The Real Social Security Crisis

I just figured out why Social Security is in a crisis. There is a crisis, but it is not a governmental crisis, a senior crisis, or any of the other things that would concern the average American. Whether there is a crisis depends on your point of view. The crisis is that Social Security reduces the interest rate that the US Government pays on bonds.

When you look at who owns the national debt, Social Security is the second largest owner at just over $2.7 trillion, or about 1/8 of all debt the government owes. The second largest holder is the Federal Reserve at $1.66 trillion currently. Social Security has run a surplus for over 30 years now, and that surplus is reinvested in government bonds which over a long time has added up to a large surplus.

By providing the government easy money to cover the deficit we have run since the Bush tax cuts in 2001 (before which we had 4 years of a growing surplus) it diminishes the interest rate. Here is a chart I made demonstrating a constant demand rate, but a diminished supply, the simplest of economics graphs:

Basically, by having social security run a surplus year after year, which I have already blogged about, the US government pays less on the debt which means that we have easy access to a large amount of credit annually. This is good for the tax-paying American.

However, there are some people who don't benefit from such an arrangement, which is every Amrican who borrows more in bonds than he/she pays in taxes. Mostly finance people who work at banks who get easy money from the US government by selling bonds, at almost no risk. The money that they get from the government comes from taxes and future bonds. If the government was to run a surplus the government would not need to sell bonds and the interest rate would collapse because the supply would be 0, which would force banks to invest in other ways. Since the government routinely runs a deficit, there is always a need for bonds to be sold in order to cover expenses, so bonds will pay people money so the government can continue providing services that Americans rely on. If the government was to balance the budget or run a surplus this easy money would be gone.

By eliminating social security, as some Republicans want to do, or by reducing the tax rate and payments little by little until nothing is left, the government will lose this revenue that diminishes interest rates and income taxes beyond the level they would be otherwise. If Social Security was eliminated we would see that the interest rate the government pays on bonds would rise because they would need to sell more bonds to the private market in order to raise enough revenue, and the banks that buy large amounts of bonds will make more easy money.

If we eliminated the Federal Reserve as some Libertarians want to do, the government would lose the other major holder of American debt which further decreases interest rates. A lot of Tea Party Republicans claim how it is "monetizing the debt" which they say is a bad thing. While I agree that debt shouldn't be used in all times I recognize as a Keynesian that during recessions it is worth taking on debt to get the demand curve up to where it was to end the recession. But I do understand that if too much money is printed beyond the demand for it you could create runaway inflation which looking at a number of countries where inflation is out of hand is clearly bad for the economy. The people who would have the most to gain out of eliminating the Federal Reserve would be the people who would benefit from controlling monetary policy directly. I don't usually read CNBC, but they wrote a really good article on how creating a central bank under the executive or legislative branches would create endless problems of politics here that I don't feel like I need to duplicate. The system we have now is the best we are going to have in terms of monetary policy. Their leaders are appointed by Congress and are able to make quick decisions without needing constant political debate within their mandate. In other words, between the money it provides to reduce interest rates on American bonds and stabilization, ending the Federal Reserve would be a very bad idea.

Source on who owns the debt: http://useconomy.about.com/od/monetarypolicy/f/Who-Owns-US-National-Debt.htm

Social Security Surplus by Year

The "End The Fed" People

For the past few years there has been a lot of talk about ending the Federal Reserve and going to a system where the government doesn't print the American dollars. People make a lot of outrageous claims, and most of this is spearheaded by Ron Paul's constant tirade against the government's involvement in anything but abortion and marriage. He has a lot of support from Occupiers, many of which don't know his true votes. on http://votesmart.org/candidate/key-votes/296/ you can see where he has voted. I recommend looking at his votes HR 359, HR 2, HR 4437, HR 2745, and most importantly H J Res 64, and H J Res 58, to see how they match up on his rhetoric. He has a mixed record. I included this because he is the patron saint of the private currency movement.

The following arguments people in favor of ending the Federal Reserve say include the following:
1. It is a fiat currency and they want it to be backed up by gold, claiming this would be better.
2. After the Great Depression and now they are claiming it creates depressions.
3. They think that a private bank, which probably would end up being Bank of America or Goldman Sachs, would do a better job. That is who did it the last time we had a private currency! Government contractors, mostly banks.
4. The Federal Reserve is the sole cause of inflation (The Case Against the Fed by Murray Rothbard)

Milton Friedman, Ron Paul, the Tea Party, and the Austrian school of economics are the people who are most famous in criticizing the Federal Reserve. Currently, it would take 9.5 billion grams of gold to back up the American GDP, Fort Knox holds a mere 147 million grams, meaning to back up every American dollar we would need 90 times the current amount of bullion the American government has. Currently Fort Knox holds 2% of the world's known gold, that would mean we would need 180% of the proven gold reserves, which is impossible. Remember, Milton Friedman (who hated the Federal Reserve) proposed that the Federal Reserve should increase the amount of money in the economy by a certain predetermined amount every year regardless of how the economy is doing. This is known as his k-percent rule. If he wanted to prevent inflation, according to a monetarist approach this is the exact opposite of what their other beliefs would predict (To be transparent, I am Keynesian). Perhaps the most important part to the whole argument is that if the government didn't print money, someone else would have to. The answer would be who it was before, private banks, Bank of America, Chase, Goldman Sachs, and Citigroup would be the most likely contenders and there would be no Congressional oversight.

The argument that the Federal Reserve is the sole cause of inflation leaves out the influence of the energy industry. Everything in the economy requires energy to run and this is oil for transportation. With the vast majority of the world's oil controlled by a handful of corporations, they have formed a cartel, known as OPEC, since they have formed a cartel they can negotiate what the price is going to be among themselves and squash any competition. If the price of shipping increases, everything else increases because everything needs to be shipped to get to where it will be sold, whether it is across town or across an ocean. If the price of oil is highjacked (which of course has never happened, sarcasm) than naturally the cost of shipping will rise and the cost of everything that is shipped (which is everything) will follow. At this point, putting more money in the economy to increase the amount of money regular people have won't stop the price inflation from the cartel. The Federal Reserve hasn't caused this, and there is very little they can do to stop it short of the Federal Government investing into renewable energy to give competition to this powerful cartel. President Carter tried to do that, but then we elected Ronald Reagan and the movement for energy independence went to the background of our political sphere. (Cold but true.) In fact, over the past 100 years (since the Federal Reserve was founded, 1912) the times with the highest inflation were in the 1970s and the 2000s. What immediately preceded both of them was a massive increase in the oil price. No action from the Fed here!

So, that leaves the only other part is what they leave out. Many people look at it and say they cause inflation by randomly increasing the money supply without bounds, in fact, no. There is no basis to that in real life. The Federal Reserve also destroys old bills to counterbalance the printing of new bills, which means the impact on inflation is negligible with this system in place. This is usually not reported when the media talks about the federal reserve and when I talk to critics they usually don't know about this and think I am lying, which I am not.

So, I have defeated all four arguments that are usually used against the Federal Reserve. Now, I wish to bring the points I have on why the Federal Reserve is a necessity for economic stability.
1. With only one printer of money there can be control in a steady monetary economy. With private contractors no such mechanism can exist.
2. The rate of severe recessions is currently 1 per 50 years, between the closing of the second national bank and opening of the Federal Reserve it was 1 per 7 years, there were two recessions in 1896 alone!
3. If you use gold as a basis for currency than that becomes a basis and if the value of gold rapidly decreases the value of your money will follow.
4. There is simply not enough gold in the world to back up the dollar's value. There is currently a proven reserve of about 8 billion ounces of gold available in the world (calculated by the amount held by the Federal Reserve 161 million which is 2% of the known reserves), and if we used a two metal system as was proposed by Bryan in the 1890s we could have, assuming that we had all the world's gold (literally) in Fort Knox it would equal $12.7 trillion at current exchange rates which would fall short of our GDP by over $3 trillion meaning we would need at least a bimetallic system if we were going to back the American dollar up with a precious metal. $3 trillion is the equivalent of 110 billion ounces of silver. It just isn't possible to use a gold standard, or bimetallic standard. It is not going to work. The gold just doesn't exist.

If we were going to take a lot of money out of the economy, well, that would mean deflation. That would mean increasing everybody's taxes and taking the money out of the economy instead of spending it on government programs and putting it back in the economy. This probably would not be done equitably given our recent political history. Prices would have to drop immediately or our standard of living would rapidly decrease. Personally, I would move all my money to other currencies to protect my wealth, and other people will do the same. Divestment from America, divestment from Greece isn't looking there. (See my previous post) There you go, the American dollar just got the amount of money it needs to switch to the gold standard! Unfortunately the American economy  just shaunk by $3 trillion dollars and our GDP per capita by over $10,000. By decreasing the supply of money, the opposite of a rapid increase of money should happen, and since increasing the supply curve will decrease the value of the dollar and prices will increase, by decreasing the supply curve prices will increase the value of the dollar and prices should decrease. I say should because I am not completely convinced it will. If some major corporation (oh, I don't know, let's say OPEC) that has a major influence on the economy decided to not decrease their prices, the prices will not decrease. Given the leverage the oil companies have on the economy I highly doubt that they would decrease their prices so rapidly across the country if they had no interest, and I can't see any reason why they would. This would mean prices for other goods will not come down because of the cost of shipping as much as they would need to if this was actually done, but I highly doubt this is likely. It would require every business to decrease their prices in order for this to happen, and because of market forces I predict individuals wanting to get ahead will prevent such a decrease in prices. So this means less money in people's pockets, and similar prices. I believe we call this situation a depression. It would take a long time for the prices to balance out and I don't see that happening in a timely manner. After that point private corporations (namely big banks) will have complete control over the money supply and probably not just one company but several, and the thing that supply-side economists tend to support, a privatization of the money system, will prove how an oversupply of money can hurt an economy by destroying the value of the dollar. That is not an option for the United States or the rest of the world. Currently, the times our country has seen rapid inflation is correlated not to actions by the Federal Reserve, but by actions by the oil industry, and only the oil industry. I don't think the risks are worth the proposed benefits that they claim, and the history of when we privatized our currency leads me to believe that there won't be benefits, but we will see issues in the overproduction of money to increase the value of the private banks that will print our money. Without caring about the long-term implications to their decisions.

This is why I support the Federal Reserve.

This is also one reason why I am voting OBAMA 2012.