Category Archives: Retirement

What’s a Ponzi Scheme: Karl Smith on Truth in Blogging

I think this is interesting for suggesting that there may be two ways of defining a Ponzi scheme.  One is a claim on future income not backed by an investment in an identifiable asset.  The other is simple claims on the future that ultimately can’t be made good.   If find my self thinking by the first definition could the family at least partially once a means of securing one’s old, a claim on the future be a Ponzi scheme.  I suppose not if children are thought of as capital assets.   That fits with capital theory but doesn’t give most people the warm and fuzzies.

Arnold Kling David Henderson revisits his claim that Social Security and Medicare are Ponzi schemes based on a comment by John Seater. John’s point was that Ponzi schemes are necessarily insolvent while Social Security would be solvent if the population was growing fast enough.

Arnold David replies:

It’s not necessarily the case that Ponzi schemes must circle around to the original people who invested in them. If the scheme offered modest enough returns and spread slowly, it could last forever in a country with a growing population. Therefore, Ponzi schemes, contra Seater, could remain solvent.

This actually brings to mind a point much deeper than the Social Security debate; a point that may be fundamental to intellectual disagreement in policy circles.

Arnold is using the term Ponzi scheme and I am certain that he feels its appropriate and meaningful. Yet, as best as I can tell he is stripping of its primary connotation: necessary insolvency and bankruptcy for the participants.

It is tempting at this point to say that Arnold is being “dishonest” about Ponzi schemes and Social Security. This is where lots of intellectual discussion go off the rails/

However, I don’t think “dishonesty” is accurate in the traditional sense. I think Arnold means what he says and is communicating in good faith. Leverage the negative affect of the term Ponzi scheme seems appropriate to him because Social Security and Medicare likewise leave him with negative affect. I am assuming because no investment is induced by the system even though its made to look like a savings system.

Yet the term Ponzi scheme leaves most people with negative affect for entirely different reasons. For most people, the negativity comes from the fact that you cannot win and sooner or later the entire thing must come crashing down.

My points in all of this are several

  1. This type of cross-talk happens all of the time in intellectual disputes and is responsible for a good portion of the disagreement that we think we are having.
  2. Though it can easily escalate to attacks on intellectual honesty there is no bad faith on anyone’s part
  3. It can be cut through with careful and calm reasoning. This is hard to achieve but we should strive for it.

Filed under: Bias and Rationality

Truth in Blogging
Karl Smith
Wed, 29 Jun 2011 17:09:49 GMT

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Can’t be beat the bulge

An interesting post from Modeled behavior.  The main thought is that the demographic bulge would create challenges for retirement with or without Social Security.

http://modeledbehavior.com/2011/02/22/the-401k-pyramid/

Matt Yglesias notes

Imagine a society with no Social Security, and also no imprudent or short-sighted people. Everyone puts a healthy share of their annual income away in a savings vehicle, and everyone manages to retire on a decent income. Thanks to the ups and downs of the financial markets, there’s a certain inefficiently noisy quality to the income of retired people, but due to the magic of infinite prudence the problem is very manageable. Now imagine that demographers are predicting a one-time demographic adjustment in the ratio of old people to non-old people in the population. This will lead to a decline in the rate of economic growth, and therefore to the expected return on investment. Either workers will need to start increasing their savings rate, or else they’ll need to accept lower living standards when retired. In other words, they’ll face the exact same choice we currently face in the form of higher taxes or lower benefits. Of course people could try to compensate for lower expected returns by engaging in riskier investment strategies, but we’re talking about a perfectly prudent population.

Under the circumstances, I don’t think anyone would be saying “saving for your retirement is a pyramid scheme—it depends on the assumption of future economic growth!”

Actually the problem goes beyond a simple slow down in economic growth and there was significant hand-wringing about it a while back. It was called the “Asset Market Meltdown Hypothesis.”

As it was often put, “so exactly who is the baby boom generation planning on selling its 401(k) assets to?”

The issue is was that real rates of return to should vary inversely to the supply of capital. There are only so many good investment opportunities, so the more people invest, the lower the rate of return. The way this ought to play out in the asset markets is that prices should rise very quickly as people pour their money in but then grow very slowly, once everyone is in.

That’s depressing enough as it goes, but the kicker is that the reverse should happen on the other side. That is, asset prices should fall rapidly as everyone tries to sell out, then hit some bottom level and grow steadily from there.

Perhaps, disconcertingly the US stock market looks like it could be in the middle of such a story.

FRED Graph

You can see a little bit of a take-off in the 1980 then another sharp jump upwards in the mid 1990s and of course, the market has moved essentially sideways since then.

We can also see that the excess growth period matches the increased percentage of workers using 401(k)s

The core issue, that Matt hints at, is that having an equity stake in the America’s future capital is not somehow more fundamentally sound than having an equity stake in America’s future labor.

International capital flows could mitigate this somewhat by allowing American corporations to seek out opportunities in other countries the drive down in the real rate of return could be avoided. However, at the same time international labor flows could solve the Social Security problem.

Also, to turn your mind around. Here are inflation adjusted stock market values

FRED Graph

Here are inflation adjusted stock market values per US worker

FRED Graph

The End of Retirement as We Know It – Business – The Atlantic

That retirement for a large share of one’s life may hard to support whether or not from the government, was I thought an interesting idea.  It may be offset by the addition of savings to capital though.

Retirement experts typically say that retirees should shoot for 75-90% of their working income in retirement (the theory being that some expenses fall, but other expenses rise, and you don’t need to save for retirement when you’re already retired).

That’s fine when the ratio of workers to retirees is 1:12, as it was within the Social Security system in the early years.  But by the time you get to 5:1, it starts to pinch–assuming everyone has the same income, each worker has to toss at least 15% of their own income into the pot to support the retirees.  Once you get to 2:1–which is where we’re rapidly headed–33% of your income is going to support someone in retirement.  Woe betide you if you also have kids.

It’s important to note that this is true no matter how retirement is funded.  Whether you collect a dividend check, get a corporate pension, or live off your social security, your retirement is funded by real claims on the output of people in the workforce.  Private pensions have a couple of advantages:  the investments that fund them actually help make the economy more productive, unlike transfer payments; and they aren’t necessarily indexed to inflation, so over time, as incomes grow, it becomes easier to support the older retirees.  But they don’t eliminate the problem; they merely mitigate it.

Mathematically, society simply cannot have a high and growing dependency ratio–at least, not if the retirees expect to be supported in the style to which they have become accustomed.  (I take it that this is what is meant by “a decent living and a stable retirement”).  We can warehouse people in spartan old folks homes (or treat them like kids and move them into the spare bedroom), in which case they can enjoy a lengthy retirement.  Or they can retire for less time, and live more lavishly.  But there is no conceivable system that is going to allow the vast majority of the population to spend a full third of their adult life in retirement, at anything like the same standard of living they had when they were working.

The End of Retirement as We Know It – Business – The Atlantic.