Basic finance for people not worried about the debt

When people discussing reducing the debt, they generally oppose making "cuts" in social security and other entitlements. This aversion to "cuts" makes it impossible to balance the budget in an honest way.

Unfortunately to have an honest discussion about the debt we need honest accounting. We have to step outside the language associated with politics (i.e. propaganda) and into the language of normal accounting and finance.

First, we need to calculate how much social security is really worth.

Maximum social security benefits are currently $2,346/month. I’m currently 30 years old so I would not be eligible for this maximum amount for another 36 years.

Let’s do some math. Assume that inflation is 2%/year indefinitely and the maximum social security payment tracks inflation, let’s assume that I’m getting the maximum and let’s assume that I live to be 90.

Under this scenario, I have known cash flows for the years that I’m between 66 and 90. If we assume a discount rate of 5%, it’s relatively easy to calculate the present value of these cash flows, which is: $170,384.10 (to simplify the analysis I made the calculation on an annual basis).

Assuming that USG is a risk-free counterparty, a rational person in my position would therefore – theoretically – be indifferent to receiving $170,384.10 today and forgoing future social security payments or just keeping future social security payments.

According to an honest accounting system, USG would book a liability of $170,384.10 to me right now. It doesn’t.

Of course, there is one huge thing missing from this analysis. We must also consider the likelihood of USG being able to honor it’s social security obligations. Regardless of your politics, you’re an idiot if you think that there is a 100% chance of USG honoring these obligations. To accurately determine the present value of social security, the $170,384.10 should be multiplied by the likelihood of USG paying out as promised. So, if you think there’s a 50/50 chance of USG paying out in 36 years, the real value of my social security benefits are $85,192.50.

So, an honest discussion of the budget would make it clear that "cuts" in my benefits only take place below this new threshold.

To be totally honest, I think there’s a zero percent that USG will be able to pay me under the current social security regime in 30 years, so I view it as impossible to "cut" "my" social security.

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20 Responses to Basic finance for people not worried about the debt

  1. J says:

    you should check out this for an intro to MMT (so-called modern monetary theory).

    http://www.interfluidity.com/v2/1357.html

    http://www.creditwritedowns.com/2011/04/on-hyperinflation.html

    intelligent people everywhere are fleeing the sinking intellectual ship of deficit hysteria and hyperinflation alarmism.

    internet is helping the process along, as this is pretty arcane stuff inaccessable to anyone who wasn’t already looking for it up til recently. certainly won’t find such ideas in neoclassical econ departments around the nation, or even on sincere economic dissident sites of a free market bent.

    but the word is spreading fast, there is no USG solvency risk, for better or worse. no money multiplier, no FED helicopter drops. worst of all, no easily predictable investment outcomes or fool-proof strategies for wealth protection(dollar collapse, buy silver! etc.)

    the unspoken wish of so many boomers is another predictable inflation they can ride to debt-free homeownership, followed by FED induced super-high interest rates on risk free bonds. i.e., a repeat of the 70s and 80s, experienced by the young boome3rs but not seized on or profited from. but they observed, learned, and they’ve waited patiently.

    see

    http://fabiusmaximus.wordpress.com/2011/02/07/24601/

    this is perhaps what’s behind the fevered obsession, against all the empirical evidence before us, with the idea of imminent inflation, among the right of center aging american. the TEA party people. unfortunately today has more in common with 1930 USA than 1971 USA. there won’t be any inflationary windfall for the indebted, savingsless boomers. but they still might be able to retire if they don’t accidentally collapse the economy with a balanced budget amendment or whatnot. that all seems to be political theatre which won’t happen.

    just read up on MMT before you become too invested in an econ narrative that you can’t pull back from it.

    such is the state of moldbug on monetary economics.

    • Foseti says:

      “intelligent people everywhere are fleeing the sinking intellectual ship of deficit hysteria and hyperinflation alarmism.”

      Where is this intellectual ship? Mainstream economics has been solidly behind the deflation mantra for quite some time.

      • J says:

        this intellectual ship spans most of the Right. the entire alt Right is engulfed by this belief set. and as for deficit hysteria, it spans the entire political spectrum from far right to mainstream left. only a small coterie of post-keynesian and other heterodox economists (including some with rightish political views) realize its utterly false. maybe you agree with me maybe not. i’m just giving you advice, don’t be too hasty to jump on any bandwagon without doing your research first.

  2. “you’re an idiot if you think that there is a 100% chance of USG honoring these obligations”

    … while keeping the value of money constant.

    Those who issue currency always have the option of exchanging bankruptcy for inflation. I have no opinion as to which option would be “better”, but the second is certainly more politically plausible.

  3. Sardonic_sob says:

    “We can guarantee payments at any level over any specified time frame. What we cannot do is guarantee the purchasing power of those payments.”

    And how the bleep are you ten years younger than me?

  4. J says:

    also, USG has no such obligation, neither formally nor informally.

    SS is not a constitutional right, its a welfare program. if anything it should be paid for out of the general budget. whether or not the USG can provision a welfare pittance of bare necessities, to minority of aged who actually need it, will depend on the state of the economy at any given point in the future. the economy would have to be in a state of complete collapse to imagine a dearth of resources so severe that such transfer payments would cause mass inflation. as for insolvency, unless it is a self-imposed political choice, it will never occur. the government can never run out of the dollars it alone can create in infinite quantities. the USG is not a firm or a household, and there is no basis for saying it should account for its financial flows as if it were.

    • Foseti says:

      I think it’s pretty hard tonargue that USG doesn’t have at least an informal obligation to pay

      • J says:

        its obligated in the same sense any other government of a wealthy industrial state would be… its basic human decency not to let the elderly starve, etc. but USG has no contractual obligation to send anyone a check. certainly not in any way that would impact accounting realities. USG is not a private firm subject to contract law. it makes the law. it issues the currency. it doesn’t run out of the currency, and it doesn’t go into bankruptcy. a reactionary above all should realize the sovereignty of the state and its separateness from a firm operating under contract law and private accounting practices. but this meme is too strong for me to dislodge. everyone wants america to be bankrupt. if only it were. i wish it were! but its not. it will pay its bills, it will pay its soldiers, it will collect its taxes… if you want to change it, you better have a plan b besides ‘wait for the chinese to put USG into bankruptcy’ or ‘wait for hyperinflation.’

  5. Dr. Grzlickson says:

    Just raise taxes. What does SS have to do with the debt?

  6. Lester Hunt says:

    These people have a privilege denied to folks who use normal accounting: they get to pay you in paper tickets (“dollars”) they print themselves. Isn’t the most likely scenario that they will diminish the value of what they pay anyone by the obvious means (inflation)?

    It is true that there is zero likelihood that they will pay you the amount you named, but there is a greater than zero chance that they will pay smaller sum. So the present expected value of your SS loot is greater than zero. It’s just very small.

    • sardonic_sob says:

      I think there is a very good chance, approaching 100%, that they will pay him as much or more than they have promised him. I just don’t think that the purchasing power of that payment will be anything like what the same payment would have today.

  7. Handle says:

    Some people are mentioning inflation, and the answer is that it’s a bit complicated because there are multiple ways to measure inflaiton. Social Security doesn’t use CPI, it uses the wage-based AWI.

    Since the amendments that first tied these payments to “inflation”, the AWI has exceeded the CPI over time, and since 1975 (when automatic indexing came into effect) the accumulated difference is about +15% (a pure windfall bonus for recipients). The “Boskin Commission” tried to point all this out in 1996 (when the oldest baby boomers were only 50) and the members were nearly lynched. Such is entitlement politics.

    But in some years, when there a recession and high unemployment, the reverse can be true. Such years include 1975, 1980, 1986, 1993, 2002, and 2008-??

    (In fact, this will have to remain true for a while if the economy is going to fully recover, because wages must fall relative to the price level to create enough new jobs to decrease unemployment, W/P is too high at the moment).

    In typical operation of the irreversible expenditure ratchet, when AWI is negative, the COLA is not negative but merely 0% (which is another total windfall, yet still people bitch about it!).

    I expect over the rest of the decade that long term AWI/CPI will return to 1:1, which means 15% more price-inflation than wage-inflation.

    At any rate, “under current law” (which, as we know, doesn’t mean much and hasn’t in the past) a present value computation relies on one’s estimates of the future wage-to-price inflation-differential in order to compute the expected stream of payments.

    Since Social Security benefits are also taxable, you’ve also got to guess at your future tax bracket’s rates. And then there’s the matter of the “trust fund”. When the trust fund goes into permanent deficit, it begins a sequence of events whereby government-held debt (and more readily defaultable) is converted into publically-held debt (not so much).

    The problem is the subsidized cash-flow that Social Security has provided into procuring USG debt, which has lowered rates. When trust-held bonds earning low rates must be converted into publically held bonds earning unsubsidized (therefore higher, especially with inflation) spot-rates, it creates a compounding effect with regards to solvency and deficit funding.

    And that means the Fed (If we still have a Fed) would have to step in and … it’s complicated.

    Well, I think I’ve made my point. There’s no way around having to match real tax revenues to real liabilities, and which way the PV-impacting adjustments will occur is anybody’s guess.

  8. rightsaidfred says:

    According to an honest accounting system, USG would book a liability of $170,384.10 to me right now. It doesn’t.

    I’d prefer that we get tagged with such an annuity, but SS is a pay-as-you-go system. We’ve earmarked 11.6% of earned income to be distributed amongst the entitled now and forevermore. The system is self funded separately from the general fund.

    I notice guys I hire in their sixties are anxious to have all their income reported on W2s. Younger guys not so much. The Mexican nationals colonizing this area want to be “independent contractors” with no withholding. Fifty years hence we’ll have 100,000 White guys left paying into SS, supporting 40 million clamoring entitlees. Wheeeee! Instead of a $2346 max benefit, it will be $5.

  9. dearieme says:

    The question might not be whether the USG will honour these entitlements, but whether the Chinese Government will choose to. I’d bet against.

  10. Handle says:

    Here’s the Kaus on new government hires and DC not acting like there’s any real debt/deficit problem.

    There’s a $1.6 trillion deficit but the feds are still hiring. As of March 23 they were hiring someone to run a Facebook page for the Deparment of the Interior (at up to $115,000 a year). They were hiring equal opportunity compliance officers at the Peace Corps and Department of Interior for $150,000 to $180,000 a pop. They were hiring deputy speechwriters for officials at relatively obscure agencies. …P.S.: The point isn’t so much that these federal employees are overpaid, though they are. The point is that if there were any actual sense of a deficit crisis in Washington these are jobs that would not be filled at all. … Well, maybe the Facebook editor. I think that’s a critical investment necessary to win the future, don’t you?

  11. […] Foseti – “Try Understanding the Government We’ve Got“, “Basic Finance for People Not Worried About the Debt” […]

  12. Kristjan says:

    US is a currency issuer and as such can always make payments. The real question here is that are the resources available when It comes to paying your social security. If the resources are available by the workers who will provide the services and goods that you need by the time you retire there is not going to be any problem. If the resources are not available then money is not going to help you.

    So the notion of your accounting is totally wrong. Currency issuing government expenditures are not funded by taxes. Taxes only function to prevent demand pull inflation that occures due to exessive aggregate demand. There is not exxessive aggregate demand if millions are unemployed. more can be consumed and oproduced if these millions are employed. for that net government spending is needed(deficit spending) US government is never going to run out of dollars.

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