From CBS.MarketWatch.com, online at:
http://cbs.marketwatch.com/news/story.asp?dist=nwtpf¶m=archive&siteid=mktw&guid=%7B7C953CFF%2DD5EE%2D438A%2DBD78%2D70BD7822F28B%7D&garden=&minisite=A CASE AGAINST PRIVATIZING SOCIAL SECURITY
12/20/2004 5:44:46 PM
By Paul B. Farrell
5:44 PM ET Dec 20, 2004
ARROYO GRANDE, Calif. (CBS.MW) -- The new field of behavioral finance reveals much about why Americans will buy into the idea of privatizing Social Security, even though there is now overwhelming evidence that doing so will ultimately undermine the U.S. economy and markets.
The new behavioralists, such as Daniel Kahneman, the Princeton psychologist who in
2002 won the Nobel Prize in economics, use psychology to explain why more than 80 percent of America's investors are irrational, even to the extent of sabotaging their own best interests.
In simple terms, these behavioralists tell us most investors are motivated by preconceptions, emotions, greed, fear and ideologies, not logic, facts and intelligence.
In the past few years, we have reviewed numerous studies challenging the ideology driving the Social Security-privatization movement. Authors of these studies agree there are only two ways to fix Social Security: increase taxes or cut benefits (by as much as 40 to 50 percent). It's that simple. Privatization does not solve the underlying problems; it only makes them worse.
Unfortunately, we also know American voters are not yet willing to deal with the obvious solutions. So the ideology of privatization provides an illusion of a solution, until the system eventually crashes.
Rational investors
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Now along comes the Century Foundation, a Washington think tank, with a powerful new
study: "12 Reasons Why Privatizing Social Security Is a Bad Idea." Understanding these 12 reasons is absolutely essential to rational investors who plan ahead and are doing what they can to protect their retirement nest eggs against the risk of system failure.
Here's a summation of the 12 points. Please, folks, follow along closely:
-- Insurance protections for 17 million families threatened. One-third of all payments go to family members and the disabled, not retirees. Estimated returns look reasonable because reformers plan "draconian" cuts in these benefits.
-- Privatization makes financing government debt worse. The "crisis of 2018" -- when payroll taxes will be insufficient and general tax revenues must be used to pay retirees -- will occur much earlier. That's because diverting payroll taxes into private accounts will mean trillions of dollars in new federal debt.
-- Private accounts will dampen national growth. Privatizing will significantly increase federal deficits and long-term debt, further reducing America's low savings rate, which will "reduce long-term economic growth."
-- Privatization has been a disappointment elsewhere. The United Kingdom and Chile used to be models. Unfortunately, a new World Bank study labels Chile a failure, while the U.K.'s 25-year-old system has saddled its government with "substantial new expenses, lost tax revenues" and a need to bail out pension plans.
-- Odds are against investors making wise decisions. Reformers sell private accounts using slogans like "individual choice," "personal control" and "higher returns."
That's great political rhetoric, but, since 80 percent of investors are irrational, behavioralists say individual returns will be "significantly lower" than stock-market norms.
-- What you get depends on the market when you retire. Imagine retiring in 2001 instead of 1999? Under the existing system, you'd get the same guaranteed fixed sum.
In a bear market, though, you'd get "substantially less" from privatization.
-- Wall Street reaps huge windfalls from your taxes. Brokers, banks and fund companies stand to make "enormous fees." So for years they've been spending huge sums lobbying Congress. The U.K.'s disastrous system, where fees exacted by financial intermediaries have "eaten up an average of 43 percent of the returns," is proof of this.
-- Privatization requires a huge new costly federal bureaucracy. America has 95 million investors today. Privatization would cover an estimated 147 million accounts, requiring an immense oversight structure, further reducing returns.
-- Young people will be worse off. When adding costs of a new federal bureaucracy, inflated Wall Street fees and the increased federal debt for transition costs, the Congressional Budget Office concludes future generations will get "returns even lower than under our pay-as-you-go system."
-- Women stand to lose the most. The existing system is a better deal for women as they live longer and work fewer years at lower pay. Women are also relying more on spouse and widow benefits. In addition, poverty rates are twice as high for older women, making them even more vulnerable.
-- Minorities will become even more vulnerable. Minority Americans will be at increased risk of retiring in poverty. Factors such as lower wages, fewer years in the work force, higher disability rates and less wealth at retirement have meant more reliance on Social Security benefits under the existing system.
-- Retirees will no longer be protected against inflation. Money invested in private accounts will be tied to market ups and downs, rather than guaranteed payments tied to inflation. Three current proposals all call for annuities at retirement, but, without a hedge against inflation, over time their value will decline.
Unfortunately, all this evidence against privatization is likely to be ignored by America's irrational investors, the 80 percent who make decisions based on emotions, preconceptions and ideologies rather than facts and intelligence.
Besides, with average nest eggs under $50,000, they don't have enough for retirement now and will have even less under a privatized system.
Tips on protecting yourself against system failure
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On the other hand, if you're one of the other 20 percent, you know you have to plan ahead to protect your retirement. So here are some very simple suggestions:
-- The key to every retirement plan is your savings rate. So live frugally, below your means, and increase your savings to 20 percent, says Thomas Stanley in "The Millionaire Mind." High, yes, but essential under privatization. And re-read his book, which says that if you want to retire rich, build equity in a business that sells basic goods and services to the other 80 percent of America, because paper assets will be less valuable.
-- Consider reducing bonds as debt markets will deteriorate. Instead, focus more on equities, specifically foreign equities because trade deficits mean more foreigners will have assets in America. And buy domestic equities, like Wal-Mart, that profit from selling basics to the 80 percent who believe privatization is the solution to the Social Security "crisis," when, in fact, the Century Foundation's 12 reasons tell us privatization will be the cause of a crisis.
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