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Ponzi Schemes

Jack Lew is lucky he isn’t in prison. Were he representing a private pension fund and if he made the sort of statements he made in USA Today the other day, he might well be sharing a cell with Bernie Madoff.

So who is Jack Lew? And what did he say?

Lew is the Director of the federal Office of Management and Budget. About Social Security, he wrote: “Taxes are placed in a trust fund dedicated to paying benefits owed to current and future beneficiaries. When more taxes are collected than are needed to pay benefits, funds are converted to Treasury bonds — backed with the full faith and credit of the U.S. government.”  As a result of these investments, the Social Security trust fund will be able “to pay full benefits for the next 26 years.”  Not only is this preposterous, Charles Krauthammer called it a “breathtaking fraud.”

Before dissecting Lew, let’s consider why Bernie Madoff is in the hoosegow. Madoff told investors he was investing their funds in real assets, when in fact he was not. He secretly used their funds for personal consumption and to pay off other investors. Either figuratively or imaginatively, Madoff wrote IOUs to himself, all backed by the full faith and credit of Bernie Madoff. Maybe in the beginning he fully intended to pay off. But that’s beside the point. Inducing people to give you money with this sort of lie is criminal fraud. It’s against the law.

Like most government-sponsored retirement programs in the world today, our Social Security system is pay-as-you-go. All payroll tax revenues are spent — the very minute, the very hour, the very day they are received by the U.S. Treasury. Most of these revenues are spent on benefits for current retirees. Any additional amount is spent in other ways.

But there is no funding of future benefits. No money is being stashed away in bank vaults. No investments are made in real assets.

Most pay-as-you-go systems do not have trust funds, since there are no investments for the trust funds to make. In the U.S., we have trust funds — but they serve an accounting function, not a financial function. For example, the trust funds do not collect taxes. Nor do they disburse benefits. Every payroll tax check sent to Washington is written to the U.S. Treasury. Every Social Security benefit check is written on the U.S. Treasury.

The trust funds do not buy bonds. That’s because they do not buy anything. But they do create special pieces of paper which are misnamed “government bonds.” They are misnamed because — unlike other bonds — these bonds were never bought or sold. They are literally IOUs the government writes to itself. For Social Security, they are created on a typewriter. For Medicare, they are created electronically.

Technically, the trust fund  bonds represent the cumulative surplus (payroll tax collections minus benefit payments). But these bonds are only important for accounting purposes. They are like bookkeeping entries, without any market value. The annual reports of the Social Security trustees list the yields and maturity dates of these bonds. But the special-issue bonds are not the same as the bonds held by the public. They are not part of the official outstanding debt of the U.S. government. They cannot be sold on Wall Street or to any foreign investors. And they cannot be used to pay benefits.

The technical issuer of the bonds (the U.S. Treasury) and the holder of the bonds (the Social Security trust fund) are both agencies of the U.S. government. Moreover every asset of the trust fund is a liability of the Treasury. Summing over both government agencies, the balance is zero.

For Social Security, the trust fund’s special issue bonds are paper certificates held in government filing cabinets in Parkersburg, W.Va. If a fire were to burn down the building tomorrow, or if thieves were to take the filing cabinets away, there would be no harmful consequences for retirees. Similarly, if the trust funds themselves were simply abolished, real economic activity would be unaffected. The government would not be relieved of any of its existing obligations or commitments. Or, as the late economist Robert Eisner suggested — with the stroke of a pen, we could double or even triple the number of IOUs the trust fund holds. Eisner’s idea would allow us to dispense with artificial crises (“trust fund running out of money!!”) and address the real problem: How is the Treasury going to pay the government’s bills?

John C. Goodman, PhD, is president and CEO of the National Center for Policy Analysis. He is also the Kellye Wright Fellow in health care. His Health Policy Blog is considered among the top conservative health care blogs where health care problems are discussed by top health policy experts from all sides of the political spectrum.

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Gruntled
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Gruntled

TARP was not to bail out banks. It was to bail out FDIC. The problem with insurance, is when claim values exceeds premiums collected, the claims can not be paid. It becomes insolvent.

Moshe Modeira
Guest

Excellent article that demystifies alot, but I’m still mystified by one aspect …

So the surplus gets converted into US Treasury bonds, which have no value because there is no “market” for them, so clearly the money goes to things that are most certainly NOT in the public sphere.

But where, then? And for what is the money used? Is this one of those things where we know the fix is in, but its useless to even question WHAT the fix is because we will never get an answer?

A scary thought.

Gary Lampman
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Gary Lampman

It doesn’t surprise me that the pegan fan club would follow the wealthy liars and criminals for the luxury of their approval. The Fan Club of seiving,loathing, narrasistic zombies supporting their pegan ????????gods??? When your done stealing the clothes off our backs ,sending our chidren to work in factories for pennies on the dollar,eliminating Higher education, and workers becoming indebtured servants from excessive burdens of a Flawed Ideaology. Oh, those “poor” people made of the Finest Marble and architectual wonders need every tax break possible because they are Broke? Really? I have not seen any corporation ever suffer from poor… Read more »

MG
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MG

Barry – I wouldn’t mind something that resembled the 1986 tax code revision where you cleaned alot of the corporate welfare/pork that has been added since then in the forms of various credits/accelerated writedowns/etc but that isn’t what is being pushed though. Just largely a much lower corporate tax credit with the same copious amounts of pork. The big issue too that is almost completely missed is the real issue/drive to push income derived for rents (e.g., capital gains/divindends) to nothing. Its a mantra right now in the GOP party. No one I have seen how has any real clout… Read more »

nate ogden
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nate ogden

Some people just never learn, or they refuse to ever admit. New York billionaire Tom Golisano is taking his big bucks elsewhere. Furious over a new “millionaire’s tax” that could cost him an extra $1 million this year, the Rochester-area resident and three-time gubernatorial candidate says he’s fleeing the state for Florida’s Gulf Coast. More than 1.5 million state residents left for other parts of the United States from 2000 to 2008, according to the report from the Empire Center for New York State Policy. It was the biggest out-of-state migration in the country. … What’s worse is that the… Read more »

Richard Walker
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Richard Walker

The assumption that international investors and rich folks here in the U.S. have nowhere else to put their money and would continue to invest in the U.S. economy regardless of tax rates is too simplistic. The key to getting the United State’s fiscal house in order is reforming entitlement spending; not siphoning off more of the economy to sustain programs that are clearly unsustainable in their present form. It’s somewhat disappointing also to think that any serious analyst thinks we can a) tax our way out of this predicament, and b) that the most expeditious way to do that is… Read more »

nate ogden
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nate ogden

If they can’t get the votes to raise the debt ceiling they can’t sell normal bonds to cover them. If they can’t find buyers they can’t sell more bonds. It’s a very inliquid asset with considerable risk not being disclosed. Maddoff offered the same deal, he promised to pay it back with future borrowing or earnings, which is great as long as there are future earningsor borrowing. ” we need to raise taxes on the rich (which includes John, Barry and even me–but for sure the Koch brothers)” If you where the Kock brothers why stay around for that? Their… Read more »

Brian Williams.
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Brian Williams.

In spite of the accounting fiction (fraud), the Social Security program is still a bad deal. Even if everything worked as promised, young workers can expect a negative rate of return on their payroll tax investments. Of course, the payroll tax is not an investment. It is a tax. And that’s the problem. It takes money out of the economy that could be invested in growth, and instead invests it in government—leaving IOUs (debt) for future generations to pay. And I can’t quit laughing at Matthew Holt’s comments — as if more taxes will restore the government’s crumbling financial footing.… Read more »

Devon Herrick
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Devon Herrick

The reason people argue the Trust Fund does not really exist is because the Treasury bonds it holds are claims on future tax revenues that future taxpayers will have to make good on. By spending Social Security tax receipts today and replacing them with bonds, the government is essentially shifting the bill for today’s consumption and foisting it on future generations who have little say in the matter.

Gary O.
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Gary O.

According to the Social Security trustees report, the amount necessary to restore the actuarial balance of OASDI over the next 74 years is equivalent to 0.6% of GNP, or 1.8% of payroll, not a great burden; however, this assumes the trust fund surplus assets that have already been paid in are honored. Mr. Goodman implies that since the government has already spent those funds, it doesn’t have to honor them, because it never issued any bonds. His piece is the opening round of what we will be hearing from political ideologues of his ilk. He has the chutzpah to cite… Read more »

Gary Lampman
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Gary Lampman

Scum raises to the top of this ponzi scheme that Republican Hacks are attempting to lay out on the working class. Grand Larcency of the American Dream and America’s Sovernity sold to the highest Bidder. A unwarranted attack on seniors and hardworking Ameircans who have paid their Way. Yet the KGB neo conservative stink tank has mobilized a giant of free thinkers will eventually put them in their place. It seems absurb that so few believe that they can run the masses and steal payroll contributions from every day Americans. Set Granny and grandpa into the streets because the neo… Read more »

Margalit Gur-Arie
Guest

“We the people, wind up paying the corporate share one way or another.”

Yes we do, but I’d rather not pay it twice, once when embedded in product pricing and then again as a loss in tax collections. Also, this gives the large corporations that employ armies of attorneys and accountants an unfair advantage when compared to smaller companies trying to enter those same markets.

Barry Carol
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Barry Carol

“and GE and Google and all the corporations engaged in money-laundering schemes” Margalit – There are many people in the academic and financial world that believe corporations don’t pay taxes in the traditional sense. Rather, the largest companies that are most sophisticated about product pricing build them into their pricing structure as another cost of doing business like labor and materials. In 1986, for example, the corporate tax rate was reduced from 52% to 35%. During the next two years or so, companies generally competed away the tax rate reduction in the form of more service, lower prices or lower… Read more »

Ron Donovan
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Ron Donovan

When you look at the population of the US by age it produces something close to a pyramid. (I know, unfortunate association with pyramid scheme) That means that, given small changes in immigration and birth rates there are plenty of people to pay into social security to keep it solvent. Alarmists are always pointing in horror to the baby boomers and how they’ll bankrupt the system. But the first boomers are now 65. In 20 years most of them will be dead. No need to pay social security. There is the boomer echo which is reaching its peak earning years… Read more »

Barry Carol
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Barry Carol

“And Barry do you REALLY believe that if the “Trust Fund” is “empty” in 2037, the government will shut up shop and allow its seniors to starve in the streets?” Matthew – Of course not. However, I do expect that any fix would be implemented decades in advance of reaching that point in order to give people time to adjust with respect to both their benefit expectations and the amount they can save to offset any reduction in benefits vs. prior law. This was how it was done in 1983 when the increase in the retirement age didn’t even start… Read more »