To read this, I suggest reading my proposal for funding Social Security
which precedes this in the BLOG. (egb)
This is a followup to the original posting. I have heard many times
that if someone had invested in the stockmarket he would have done much
better than the Social Security interest rate of 1.23%. I heard
something to the effect that "no 10 year period ever did worse than
1.23%. It's hard to propose an alternative to the current scheme based
on hearsay so I searched around and found daily Dow Jones records for
all trading days between Oct 1, 1928 and Oct 1, 2008.
I wrote a program that created three accounts: a cash account that
simply accumulated what was deposited without interest; a Social
Security (SS) account that accumuates deposits and grows at the SS
rate of 1.23%; and a dollar cost averaging account that grows
and shrinks at the rate of the Dow Jones averages.
The program is nothing more than you could do with pencil and paper,
but it is a lot faster. Assuming 'A' is the amount deposited in
each account per month:
DJ CASH INTR DCA
DATE CLOSE ACCT ACCT ACCT
(x) (y) (z)
month 1 w1 x = A y = A z = A
month 2 w2 x = x+A y = 1.0123 * y + A z = (w2/w1) * z + A
month 3 w3 x = x+A y = 1.0123 * y + A z = (w3/w2) * z + A
...
The program shows that there is no 30 year period where dollar cost
averaging did not do better than SS. Here are the results of analyzing
all dates using periods of from 1 to 60 years:
YEARS INTR DCA
1 341 609
2 296 641
3 262 663
4 228 686
5 199 703
6 167 723
7 159 719
8 144 721
9 135 719
10 121 721
11 118 712
12 117 701
13 105 700
14 94 699
15 88 694
16 79 691
17 76 682
18 69 677
19 63 670
20 60 661
21 52 658
22 50 648
23 42 644
24 33 641
25 23 638
26 13 637
27 9 629
28 6 620
29 3 611
30 0 601
31 0 589
32 0 578
33 0 566
34 0 554
35 0 542
36 0 529
37 0 518
38 0 506
39 0 494
40 0 482
41 0 469
42 0 457
43 0 446
44 0 434
45 0 422
46 0 410
47 0 397
48 0 385
49 0 374
50 0 362
51 0 350
52 0 338
53 0 325
54 0 314
55 0 302
56 0 290
57 0 278
58 0 265
59 0 253
60 0 242
To read this table, the first column represents the total length
of time for the investment. The second column ("INTR") is the SS
Interest account accruing at 1.23% per year. The third column
is the Dollar Cost averaging account that follows the Dow Jones average.
Any line can be read as follows (choose 22, for example):
Of all of the 22 year spans within Oct 1, 1928 and Oct 1,2008,
50 of them would have shown a greater gain for a SS account
than Dollar Cost Averaging, and 648 would have shown a greater
gain for Dollar Cost Averaging than SS. There are a total of
50 + 648 = 698 22-year spans each starting at the beginning
of a month.
The results suggest that the risk of this plan is very low over a
30 year investment plan.
Using the example in the Heritage paper of a person starting out at age
21 and collecting at 67 (46 years) my program shows that the
worst 4 periods that person could have started investing in the time
from 1928 to 1962 [1962 + 46 = 2008 <- the present] are: CASH = cash account, no interest INT = interest account DCA = dollar cost average of DJ close value. START PERIOD DJ
YEAR (yrs) CLOSE CASH INT DCA Difference
(END) (0.0%) (1.23%)
------------------------------------------------------------------
1936/07/01 46 803.27 55300.00 74356.11 142633.01 68276.90
1936/06/01 46 814.97 55300.00 74356.11 145142.28 70786.18
1936/08/03 46 822.11 55300.00 74356.11 145559.27 71203.16
1936/03/02 46 828.39 55300.00 74356.11 148855.72 74499.61
and the best 4 periods are:
1953/06/01 46 10596.26 55300.00 74356.11 635346.00 560989.89
1953/12/01 46 10998.39 55300.00 74356.11 635604.09 561247.98
1953/09/01 46 10937.88 55300.00 74356.11 644034.34 569678.23
1954/01/04 46 11357.51 55300.00 74356.11 652417.48 578061.38
1953/07/01 46 11066.42 55300.00 74356.11 659513.43 585157.32
The program also showed that if an interest rate of 3.64% were
yielded in Social Security, then an Interest account would have equaled
the worst starting period (1936/07/01). That indicates that the worst
the DJ has done in ANY 46 year period since October 1928 was 3.64%
annally. All of these calculations are done without adjusting for
inflation. The results are what an investor would see, not what
he could buy.
Ed
Saturday, October 25, 2008
Thursday, October 16, 2008
Social Security - A Way Forward
Social Security - Classic versus Plan B
There seems to be some concern that as time moves forward, the number of
people supporting a retiree will diminish. Since Social Security is a
bucket of money, payout will depend on the bucket not running out of money.
If everyone lives longer, the money in the bucket can only be invested
at a 1.23%
[http://www.heritage.org/Research/SocialSecurity/CDA98-01.cfm]
interest rate and fewer people are contributing to the bucket
compared to the number withdrawing, one might guess there are dark
clouds on the horizon.
I've spoken to people that do not think any form of privatization of
Social Security is a good idea. The problem is those people don't have
any convincing arguments why SS will remain solvent.
However, there is one form of privatization no one has mentioned.
We would allow anyone to immediately choose between the current SS
investment plan yielding 1.23% annually [called affectionately SS Classic]
or Plan B. Plan B is
A) A portfolio of US Goverment securities (Treasury Bills)
or
B) A 50% mixture of US Government securities and high quality equities
Those who object to Plan B mention most frequently cite the "safety net"
idea where when all else fails, the U.S. Government and Social Security
will take care of you in your old age. If people invest in the stock market,
how could the government guarantee a safety net? Well, that's the issue.
Plan B is not only the ability to invest in something better than the
1.23% interest, but also the law that creates Plan B also says the
U.S. Government does not abandon the safety net at all. In fact,
the U.S. Government says the following to each citizen:
You choose either SS Classic or Plan B. In either case,
the U.S. Government guarantees you a minimum of 1.23% payout on the
same terms as the current Social Security. The U.S. Government stands
behind the concept of the safety net. If you choose Classic, when
you die, your benefits cease. If you chose Plan B, your keep the
investments.
Well that would seem to solve the problem except for the bucket. It
would now be drained at the same rate but would have fewer contributors
than ever and the fund will be bankrupt in no time. Or will it. The law
implementing Plan B has in it the following required condition:
a) All returns in the Plan B accounts beyond the 1.23% will be
taxed on a yearly basis. The rate will initially be as much as
50% of the return over and above the 1.23% of SS Classic.
Thus, if your account earns 4%, then the US Government
might take 50% of the difference between 4% and 1.23% or it
might take as much as 1.385%.
The money taken is earmarked by law for SS Classic payout.
The tax is further earmarked by law to shrink as the need
for it disappears when no people remain on Social Security
Classic. When a surplus is collected in one year, the tax is
by law reduced in the following year. No additional legislation
is needed.
If the average earnings of those who enter Plan B is just
1.23 + 1.23 + 1.23 = 3.69%
then 50% of the excess above 1.23 is magically 1.23 and the amount of
contribution into the SS Classic fund (into the bucket) is identical
to that now. All who particpate in Plan B always receive a better
return on the SS investment that those in SS Classic. [Treasury
Bills yield 3% today.] Because of the better return and the
ownership of the investment account, SS Classic will rapidly
disappear on its own.
There is one other issue that is seldom mentioned that leads legislators
to oppose privatization: the U. S. Government can borrow
money from the bucket at the rate of -- 1.23% or there abouts.
SS Classic provides our legislators with low cost money to spend on
many things. This source of funds would eventually dry up and the U.S.
Government would have to pay competitive interest rates to get money to
run government. The reduction in available money to the government
seems like a good idea to me.
Here are some observations.
1. The private account would have to be as remote as the SS Classic
account in terms of early cash out.
2. There would have to be publicly visible and verifiable rules for
investments. Trading and options and short selling should be illegal,
in my opinion. [Taxing to fill the existing Classic bucket
would have the effect of lowering the interest rate of the
investments which is what we are trying to raise.] Each account
holder must be able to verify that his or her account is following
proper investment rules.
SUMMARY:
1. Choose SS Classic - current scheme or SS Plan B private account.
2. U.S. Government guarantees all 1.23% and SS Classic terms.
3. U.S. Government taxes private proceeds in excess of 1.23% to cover
shortfall for those who remain in SS Classic.
4. SS Classic withers and dies because no one chooses it leaving
SS Plan B as the surviving partner.
5. U.S. Legislators improvise, adapt and overcome.
2008-10-03
Ed Bradford
There seems to be some concern that as time moves forward, the number of
people supporting a retiree will diminish. Since Social Security is a
bucket of money, payout will depend on the bucket not running out of money.
If everyone lives longer, the money in the bucket can only be invested
at a 1.23%
[http://www.heritage.org/Research/SocialSecurity/CDA98-01.cfm]
interest rate and fewer people are contributing to the bucket
compared to the number withdrawing, one might guess there are dark
clouds on the horizon.
I've spoken to people that do not think any form of privatization of
Social Security is a good idea. The problem is those people don't have
any convincing arguments why SS will remain solvent.
However, there is one form of privatization no one has mentioned.
We would allow anyone to immediately choose between the current SS
investment plan yielding 1.23% annually [called affectionately SS Classic]
or Plan B. Plan B is
A) A portfolio of US Goverment securities (Treasury Bills)
or
B) A 50% mixture of US Government securities and high quality equities
Those who object to Plan B mention most frequently cite the "safety net"
idea where when all else fails, the U.S. Government and Social Security
will take care of you in your old age. If people invest in the stock market,
how could the government guarantee a safety net? Well, that's the issue.
Plan B is not only the ability to invest in something better than the
1.23% interest, but also the law that creates Plan B also says the
U.S. Government does not abandon the safety net at all. In fact,
the U.S. Government says the following to each citizen:
You choose either SS Classic or Plan B. In either case,
the U.S. Government guarantees you a minimum of 1.23% payout on the
same terms as the current Social Security. The U.S. Government stands
behind the concept of the safety net. If you choose Classic, when
you die, your benefits cease. If you chose Plan B, your keep the
investments.
Well that would seem to solve the problem except for the bucket. It
would now be drained at the same rate but would have fewer contributors
than ever and the fund will be bankrupt in no time. Or will it. The law
implementing Plan B has in it the following required condition:
a) All returns in the Plan B accounts beyond the 1.23% will be
taxed on a yearly basis. The rate will initially be as much as
50% of the return over and above the 1.23% of SS Classic.
Thus, if your account earns 4%, then the US Government
might take 50% of the difference between 4% and 1.23% or it
might take as much as 1.385%.
The money taken is earmarked by law for SS Classic payout.
The tax is further earmarked by law to shrink as the need
for it disappears when no people remain on Social Security
Classic. When a surplus is collected in one year, the tax is
by law reduced in the following year. No additional legislation
is needed.
If the average earnings of those who enter Plan B is just
1.23 + 1.23 + 1.23 = 3.69%
then 50% of the excess above 1.23 is magically 1.23 and the amount of
contribution into the SS Classic fund (into the bucket) is identical
to that now. All who particpate in Plan B always receive a better
return on the SS investment that those in SS Classic. [Treasury
Bills yield 3% today.] Because of the better return and the
ownership of the investment account, SS Classic will rapidly
disappear on its own.
There is one other issue that is seldom mentioned that leads legislators
to oppose privatization: the U. S. Government can borrow
money from the bucket at the rate of -- 1.23% or there abouts.
SS Classic provides our legislators with low cost money to spend on
many things. This source of funds would eventually dry up and the U.S.
Government would have to pay competitive interest rates to get money to
run government. The reduction in available money to the government
seems like a good idea to me.
Here are some observations.
1. The private account would have to be as remote as the SS Classic
account in terms of early cash out.
2. There would have to be publicly visible and verifiable rules for
investments. Trading and options and short selling should be illegal,
in my opinion. [Taxing to fill the existing Classic bucket
would have the effect of lowering the interest rate of the
investments which is what we are trying to raise.] Each account
holder must be able to verify that his or her account is following
proper investment rules.
SUMMARY:
1. Choose SS Classic - current scheme or SS Plan B private account.
2. U.S. Government guarantees all 1.23% and SS Classic terms.
3. U.S. Government taxes private proceeds in excess of 1.23% to cover
shortfall for those who remain in SS Classic.
4. SS Classic withers and dies because no one chooses it leaving
SS Plan B as the surviving partner.
5. U.S. Legislators improvise, adapt and overcome.
2008-10-03
Ed Bradford
Tuesday, October 7, 2008
Thursday, October 2, 2008
Financial Crises Explanations
Oct 3, 2008
Over the past several months the financial crises in America has
consumed lots of discussion. I have found few facts and a lot of long
pointed fingers. For my own references here are several articles
that attempt to explain some of the issues:
1. The Subprime Primer. This is a picture story in PowerPoint.
http://michaelperelman.files.wordpress.com/2008/02/presentation1.pps
2. This one is factual and a good read.
http://www.reason.com/news/show/129158.html
3. This one looks a bit deeper and points some fingers:
http://www.youtube.com/watch?v=1RZVw3no2A4
4. A paper authored by Steven D. Levitt (Freakonomics). Here Levitt says,
all the information in what is written here is from Doug Diamond and
Anil Kashyap:
http://freakonomics.blogs.nytimes.com/2008/09/18/diamond-and-kashyap-on-th
e-recent-financial-upheavals/
5. Formal paper written be real Economists:
Leveraged Losses: Lessons from the Mortgage Market Meltdown
David Greenlaw, Jan Hatzius, Anil K Kashyap, Hyun Song Shin
http://faculty.chicagogsb.edu/anil.kashyap/research/MPFReport-final.pdf
Over the past several months the financial crises in America has
consumed lots of discussion. I have found few facts and a lot of long
pointed fingers. For my own references here are several articles
that attempt to explain some of the issues:
1. The Subprime Primer. This is a picture story in PowerPoint.
http://michaelperelman.files.wordpress.com/2008/02/presentation1.pps
2. This one is factual and a good read.
http://www.reason.com/news/show/129158.html
3. This one looks a bit deeper and points some fingers:
http://www.youtube.com/watch?v=1RZVw3no2A4
4. A paper authored by Steven D. Levitt (Freakonomics). Here Levitt says,
all the information in what is written here is from Doug Diamond and
Anil Kashyap:
http://freakonomics.blogs.nytimes.com/2008/09/18/diamond-and-kashyap-on-th
e-recent-financial-upheavals/
5. Formal paper written be real Economists:
Leveraged Losses: Lessons from the Mortgage Market Meltdown
David Greenlaw, Jan Hatzius, Anil K Kashyap, Hyun Song Shin
http://faculty.chicagogsb.edu/anil.kashyap/research/MPFReport-final.pdf
Ed.
Wednesday, October 1, 2008
Oct 01, 2008
Ed Bradford
Last week, I finished a book entitled
The Stages of Economic Growth
by
W.W. Rostow.
Cambridge University Press, 1964
Inside the cover is a price written in pencil of 25 cents. This book
had been a used book for a long time. Rostow puts forth his ideas about
how economic growth proceeds in five stages:
1. Traditional society
2. The preconditions for take-off
3. The take-off
4. The drive to maturity
5. The age of high mass consumption
The book is subtitled, "A Non-Communist Manifesto". Rostow discusses
various societies and their paths to modernization. He speaks of how
societies transformed themselves from tribal agricultural societies to
modern industrial societies. No value judgements of whether this
movement is good or bad are presented. The book focuses on the
mechanisms and impulses motivating transitions from stage to
stage and discusses how to identify each stage. The last chapter
of the book compares the stages of growth model with Marx and
Engle's views of economic growth.
COMMENTS:
I found the book fascinating and useful for understanding one view
of economic growth. Rostow included the Russian Communist economy in
his analysis and looks at China and India and how they are
approaching the take-off for mondernization [book was written
in 1959]. Noted are the requirements for take-off
which include a growing infrastructure which is included in "social
overhead capital". Another observation is that until the
reinvestment of profit exceeds the population growth by a
certain amount, take-off will not happen. This explains somewhat
the lack of modernization in the antebellum south where all
the profit was plowed into luxuries rather than captital
investments. (Luxury spending benefits the owner; capital
spending can benefit both the owner and labor and can yield
further profits).
Although the book is only about 160 pages long, the level of
detail and exmamples was sufficient for me to understand his
views on how countries modernize. It helped me
understand how some countries can avoid modernization for
generations and how other countries can get on the bandwagon
within one generation.
Excellent book if you are interested in economic models of
growth.
Ed
Ed Bradford
Last week, I finished a book entitled
The Stages of Economic Growth
by
W.W. Rostow.
Cambridge University Press, 1964
Inside the cover is a price written in pencil of 25 cents. This book
had been a used book for a long time. Rostow puts forth his ideas about
how economic growth proceeds in five stages:
1. Traditional society
2. The preconditions for take-off
3. The take-off
4. The drive to maturity
5. The age of high mass consumption
The book is subtitled, "A Non-Communist Manifesto". Rostow discusses
various societies and their paths to modernization. He speaks of how
societies transformed themselves from tribal agricultural societies to
modern industrial societies. No value judgements of whether this
movement is good or bad are presented. The book focuses on the
mechanisms and impulses motivating transitions from stage to
stage and discusses how to identify each stage. The last chapter
of the book compares the stages of growth model with Marx and
Engle's views of economic growth.
COMMENTS:
I found the book fascinating and useful for understanding one view
of economic growth. Rostow included the Russian Communist economy in
his analysis and looks at China and India and how they are
approaching the take-off for mondernization [book was written
in 1959]. Noted are the requirements for take-off
which include a growing infrastructure which is included in "social
overhead capital". Another observation is that until the
reinvestment of profit exceeds the population growth by a
certain amount, take-off will not happen. This explains somewhat
the lack of modernization in the antebellum south where all
the profit was plowed into luxuries rather than captital
investments. (Luxury spending benefits the owner; capital
spending can benefit both the owner and labor and can yield
further profits).
Although the book is only about 160 pages long, the level of
detail and exmamples was sufficient for me to understand his
views on how countries modernize. It helped me
understand how some countries can avoid modernization for
generations and how other countries can get on the bandwagon
within one generation.
Excellent book if you are interested in economic models of
growth.
Ed
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