John Mueller–a former aide to Jack Kemp and sometime consultant to the National Committee to Preserve Social Security and Medicare–has written a long article in The Weekly Standard criticizing conservatives’ plans for pro-investment reforms of Social Security and the tax code.
His argument boils down to this: Conservatives are overvaluing investment in physical capital and undervaluing investment in human capital. Conservatives typically say that they want to protect investment from double taxation. Taxing income when it is made, and then also taxing the return on any of that income that is saved and invested, creates a bias against savings. So conservatives have tended to want to prevent the returns from being taxed. Hence their support for cutting taxes on dividends, on capital gains, etc.
But these tax cuts, Mueller notes, do not shield investments in human capital–getting an education, or raising children–from overtaxation. Indeed, they make the overtaxation of human capital worse. If the tax code has to raise the same amount of revenue, shielding physical capital from overtaxation means the tax burden on everything else, including human capital, gets heavier. Mueller seems to conclude that the best course is therefore to continue overtaxing both kinds of investment. This is, I think, a weak point in his argument.
On Social Security, Mueller’s argument is that requiring workers to pay for the retirements of their parents’ generation while also pre-funding their own retirements in personal accounts will, again, cause them to scant investments in human capital. Here Mueller is drawing on the work of Allan Carlson, although (I think) not fully spelling out what he means. Carlson says that the great “demographic paradox” of Social Security is that it depends on a rising population from generation to generation while militating against that rising population. It replaces a system of family-based intergenerational dependence with a collective one: Instead of relying on your own kids for your old age, you rely on everyone’s. Which means that there’s a free rider problem: You don’t have to have kids (or at least economically productive ones) yourself.
This is all very interesting, and it lends support to Mueller’s own proposed Social Security fix: Cut payroll taxes by 25 percent, and cut future benefits by 25 percent. That would reduce the program’s shortfall by a quarter, which would be a nice start. Mueller’s plan is both more libertarian and more socially conservative than personal-account plans. With personal accounts, workers could keep some of their payroll-tax money so long as they invest it. Mueller would let them keep it and do as they wish. They could buy mutual-fund shares, but they could also pay part of their kids’ college tuition. (They could, of course, also blow it all in Vegas.) Reduced reliance on Social Security would reduce the program’s anti-natalist bias.
But if scaling back Social Security were as easy as Mueller makes it sound, it would have been done long ago. What has changed the politics of Social Security is, well, investment–the increasing enthusiasm of Americans for the kind of investment that Mueller says conservatives overvalue to their own political detriment. As they have participated in capital markets, Americans have grown more convinced that they can invest their money better than the feds. That is the political foundation for reform. A reform based on investment in the capital markets, meanwhile, offers a plausible basis for consolidating a free-market political majority. In time, perhaps it would relax the forced-savings aspect of personal accounts. A simple reduction in taxes and benefits, on the other hand, is not going to happen.
Mueller’s negative case against personal accounts seems overdone. Again, let’s conceptualize the choice he gives us as cutting 3 percentage points from people’s payroll taxes on the condition that they save and cutting people’s taxes the same amount unconditionally. In both cases, there would be cuts in future benefits to pay for the tax cut. It can’t be the case that the first plan would be a disaster for families and the nation’s budget while the second one wouldn’t be. Yet that’s what Mueller tries to maintain. (Allan Carlson, by the way, supports personal accounts.) Some of Mueller’s analysis is just screwy. Mueller seems to think that the fiscal shortfall of Social Security would shrink if the economy grows faster than projected. Surely he knows that higher growth would yield higher wages–and the way Social Security benefits are calculated, they would rise too.
When Mueller turns to political punditry, the results are preposterous. He calls his advocacy of tax hikes on investment and hostility to Social Security reform “the Reagan approach”–which is a bit of a stretch in the first place; Reagan may have signed the anti-capital tax-reform act of 1986, but the 1981 tax cuts, the tax policy for which he is primarily remembered, were very pro-capital, and 401(k)s were also created on his watch. Mueller writes, “The most striking political fact about Republican presidents and presidential candidates since Reagan’s departure is that, while faring steadily better on social and national security issues by following the Reagan approach, they have fared steadily worse on economic policy by moving away from it…. Had Bush merely broken even on economic policy, he would have enjoyed a historic landslide. This gives a sense of the magnitude of the political upside if Republicans can recapture the success of the Reagan fiscal program.”
There is a much more plausible explanation for the Republicans’ post-Reagan slide on the economy. In 1980, 1984, and 1988, economic conditions favored the Republicans: They were bad when Republicans were challengers and good when they were incumbents. In 1992, 1996, 2000, and 2004, conditions favored the Democrats. (The 2004 case is a bit more complicated than that, but not in a way that alters the basic claim here.) It is very hard to see how a Republican drive to cut capital-gains taxes hurt them, except insofar as the tax cut of 1997 made Clinton’s second-term economy do better.
Mueller simply ignores the idea that the expansion of the investor class helped to increase the number of Republican governors, senators, and members of the House. We’re supposed to believe that Republicans would be much better off if Reagan had never created 401(k)s and congressional Republicans had never cut capital-gains taxes or expanded IRAs. We’re also supposed to believe that Republicans would do better in the future by increasing taxes on investment. The burden of proof is on Mueller to show that Republicans will profit by attacking part of the demographic base of their ascendancy.
A healthy interest in human-capital formation should not be allowed to become some weird vendetta against the other kind. There would be little profit for social conservatives if it did. People generally invest in capital markets to serve familial goals: to take care of their families’ health, educational, and retirement needs. Pro-investment policies on taxes and Social Security could make it easier for families to hand down wealth through the generations. Conservatives should think carefully about how economic policies can be made less hostile to families as well as to work: On this point, Mueller is right and the most doctrinaire supply-siders wrong. But policies that promote investment, including Social Security reform, are still worth pursuing.