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Home Publications Blogs Beat the Press Charles Krauthammer Doesn't Understand How Bonds Work

Charles Krauthammer Doesn't Understand How Bonds Work

Friday, 11 March 2011 08:15

Charles Krauthammer is very upset that Jack Lew, President Obama's budget director, is saying true things about Social Security and the budget. Krauthammer is troubled by the fact that Lew said that Social Security does not add to the deficit.

Lew based his claim on the law governing Social Security's operations, it can only spend money that has in its trust fund. This money comes either from the designated Social Security tax or from the bonds and interest on the bonds that were bought using the surplus from prior years. No money can come from general revenue.

This seems pretty simple, but not to Krauthammer:

"When your FICA tax is taken out of your paycheck, it does not get squirreled away in some lockbox in West Virginia where it's kept until you and your contemporaries retire. Most goes out immediately to pay current retirees, and the rest (say, $100) goes to the U.S. Treasury - and is spent. On roads, bridges, national defense, public television, whatever - spent, gone.

In return for that $100, the Treasury sends the Social Security Administration a piece of paper that says: IOU $100. There are countless such pieces of paper in the lockbox. They are called "special issue" bonds.

Special they are: They are worthless."

It's nice that Mr. Krauthammer thinks that government bonds are worthless. (I have a standing request that he, or anyone else, pass along any government bonds that he considers worthless. We will use them to support CEPR.) While he is welcome to believe anything he wants, the bonds held by the Social Security trust fund are backed by the full faith and credit of the U.S. government. Krauthammer may want to default on bonds that belong to the nation's workers, but his desires are not the same as reality.

Selling these bonds to fund Social Security no more raises the deficit than the decision of a rich person to sell bonds to finance their consumption raises the deficit. The deficit was incurred when the money was lent to the Social Security trust fund in the first place. 

The size of the deficit, including the money borrowed from Social Security -- the on-budget deficit -- is reported in every budget document put out by the government (e.g. here and here). Krauthammer might try to learning a bit about how the budget works before he goes off ranting about Jack Lew and Social Security [Corrected -- thanks WTF].

He also might do a little homework about his proposed fixes for Social Security. Two of his fixes, changing the indexing formula and raising the retirement age would hit elderly people who are barely scraping by as it stands. However, his third idea -- taking away benefits for rich people like Warren Buffett -- would not even save the program any money.

While Krauthammer may know lots of rich people like Buffett, in reality they comprise a tiny portion of the population and the benefits they receive are a trivial share of what Social Security pays out each year. As a result, a means test that was designed to take away benefits from the country's Warren Buffetts would likely cost more to administer than it would save the program in benefit payments.

In reality, the projected shortfall in the program is relatively distant and minor. The country has far more urgent concerns, like putting 25 million unemployed or under-employed people back to work. This should be the focus of our political leaders right now.

Comments (15)Add Comment
accounts receivable
written by david s, March 11, 2011 8:51
You could also point out that the U.S. is now able to borrow money at less than the rate of inflation on certain government bonds. Mr. Krauthammer, like many others, is confusing the balance sheet management techniques of a nation with the balance sheet of an individual. Perhaps he feels that the bonds the nation of Japan will be issuing to rebuild after their tragic earthquake are also worthless?
I've Seen Charles Comment Many Times
written by Jim n Panama, March 11, 2011 8:51
That he doesn't know anything about a subject has never stopped him from talking about it extensively, so really pointing out that anal-retentive dolt's ignorance is hardly news worthy. Kinda in the same league as "Charlie Sheen Acts Weird"
Soc Sec loans the money
written by wtf, March 11, 2011 9:05
Uh, when the SSA buys special issue bonds from the Treasury, isn't it the SSA that is loaning out the money, and not the other way around (ie, not lent to SSA by the Treasury)???

The bondholder is the creditor, not the debtor.
written by ken Houghton , March 11, 2011 9:46
The deficit was incurred and the SocSecTF lent money to the General Fund from which it cannot borrow.

And now. Krauthammer wants to break the trust.
written by bmz, March 11, 2011 10:40
When Republicons talk about "means testing,"they don't mean people like Warren Buffett; they mean reducing payments to anyone who receives more than $1000/month in Social Security benefits.
written by hrm, March 11, 2011 10:55
This is not a serious review of Krauthammer's argument; sadly, I had thought Mr. Baker to be above playing the knock-down-the-straw-man game.

Let's be clear: Krauthammer believes that the United States isn't as credit-worthy a borrower as it presents itself to be. There are a lot of people who share this assessment (as well as many who disagree). I think Mr. Krauthammer might maintain that taxing (via the soc security tax), then "borrowing" from the entity that collects that tax by issuing it a bond is, since the collecting entity is an arm of the government anyway, pointless accounting. There is no asset; the liabilities are not 2x. What's really happened is that the government has spent tax money, and accumulated an obligation, at some point in the future, to provide cash payments to citizens based on the formula of the program.

The reality is that we are all, as future beneficiaries of the Social Security program, creditors to the US government. Our ability to collect will depend on how many folks are still paying in (hence the ponzi scheme comparisons) and the US govt budget picture at the time. If the powers that be all those years in the future decide that the burden of paying for old social security debts is too great, then benefits will be reduced.
Lowering benefits for high income retirees through taxation.
written by AndrewDover, March 11, 2011 11:11
I don't know why Dean Baker and others make such bad assumptions about the administrative expenses of collecting more taxes from richer retiress.

Their assumptions are:
#1) "cost more to administer than it would save the program in benefit payments."
#2) "If the means test raised the expense ratio for the retirement program to the same level as the disability program ... "

And yet in 2009, Social Security had:
$21.8 billion in taxes on SS income.
$ 6.1 billion in administrative expenses.

(The disability program acounted for $2.7 billion of the total $6.1 administrative expenses.)
The simple and practially costless way to lower benefits for high income retirees is the way we already do it, through the tax system.

See "Social Security Benefits Worksheet—Lines 20a and 20b" in the 1040 instructions.

Your projected adminstrative costs for lowering SS benefits for high incomes in the paper are nonesense.
written by Eric, March 11, 2011 11:21
This struggle is not going to be decided by whose describition of bond obligations is most reasonable. Bottom line is that redeeming the Trust Fund as forecast today puts near-term pressure on general revenues, which in turn puts pressure on marginal tax rates. Krauthammer's buddies hate that idea. Rejiggering benefits so that the Trust Fund pays out over a longer period of time relieves some of the anticipated pressure on marginal rates. Regardless of what Krauthammer says, the Trust Fund is going to be redeemed - but the time frame over which that redemption takes place is critical. The question is whether the current benefits structure is the right structure for the nation's future, not whether current law says X, Y or Z.
written by Bill H, March 11, 2011 11:21
Excellent evaluation. The Social Security Administration and the Federal Government are not the same entity. When the Fed is required to pay back the money it has borrowed from SSA the federal debt is not increased, but federal revenue reqiuirements are. Therein lies the reason for wanting to reduce SS benefits -- to avoid having to repay debt.
written by Doug Kahn, March 11, 2011 11:39
I believe 'wtf' is referring to the sentence:

"The deficit was incurred when the money was lent to the Social Security Trust Fund in the first place."

I was expecting the sentence to say "the debt was incurred when the bonds were sold to the SS Trust Fund" etc. Am I misunderstanding what the Trust Fund does?

Two points about hrm's comment at 11:55am.

I believe I've noticed that using the word "sadly" to comment on someone's analysis is far more prevalent in 'right' rather than 'left' comments. Is this what is referred to as 'concern trolling'? It seems to me it's more the argumentum ad hominem, an implication that the writer (Dean Baker) is deliberately dishonest and/or stupid.

What follows in hrm's comment is speculation on eventualities. My guess is that hrm believes the current market 'prices in' eventualities, and Treasury debt instruments seem to be in staggering demand these days. The bonds are not worthless. Look up the bid to cover ratios.

I'm sure Mr. Baker has pointed this out in previous posts, but this statement by Krauthammer is incorrect:

Most goes out immediately to pay current retirees, and the rest (say, $100) goes to the U.S. Treasury - and is spent. On roads, bridges, national defense, public television, whatever - spent, gone.

Those are all investments in the national economy, leading to greater productivity, higher education levels, national security (and therefore the safety of our bonds and the resulting lower interest rates demanded by investors) and so on and so forth.

We may complain these things could be done more efficiently, but they must be done by government. Do the Chicago Schoolers still maintain all these things should be done privately?

Explanation of hrm's straw man
written by AndrewDover, March 11, 2011 12:01
Dean took K's argument that SS bonds are worthless to the government, and constructed the strawman: "K thinks government bonds are worthless when held by others."

And then he bashes the strawman argument that K did NOT make.

The facts are simple, SS bonds are an asset to SS, but a liability to the government.

p.s. "money was lent TO the Social Security " would be a typo. Dean probably meant "money was lent BY the Social Security"
written by chuck roast, March 11, 2011 9:18
yah Dean...
On the issue of administrative costs.
I retired less than a year ago and immediately began collecting SS. On the basis of my prior year income ('09) the SSA assumed that I would again make over $85K in '10 and docked me an additional $200/mo. (in addition to the $100 I already pay) for Part B Medicare.
The boys at the SSA were pretty quick on the trigger. So, I'm figuring that whatever the admin. costs the cash register is ringing along quite efficiently on auto-pliot.
When it was sufficiently brought to their attention that last year's income was way under the "rich people" threshold, the SSA reversed direction in good order.
Just an anecdote, but these guys seem to know what thy are doing.

written by MB, March 13, 2011 11:00
Means testing is argued as a remedy for the complaint that the wealthy are "entitled" to collect Social Security benefits even when they don't need them, even though they paid for them. So if this bugs people so much, then why does the remedy have to be a structural change to the program? Why not register those complaints directly to the recipients and ask them to return their SS checks? Social pressure could be another remedy. For example, decades of bad information about how Social Security works has created a social environment where many Americans resent being "entitled" to benefits for which they paid. As a consequence, they are willing to cooperate with drastic cuts to the program, even though those cuts would be detrimental to their own interests. So in that sense, social pressure has already been successfully applied by going directly to recipients and asking them to accept reductions. For example, a previous generation willingly accepted reductions for my generation by raising the retirement age to 67. So instead of using social pressure on lower income recipients, why not use it on the wealthy? They love to volunteer the giving of their money. It's being told to give it away that makes them apoplectic. So why leave that money on the table. Strengthen social security by asking the wealthy to "charitably" return it to the trust fund. Make them feel good about it.

This comment posted above makes excellent points which could be helpful as a bigger part of our national conversations:

Most goes out immediately to pay current retirees, and the rest (say, $100) goes to the U.S. Treasury - and is spent. On roads, bridges, national defense, public television, whatever - spent, gone.

Those are all investments in the national economy, leading to greater productivity, higher education levels, national security (and therefore the safety of our bonds and the resulting lower interest rates demanded by investors) and so on and so forth.
written by Anon, March 14, 2011 7:46
Government bonds held by the government are indeed worthless, as Krauthammer points out. If you or I hold a government bond worth $ 1 million, we can sell it for $1 million and keep the money, free and clear. If the government sells that same bond, it must pay iinterest on it until it is cashed in, and then it must repay the $1 million it got. So it isn't Krauthammer who doesn't understand bonds, it's you.
Transfer of wealth is the key...
written by DcDan, March 14, 2011 8:44
As of now, the working class has lent about $2.5 trillion to the nations richest people. This is because SS taxes are very regressive (flat tax, with a low cap), and this money was used to lower the progressive income tax over the last 30-40 years.

They don't want to pay us back. That is why their spokespeople call them 'worthless IOU's'. You can be sure if SS owed the general fund, they would be knocking on our door. Actually, that would never be allowed!

If we want to lower our GINI score (and decrease economic inequities), all we have to do is reverse this flow.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.