Wednesday, August 9, 2017

The Social Security Tontine

One of the biggest problems with Social Security — with any of the social welfare programs in place in most countries in the world today — is the fact that they are being used to do something that they were never intended or designed to do: be the primary or even sole source of income for people no longer working or unable to work.  Social Security was intended as an economic safety net, a sort of systemic poorhouse to ensure that no one fell through the cracks.

A tontine advertisement.
Thinking of it that way, we realize what went wrong with the idea and its implementation.  Originally, Social Security was set up on the premise that a whole lot of people would pay in, but only a few would receive benefits.  Most people would never get anything, as it was expected that most of them would die before reaching the age of 65.  A small amount paid in by a large number of people meant that those who survived long enough to qualify for benefits would receive far, far more than they paid in — sort of like a tontine . . . which, by the way, are illegal now almost everywhere that we know of.
What’s a tontine?  A sort of lottery, usually put together for some charitable purpose.
It works (or used to work) this way.  People buy tickets, and the money collected is invested.  As the earnings come in from the investments, admin costs are paid, and the remainder is paid out to subscribers: those who bought tickets.  As subscribers die off, the amount received by the survivors increases, with the last survivor getting all the income.  When the last survivor dies, the principal is given to the charity.
One of the reasons tontines are now illegal most places is that there was an incentive to kill off your fellow subscribers to increase your income.  Social Security isn’t quite that bad, but the “tontine problem” still exists: it only works if many pay in, and few receive benefits.
In an effort to reduce the number receiving benefits without reducing either benefits or the number paying in, most proposed solutions focus on delaying benefits in the hope that more people have the decency to die before they start receiving benefits.  There is also the idea that increasing the amount and type of income taxed will increase pay-ins, thereby maintaining the expected level of pay-outs.
Reagan at the Presidential Task Force for Economic Justice
Feldstein’s solution that we looked at yesterday is this sort of thing, i.e., increase the amount fewer people pay in, and hope there are even fewer people to receive it.  Ironically, Feldstein was an adviser to President Reagan, who supported a much better solution: a Capital Homestead Act.
The idea behind a Capital Homestead Act is not to get a lot of people paying in for the benefit of a few receiving payouts, but to have everybody purchasing capital assets on credit, paying for the assets with the earnings of the capital itself.  You increase your income not by eliminating your economic rivals, but by working with them to become more productive.
In a tontine — or Social Security — the problem is how to increase the number of people who get little or nothing, so that there are fewer people to divvy up the income generated out of past savings.  The more losers there are, the better off the few winners will be . . . until someone kills them.  Lose-lose.
In Capital Homesteading, the problem is where to get the money so that people can borrow enough to purchase capital to generate enough income without taking anything from anyone else.  The more losers there are, the worse off everybody becomes.  If everybody has capital, however, everybody is better off, because when other people have money, they can buy what you produce with your capital, giving you the money to buy what they produce.  Win-win.
So, where is the money to come from so everybody can own capital?  We’ll take a look at that tomorrow.

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