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Is Social Security a Ponzi Scheme?

The continued fallout from Bernand Madoff's alleged Ponzi scheme has the blogosphere buzzing with examples of similar nefarious plots. One in particular caught our eye: Social Security.

Social Security?

Last week, in his CNBC blog Millennial Money, Cliff Mason wrote: "In the all the coverage of alleged con-man Bernie Madoff's $50 billion Ponzi scheme, I keep hearing that this could be the biggest swindle of its kind in history. That's just plain wrong. The largest Ponzi scheme in history is run by the U.S. government and it's called Social Security."

Ponzi schemes, as we all know now, essentially involve scammers using money raised from new investors to pay older investors. Like Mason, Jay Ambrose also sees connections to Social Security, writing in the Orange County Register that:

"There's a close but imperfect analogy here, because both Madoff and the government have engaged in something approximating a Ponzi or pyramid scheme in which the money of new investors pays off old investors until finally there's nothing left, and everyone goes home broke.

The pretense used to be that when you coughed up your payroll tax, you were actually putting money into a personal Social Security account for your own future benefit. What's actually happened, of course, is that the taxpayer dollars go to pay the immediate benefits of today's recipients, whose numbers are about to vastly increase, while the surplus magically disappears into the supposed trust fund."

It turns this is not the first time people have called Social Security a Ponzi scam. The Cato Institute wrote about this very topic back in 1999: "Just like Ponzi's plan, Social Security does not make any real investments -- it just takes money from later "investors," or taxpayers, to pay benefits to earlier, now retired, taxpayers."

And when we called Henry J. Aaron, a Brookings Institute expert on Social Security, he wasn't surprised to hear us ask about the connection. "This is not new," he said. And he begged to differ: "I understand that people make the connection but I think it's imprecise and inexact for two reasons."

One is that Social Security continues to accumulate sizable reserves, Aaron said, now totaling about $2.5 trillion. The other is that paying into Social Security is mandatory. "A Ponzi scheme depends on voluntary participation by people who thought they were going to make a killing and planned to get out," he said.

Furthermore, Aaron said. "The fact that we are all in this together means that the chance of a complete collapse doesn't exist as with a classic Ponzi scheme."

-- Michael S. Rosenwald

By Michael S. Rosenwald  |  December 22, 2008; 3:45 PM ET
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Mr. Aaron is right, and he should have added that Social Security can reduce the benefits payout to about 75% of today's amount and theoretically pay out almost indefinitely, using just the reserves and a stable employed population. Admittedly, it would be a blow to those expecting a full amount, but it would be sustainable. What's not mentioned is that the reserves are tied up in federal debt, so when Social Security begins drawing on them, the government will have to run a surplus and pay off the debt. Try not to laugh. That's the weakest spot for Social Security. The real "Ponzi" scheme is Medicare, which has a very steep fall off in benefits. At some point it won't be able to pay anything at all or only for extremely diluted or 'phony' coverage; e.g. you can go to any hospital you want as long as they accept $1.35 per day, total.

Posted by: southVAHmptn | December 22, 2008 4:04 PM | Report abuse

Social Security could have worked if the U.S. Congress had passed "family wage" or "just wage" legislation that would have ensured workers' wages rose consistently. The reason Social Security is in so much trouble now (aside from the very important demographic issues) is that wages have been depressed for so long. In 1967, my father could support a family of wife and six kids on $8,000 a year. That $8,000 a year is now equivalent to about $110,000, but how many American families (even two-wage earners) are making that? As prices have gone up, wages have actually gone down, even as social security withholding has gone up. In other words, if the U.S. had healthy demographic trends and a family wage policy, Social Security would not be a Ponzi scheme.

Posted by: paulinlodi | December 22, 2008 4:30 PM | Report abuse

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