America’s leftist economists are swarming the media in an attempt to turn back President Bush’s initiative to modernize Social Security with personal accounts. Yet for all their seeming brain-power, they are entirely bereft of ideas of their own. What they do offer — mostly in the form of picayune objections to reform dressed up as “papers” and “studies” — is junk science. But as you’ll see, a closer look reveals that much of this junk science makes for compelling arguments in favor of reform.
Last week I found myself on a cable talk show opposite Joseph E. Stiglitz — the leftist economist from Columbia University who won the Nobel Prize in economics in 2001. I asked him twice — and the show’s host asked him a third time — how he would apply his economic expertise to bring Social Security into the 21st century. He said “there are alternatives,” but he could not articulate a single one of them. The best he could do was say we need to increase economic growth by — you guessed it — repealing the Bush tax cuts.
Growth sits at the center of many of the attacks being made by leftist economists against Social Security modernization. They claim that the Social Security Administration actuaries have exaggerated the program’s solvency problems by using artificially low growth assumptions in their calculations. The actuaries use an average real GDP growth rate of about 1.9 percent to estimate the system’s long-term solvency when the historical average growth rate of GDP has been about 3.5 percent.
It’s a strange thing for leftist economists to argue that growth forecasts are too low. These are the guys who mope about the “zero sum society,” the “crisis of global capitalism,” and “depression economics” even during the best of times. But for the Social Security debate, to a man they have all donned rose-colored glasses and are forecasting high growth as far as the eye can see. On television with me, Stiglitz — the author of the apocalyptic obituary of the bubble economy called The Roaring Nineties — improvised an argument for why future growth ought of be 3.7 percent. Why? Because, as Stiglitz told me on TV, with growth that strong “the Social Security problems just disappear.”
Of course, so would President Bush’s argument that Social Security faces a crisis. And that’s why the dismal scientists of the Left are suddenly cheerleaders for growth. But this isn’t just dismal science — it’s junk science. And it matters not a whit that it comes from a Nobel laureate. Yes, faster economic growth means more jobs, higher wages, and bigger payrolls to tax. But Social Security benefits are indexed to wage growth — so while more taxes are collected today, even more has to be paid out in benefits in the future. Stiglitz is dead wrong.
The Social Security Trustees say just that in their latest annual report: “eventually, faster real wage growth, alone, results in an increase in the unfunded obligation of the program.” And when the cameras aren’t rolling, leftist economists will set aside their growth pompoms and admit the truth. Dean Baker (of the Center for Economic and Policy Research, a George Soros-funded think-tank although Soros’s name has recently been excised from the site’s list of funders) confessed to me in a moment of weakness that “even if you assume much more rapid wage growth, the the [sic] program would still face a shortfall somewhere near the end of this century.”
But the leftist economists aren’t just banking on a bogus argument about high growth. They’ve got a bogus argument for low growth, too. This one is tarted up as a “paper” that was presented last week at the Brookings Institution by Baker, Brad DeLong (the former Clinton administration official who is the self-confessed most-Marxist-leaning economist on the U.C. Berkeley economics faculty), and Paul Krugman (America’s most dangerous liberal pundit, who surely needs no further introduction by me).
Though reported in the New York Times as a big story, the “paper” is, at best, nothing more than a trivial gotcha. Its essence is simply the claim that it’s inconsistent to assume slower economic growth in the future while at the same time assuming that stock market returns will be the same as they have been in the past. On the face of it, this is hardly controversial. But the political message here — the gotcha — is one that Baker and Krugman have made before in other venues: that this inconsistency invalidates the forecast made by the actuaries of the Social Security Administration regarding how well personal accounts holding stocks might perform.
The actuaries, as noted earlier, assume about 1.9 percent annual real GDP growth over the coming 75 years. That’s about 1.5 percent less that the average rate since 1947 (as far back as modern GDP calculations go). At the same time, the actuaries assume 6.5 percent annual real total returns to stocks. That’s about 1.3 percent less than their total return since 1947. So the actuaries have forecasted both GDP growth and stock returns that are lower by about the same amount. What’s the complaint, then? Where’s the inconsistency?
Baker, DeLong, and Krugman expend 41 pages of junk science trying to come up with one — and fail. Acting as the “paper’s” discussant at Brookings last week, N. Gregory Mankiw (the widely admired Harvard economist and recent chairman of the Council of Economic Advisors) was merciless. Mankiw called it “the strangest contribution to the equity premium literature I have seen … [it] can be viewed as creative, bizarre, or vacuous … ” He noted that it relied “on the level and growth of a variable that, to a first approximation, does not matter.” And he declared, “If I took this model seriously, it would do more than inform my view of the equity premium. It would shake my faith in corporate capitalism!”
Mankiw was neither fooled by nor shy about exposing the “paper’s” thinly veiled political purpose. He asks the rhetorical question, If the expected returns for stocks doubled, thus rendering moot the “paper’s” whole premise, “Would Baker, DeLong, and Krugman suddenly be in favor of President Bush’s proposal for Social Security reform? I suspect they would not.” Indeed.
Thus, Mankiw concludes, “while the paper raises some interesting questions about the future of assets returns, as far as the debate over Social Security goes, it is largely a non sequitur.” In other words, no matter what anyone may conclude about whether 1.9 percent growth and 6.5 percent stock returns go together, one would still feel the same way about Social Security reform, whether for it or against it.
Jim Glass takes Mankiw’s judgment one step further on his blog, Scrivener.net. Glass argues that, thanks to this “paper,” the leftist economists have become trapped in an inescapable two-pronged Catch-22. Here’s the first prong: If economic growth and stock returns go together, personal accounts that can invest in stocks are a terrific idea when growth is strong, as stock returns will also be strong.
And there’s no escaping this Catch-22 by taking the traditional leftist view that future economic growth will be disappointing. If stock returns will be lower than in the past under low growth, then, of necessity, interest rates and bond returns will also be lower. While high growth can’t bail out the Social Security system (no matter what the leftist economists claim to the contrary), low growth surely can sink it like a torpedo. Why? Because lower interest rates mean that the assets the program holds would earn less. So the program would need more assets now — or would have to renounce more of its obligations in the future — to make up its underfunding.
In this way, the leftist economists are skewered on the second prong of their self-made Catch-22: If economic growth and asset returns go together, personal accounts are a terrific idea when growth is poor, as they secure worker benefits against the system’s worsened insolvency due to low interest rates.
But wait — it gets even worse for the leftist economists. Their “paper” claims that in a low-growth environment real stock returns should be about 4.5 percent annually. That may be lower than the 6.5 percent assumed by the actuaries, but it’s higher than what a worker can expect to earn from the existing Social Security program. And it’s a lot higher than what a worker could expect to earn from the program once its already shaky finances are rocked by the impact of lower economic growth.
So what have we learned from our illustrious leftist economists? First, if it is a wonderful world — a world with high growth as far as the eye can see — it’s the perfect place in which to own a Social Security personal account that can invest in stocks. Second, if the world doesn’t turn out to be so wonderful, that same personal account will act as a personal lock-box to protect a worker from Social Security benefit cuts (all while stock returns will still probably beat the miserable returns of the current program).
Class dismissed. Professors can exit through the door on the left.
– Donald Luskin is chief investment officer of Trend Macrolytics LLC, an independent economics and investment-research firm. He welcomes your visit to his blog and your comments at firstname.lastname@example.org.