[Doug made this argument in 1998:
http://www.leftbusinessobserver.com/AntisocInsec.html
and he was like a voice of reason in the wilderness. When I read it, got excited, and cited it to someone who now writes editorials for the NYT, she looked at me like I was championing cold fusion. Now, 7 years later, it's finally become mainstream:
http://www.nytimes.com/2005/02/01/opinion/01krugman.html
One more reason to subscribe!
But even though he's late to the game, gotta give Krugman his due: even for him, this is a very good column. He's probable only one any editor will let use this many numbers in a family paper.]
The New York Times February 1, 2005
OP-ED COLUMNIST
Many Unhappy Returns
By PAUL KRUGMAN
T he fight over Social Security is, above all, about what kind of
society we want to have. But it's also about numbers. And the numbers
the privatizers use just don't add up.
Let me inflict some of those numbers on you. Sorry, but this is
important.
Schemes for Social Security privatization, like the one described in
the 2004 Economic Report of the President, invariably assume that
investing in stocks will yield a high annual rate of return, 6.5 or 7
percent after inflation, for at least the next 75 years. Without that
assumption, these schemes can't deliver on their promises. Yet a rate
of return that high is mathematically impossible unless the economy
grows much faster than anyone is now expecting.
To explain why, I need to talk about stock returns. The yield on a
stock comes from two components: cash that the company pays out in the
form of dividends and stock buybacks, and capital gains. Right now, if
dividends and buybacks were the whole story, the rate of return on
stocks would be only 3 percent.
To get a 6.5 percent rate of return, you need capital gains: if
dividends yield 3 percent, stock prices have to rise 3.5 percent per
year after inflation. That doesn't sound too unreasonable if you're
thinking only a few years ahead.
But privatizers need that high rate of return for 75 years or more.
And the economic assumptions underlying most projections for Social
Security make that impossible.
The Social Security projections that say the trust fund will be
exhausted by 2042 assume that economic growth will slow as baby
boomers leave the work force. The actuaries predict that economic
growth, which averaged 3.4 percent per year over the last 75 years,
will average only 1.9 percent over the next 75 years.
In the long run, profits grow at the same rate as the economy. So to
get that 6.5 percent rate of return, stock prices would have to keep
rising faster than profits, decade after decade.
The price-earnings ratio - the value of a company's stock, divided by
its profits - is widely used to assess whether a stock is overvalued
or undervalued. Historically, that ratio averaged about 14. Today it's
about 20. Where would it have to go to yield a 6.5 percent rate of
return?
I asked Dean Baker, of the Center for Economic and Policy Research, to
help me out with that calculation (there are some technical details I
won't get into). Here's what we found: by 2050, the price-earnings
ratio would have to rise to about 70. By 2060, it would have to be
more than 100.
In other words, to believe in a privatization-friendly rate of return,
you have to believe that half a century from now, the average stock
will be priced like technology stocks at the height of the Internet
bubble - and that stock prices will nonetheless keep on rising.
Social Security privatizers usually defend their bullishness by saying
that stock investors earned high returns in the past. But stocks are
much more expensive than they used to be, relative to corporate
profits; that means lower dividends per dollar of share value. And
economic growth is expected to be slower.
Which brings us to the privatizers' Catch-22.
They can rescue their happy vision for stock returns by claiming that
the Social Security actuaries are vastly underestimating future
economic growth. But in that case, we don't need to worry about Social
Security's future: if the economy grows fast enough to generate a rate
of return that makes privatization work, it will also yield a bonanza
of payroll tax revenue that will keep the current system sound for
generations to come.
Alternatively, privatizers can unhappily admit that future stock
returns will be much lower than they have been claiming. But without
those high returns, the arithmetic of their schemes collapses.
It really is that stark: any growth projection that would permit the
stock returns the privatizers need to make their schemes work would
put Social Security solidly in the black.
And I suspect that at least some privatizers know that. Mr. Baker has
devised a test he calls "no economist left behind": he challenges
economists to make a projection of economic growth, dividends and
capital gains that will yield a 6.5 percent rate of return over 75
years. Not one economist who supports privatization has been willing
to take the test.
But the offer still stands. Ladies and gentlemen, would you care to
explain your position?
Copyright 2005 The New York Times Company