Economics for idiots

Lawrence Lindsey explains in language even a numerophobe can understand precisely why Obama’s Social Security proposal isn’t just mean-spirted, pandering and illogical, but is also disastrous for the American economy:

Although the formula connecting benefits to tax payments or “contributions” has evolved slightly over time, it still adheres to this basic message. Today, what Social Security terms a “low-wage” worker will pay (in present value terms) $77,197 over his or her lifetime and get $112,261 in benefits. A median-wage worker earning $42,000 will pay $171,550 and get back $187,085. A “high-wage” worker making $67,000 will pay $274,480 and get back $245,085.

Under the current formula, lower-wage workers get a slightly better deal than do higher-wage workers, assuming the same life expectancy. But the principle remains that as workers’ wages rise so do the taxes they pay, and so do the benefits they will get from the system.

Sen. Obama would do away with this principle by requiring higher-end workers to pay taxes without getting any extra benefits linked to their higher contributions. This would be a big step toward turning Social Security from a contributory pension scheme into just another welfare program.

The economics of what Sen. Obama is proposing should be at least as troubling. A high-income entrepreneur would see his or her federal marginal tax rate rise to 53% from 37.7% under Sen. Obama’s tax plan. He proposes a 4.6 percentage point hike in the personal income tax rate, a loss of some itemized deductions, and a 12.4 percentage point hike in the Social Security payroll tax. This would take a successful entrepreneur’s effective marginal tax rate higher than what it was under Jimmy Carter or Richard Nixon, when the maximum tax on an entrepreneur was 50%.

One of the lessons from the disastrous economics of the 1970s and the subsequent Reagan tax cuts is that everyone – particularly entrepreneurs – responds to incentives. If you take away 10% of a high earner’s after-tax income at the margin, he will cut his taxable income by at least 4%. At the margin, this taxpayer now takes home 62.3% of his earnings, a figure that will drop to 47% under the Obama plan. According to a widely accepted economics rule of thumb, the entrepreneur’s taxable profit would drop by 11.2%.

And that’s not all.  Read the rest here.

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  • judyrose

    As your figures demonstrate, the high-wage worker can expect to get back less than he paid in. Had he retained the right to invest that money himself, heaven only knows what it would have been worth. If Obama/democrats increase the amount of earnings that can be taxed for Social Security, the drop off only gets worse. But who cares? The rich ($67,000 is rich, isn’t it?) already have enough money.

    I don’t know when they made this change because I haven’t been paying attention since I worked for the Social Security Administration back in the 1970s, but it used to be that when you reached the age of eligibility there was an earnings test (suspension or reduction of benefits if you earned over a certain allowed amount) that applied until you were 72 years old. At 72, it didn’t matter how much you were earning, you got your SS checks. Now, they’ve changed that so that when you reach age 65, or 66, or 67 (whatever your full retirement age happens to be) you get your benefits no matter how much you’re earning. Imagine that! They actually made it easier to get your money back.

    So the next thing I’m expecting to hear is that Obama wants to apply a means test. You’d still have to pay in, but if you are too rich when you retire, then you get nothing back. (Please whisper this, since I don’t want to be held responsible for planting this idea in any Democrats’ minds.) Note there is a difference between a means test (related to your overall net worth or income from all sources) and an earnings test (which has to do with whether you are actually working). Right now, there is an earnings test until you reach full retirement age, and only Social Security earnings (income from employment or self-employment) can reduce the amount of your SS check. But one of these days, the Dems are going to propose that if you’ve got too much money in the bank, too many stocks/bonds/mutual funds, or too much cash under the mattress, you shouldn’t get any SS benefits back.

    Of course, if you happen to die before you retire, and don’t have a spouse or children eligible to collect survivor benefits, everything you paid in is lost. It doesn’t go to your estate. It’s not yours. It never was. Oh, forgive me. They give you $255 for the funeral. That should take care of it.

  • Mike Devx

    Social Security was supposed to be merely a safety net, not an entitlements program. It was as poor an idea as could be to have the current generation pay in for the current retired generation. This guaranteed that it was not just a pension program either.

    Social Security became a deadly burden on the next generation because of Ronald Reagan and Tip O Neill. They agreed to subsume Social Security into the national budget, opening up its use in deficit financing.

    As a result we as a nation are seriously economically bankrupt. Well, not the only reason, but it’s a big reason. Because this was done at a time when the baby-boomers were in their prime earning age, swelling the coffers of the social security program, its massive surplus has always hid even more massive deficits. With Bush, the massive deficit has begun increasing again at alarming levels. One doesn’t know if Cheney meant it when he said, “Deficits don’t matter”, or if he merely meant that to the American people, insanely, deficits don’t matter.

    There’s no way out of this mess without massive pain.

    The massive surpluses put into the Social Security system by baby boomers is, to a large extent, already spent… on other programs. Who is to blame more for this: Tip O’Neill or Ronald Reagan?

  • judyrose

    It started as a retirement plan and nothing else. It was sold as a “social insurance program.” It wasn’t about need. You paid in; you got back. Rich, poor. Didn’t matter. The retirement age was 65 (but you weren’t expected to live that long). They never intended to pay out more than they had collected. Survivor benefits were added for widows and children. Then they added Disability benefits. All those benefits were calculated based on what you had paid in. But the beneficiaries were receiving money on the backs of those currently working.

    Some time after I left the Administration in 1972, there was a huge shift and some benefits based on need were merged with the so-called insurance benefits. Those benefits are called SSI (Supplemental Security Income) and come out of the general fund (not Social Security taxes). Like you could tell the difference!

    Now that the baby boom generation is getting close to retirement age, thinking about the mess we’re facing makes my head spin. I try not to think about it too often. I don’t think they ever should have started the system in the first place, but what’s done is done. I’m going to want my money back – as much of it as I can get. And if they redesign the system so that younger workers can put part of their “taxes” into private accounts that actually belong to them (something I’m in favor of from a philosophical point of view), it will make it even harder to pay the current beneficiaries – who never had that option, and who have every right to get their money back. I look on it as a contract the government made with workers – a contract only the government can enforce, and which the government has the power to change any time they want. So why is the word “security” even in there?