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http://www.nytimes.com/2005/02/01/opinion/01krugman.html?pagewanted=print&position=
"The fight over Social Security is, above all, about what kind of society we
want to have. But it's also about numbers. And the numbers the privatizers
use just don't add up.
Let me inflict some of those numbers on you. Sorry, but this is important.
Schemes for Social Security privatization, like the one described in the
2004 Economic Report of the President, invariably assume that investing in
stocks will yield a high annual rate of return, 6.5 or 7 percent after
inflation, for at least the next 75 years. Without that assumption, these
schemes can't deliver on their promises. Yet a rate of return that high is
mathematically impossible unless the economy grows much faster than anyone
is now expecting.
To explain why, I need to talk about stock returns. The yield on a stock
comes from two components: cash that the company pays out in the form of
dividends and stock buybacks, and capital gains. Right now, if dividends and
buybacks were the whole story, the rate of return on stocks would be only 3
percent.
To get a 6.5 percent rate of return, you need capital gains: if dividends
yield 3 percent, stock prices have to rise 3.5 percent per year after
inflation. That doesn't sound too unreasonable if you're thinking only a few
years ahead.
But privatizers need that high rate of return for 75 years or more. And the
economic assumptions underlying most projections for Social Security make
that impossible.
The Social Security projections that say the trust fund will be exhausted by
2042 assume that economic growth will slow as baby boomers leave the work
force. The actuaries predict that economic growth, which averaged 3.4
percent per year over the last 75 years, will average only 1.9 percent over
the next 75 years.
In the long run, profits grow at the same rate as the economy. So to get
that 6.5 percent rate of return, stock prices would have to keep rising
faster than profits, decade after decade.
The price-earnings ratio - the value of a company's stock, divided by its
profits - is widely used to assess whether a stock is overvalued or
undervalued. Historically, that ratio averaged about 14. Today it's about
20. Where would it have to go to yield a 6.5 percent rate of return?
I asked Dean Baker, of the Center for Economic and Policy Research, to help
me out with that calculation (there are some technical details I won't get
into). Here's what we found: by 2050, the price-earnings ratio would have to
rise to about 70. By 2060, it would have to be more than 100.
In other words, to believe in a privatization-friendly rate of return, you
have to believe that half a century from now, the average stock will be
priced like technology stocks at the height of the Internet bubble - and
that stock prices will nonetheless keep on rising.
Social Security privatizers usually defend their bullishness by saying that
stock investors earned high returns in the past. But stocks are much more
expensive than they used to be, relative to corporate profits; that means
lower dividends per dollar of share value. And economic growth is expected
to be slower.
Which brings us to the privatizers' Catch-22.
They can rescue their happy vision for stock returns by claiming that the
Social Security actuaries are vastly underestimating future economic growth.
But in that case, we don't need to worry about Social Security's future: if
the economy grows fast enough to generate a rate of return that makes
privatization work, it will also yield a bonanza of payroll tax revenue that
will keep the current system sound for generations to come.
Alternatively, privatizers can unhappily admit that future stock returns
will be much lower than they have been claiming. But without those high
returns, the arithmetic of their schemes collapses.
It really is that stark: any growth projection that would permit the stock
returns the privatizers need to make their schemes work would put Social
Security solidly in the black.
And I suspect that at least some privatizers know that. Mr. Baker has
devised a test he calls "no economist left behind": he challenges economists
to make a projection of economic growth, dividends and capital gains that
will yield a 6.5 percent rate of return over 75 years. Not one economist who
supports privatization has been willing to take the test.
But the offer still stands. Ladies and gentlemen, would you care to explain
your position?"
http://www.nytimes.com/2005/02/01/opinion/01krugman.html?pagewanted=print&position=
"The fight over Social Security is, above all, about what kind of society we
want to have. But it's also about numbers. And the numbers the privatizers
use just don't add up.
Let me inflict some of those numbers on you. Sorry, but this is important.
Schemes for Social Security privatization, like the one described in the
2004 Economic Report of the President, invariably assume that investing in
stocks will yield a high annual rate of return, 6.5 or 7 percent after
inflation, for at least the next 75 years. Without that assumption, these
schemes can't deliver on their promises. Yet a rate of return that high is
mathematically impossible unless the economy grows much faster than anyone
is now expecting.
To explain why, I need to talk about stock returns. The yield on a stock
comes from two components: cash that the company pays out in the form of
dividends and stock buybacks, and capital gains. Right now, if dividends and
buybacks were the whole story, the rate of return on stocks would be only 3
percent.
To get a 6.5 percent rate of return, you need capital gains: if dividends
yield 3 percent, stock prices have to rise 3.5 percent per year after
inflation. That doesn't sound too unreasonable if you're thinking only a few
years ahead.
But privatizers need that high rate of return for 75 years or more. And the
economic assumptions underlying most projections for Social Security make
that impossible.
The Social Security projections that say the trust fund will be exhausted by
2042 assume that economic growth will slow as baby boomers leave the work
force. The actuaries predict that economic growth, which averaged 3.4
percent per year over the last 75 years, will average only 1.9 percent over
the next 75 years.
In the long run, profits grow at the same rate as the economy. So to get
that 6.5 percent rate of return, stock prices would have to keep rising
faster than profits, decade after decade.
The price-earnings ratio - the value of a company's stock, divided by its
profits - is widely used to assess whether a stock is overvalued or
undervalued. Historically, that ratio averaged about 14. Today it's about
20. Where would it have to go to yield a 6.5 percent rate of return?
I asked Dean Baker, of the Center for Economic and Policy Research, to help
me out with that calculation (there are some technical details I won't get
into). Here's what we found: by 2050, the price-earnings ratio would have to
rise to about 70. By 2060, it would have to be more than 100.
In other words, to believe in a privatization-friendly rate of return, you
have to believe that half a century from now, the average stock will be
priced like technology stocks at the height of the Internet bubble - and
that stock prices will nonetheless keep on rising.
Social Security privatizers usually defend their bullishness by saying that
stock investors earned high returns in the past. But stocks are much more
expensive than they used to be, relative to corporate profits; that means
lower dividends per dollar of share value. And economic growth is expected
to be slower.
Which brings us to the privatizers' Catch-22.
They can rescue their happy vision for stock returns by claiming that the
Social Security actuaries are vastly underestimating future economic growth.
But in that case, we don't need to worry about Social Security's future: if
the economy grows fast enough to generate a rate of return that makes
privatization work, it will also yield a bonanza of payroll tax revenue that
will keep the current system sound for generations to come.
Alternatively, privatizers can unhappily admit that future stock returns
will be much lower than they have been claiming. But without those high
returns, the arithmetic of their schemes collapses.
It really is that stark: any growth projection that would permit the stock
returns the privatizers need to make their schemes work would put Social
Security solidly in the black.
And I suspect that at least some privatizers know that. Mr. Baker has
devised a test he calls "no economist left behind": he challenges economists
to make a projection of economic growth, dividends and capital gains that
will yield a 6.5 percent rate of return over 75 years. Not one economist who
supports privatization has been willing to take the test.
But the offer still stands. Ladies and gentlemen, would you care to explain
your position?"
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