security and Ponzi Schemes. I’m looking for feedback to tell me whether you like the discussion or if I’m beating a dead horse here. Thanks!