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May 13, 2005

Comments

The argument that stocks will out perform social security is very misleading.

First of all they usually talk about the performance of stocks over the last 75 years or so. This gives a starting point right after the 1929 stock market crash. Stocks were very undervalued at that point, so this gives a very low starting point. If you look at price to earnings ratios or price to sales ratios, stocks are much more highly valued today, then they were in 1930. This means that over the last 75 years stocks have grown in value much more than the GDP growth.

I doubt that it is reasonable to expect the same kind of increase in price to earnings or price to sales ratios in the next 75 years, so it is unlikely the growth of stock values will exceed GDP growth by very much in the next 75 years.

Over the last 75 years the average annual GDP growth rate has been around 3.6%. The SS Trustees report projects GDP growth declining to about 1.8% over the next 75 years. The reasons they assume this is the retirement of the baby boom generation, declining birth rates, and they assume the immigration rates will decline significantly also (although with the baby boom retirement and the declining birth rate, it is not clear this will happen). If GDP growth is only going to average 1.8% over the next 75 years, and stock returns are not going average very much more than the GDP growth, then it is hard to see how you could get the 5% to 7% return on stocks that people keep talking about over the next 75 years.

Some people think the SS Trustees are too pessimistic about GDP growth. While GDP growth will almost certainly be lower than it has been, they think it won’t be 1.8%. They think that the immigration rates will have to be higher in order to provide the workers the US economy will need following the baby boomers retirement. If the GDP growth rate is something like 2.5% over the next 75 years, then SS is in much better financial shape, and much smaller benefit cuts or tax increases will be need to keep it solvent.

Stock market is an open-ended mathematical venture. It is not closed until all "gains" have been cleared. Until then "gain" is a number on a piece of paper (in a database somewhere).

You can watch this struggle by watching the minute by minute (millesecond?) trading coupled with advice to "buy and hold".

You can play all the Present and Future Value games you want but tomorrow's wealth increase (not "money") will come from tomorrow's Production.

Meanwhile, 50% of the nation earns less than $25000/yr. No way can this group invest. Accidentally we have evolved a forced savings plan in which a PERCENT of today's Production {FICA) can be given to today's retired in return for the same PERCENT of the Production tomorrow when today's workers become retired.

"Devil is in the detail" and this is where the solution lies. The most serious are:

1, The tax rate should never have been(or be) more than enough to equal the current year's Consumption exchange.

2. At retirement there is no Production, therefore any Consumption must reduce the accumulated Production credits.

Above all, the most serious and obscure is the numerical success of the SS system itself. I am 83 and haved lived through the entire period. Never wealthy but OK and always above max taxable salary.

Today, almost 20 years after retirement, my SS income is 25% of my total input corrected for the everchanging value of dollar.

Ridiculous! No economy can handle this non-Production Consumption imbalance.

What is serious? All investment plans recommend a base. What better base than an inflation protected annuity of 25%? The current talk of increasing taxable salary level is NOT a correction, but an effort for more higher income people to join the party.

Remember! Higher income. Higher benefit.

Final note on inter-generation exchange which is upsetting the younger generation. ALL of my accumulated SS would have been consumed in any case, and so my estate to my children will include the equivalent which would otherwise have come from assets.

Excellent comment above my "mikeca" of Mike's Wine Blog, pointing out that today's overvaluation of stocks contributes to overstating the long run rate of return.

Hi Half-Sigma
The return of stocks has to be better than the return on durable commodities (e.g. gold and paintings) or else people would not want to invest in the stock market. If price to earning ratios get to be too high, investors will get nervous and shift to bonds and to durable commodities. Durable commodities will probably track the average wage rate over time because as wages rise, people can afford to spend more on these commodities. But unlike stocks, durable commodities cannot pay dividends and cannot earn profits.

Can I just keep my money and spend/save it as I wish? I promise I won't go crying to the government if I make poor decisions.

To say "First of all they usually talk about the performance of stocks over the last 75 years or so" is not correct. Most mutual fund organizations will provide you with all manner of information. You can look at every 5, 10, 15, 20 and 30 year period. That includes a lt of ups and down, alot of bull and bear markets. Heck, you can even get into the market every November and out every April and beat the S&P.
Mover Mike

First of all; Scott, Social Security is not about just you and your money, it provides death surviror benifits, disability benifits and support for children.

And Mike; When speaking of 75 years Mikeca is refering to what supporters of the stock market method use to build their case while you are refering to what fund managers or individual stock prospectus' use to promote their sale.

The problem that exists with Social Security is based in the current administrations unwillingness to pay back the money that was borrowed by earlier administrations. By tax cuts to the wealthy and constant declines in taxation of coorporate interests the current administration has squandered any ability to maintain Social Security or fund it in the future. This administration has used fear to push each and every agenda it has promoted. Fear of terriorists, fear of financial ruin for Social Security, fear of non christians and homosexuals, fear of high prescription drug prices to gain price advantages for pharma companies, fear, fear, fear.

Look at Chile which began priviting their system in 1981. It has given a 10% average annual return since it began. Social Security today gives about a 1-2% return.

Regarding the US, here is a quote by Michael Tanner at the Cato Institute:
“The year-to-year fluctuations of the market are actually irrelevant. What really counts is the long-term performance of the market over a person’s entire working lifetime, in most cases 45 years. Given that long-term perspective, there is no time when the average investor would have lost money by investing in the U.S. stock market. In fact, the worst 20-year period in U.S. stock market history, including the Great Depression and the 1929 crash, produced a positive real return of more than 3 percent. The average 20-year real rate of return has been 10.5 percent.”

Sorry, Scott, but just because you earned it, why do you think it's your money? It belongs to the government to dispose of as they please, and maybe they'll give you some back when (if) you retire. Besides don't you CARE about other people? You think you live in a free country or something? ;-)
And a nitpick with Dewey. Sites like Sharebuilder make it possible for even the poor to invest, although it's true that the poor may not be able to invest significant amounts.

Dan Morgan quoting Michael Tanner at the Cato Institute:
“In fact, the worst 20-year period in U.S. stock market history, including the Great Depression and the 1929 crash, produced a positive real return of more than 3 percent. The average 20-year real rate of return has been 10.5 percent.”

The US economy and population have also both grown rapidly, which is a big part of the reason for the growth in the stock market. In the 21st century we are looking at slower population and economic growth, which will translate to slower stock market growth. If economic and population growth in the US were to continue at close to the historical rates that were true in the 20th century, then Social Security would not be in trouble at all.

Note that this is slower growth rates. The population and GDP are projected to still grow, just not as fast as they have grown in the past.

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