Archive for February, 2005

Social Security “Risk”: What’s Really True?

February 3rd, 2005 Comments off

Is equity investment of Social Security funds in private/personal accounts "risky"? Or will it save the system? What should true conservatives be in favor of? Many of the arguments on both sides are based on wrong assumptions or form specious conclusions.

The first question, on equity investments:
Would long-term, well-diversified equity investments provide higher returns than treasury bonds?

Answer: if long-term historical experience is any predictor of the future, absolutely yes. Over the long term, equity returns consistently outpace bond returns—especially U.S. government bonds. The compounded advantage of these greater returns is profound, and could greatly contribute to the money available for Americans’ retirement down the road.

Key caveat: the possibility of a major meltdown of equity markets equivalent to 1929—a decades-long dip in equity values and returns, personal and corporate income, employment, etc. But if that occurs, Social Security and the whole national budget that’s been borrowing from Social Security (and the world economy as a whole) will be in desperate straits anyway. The trust fund wouldn’t be able to meet its obligations. Since this possibility is an equal risk either way, it doesn’t argue for or against equity investments.

Paul Krugman (an economist and columnist) challenges the notion of greater future equity returns in a February 1 NYT OpEd. He argues that:

1. "In the long run, profits grow at the same rate as the economy."

2. "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."

The first proposition isn’t true, even though it seems to make perfect sense.

Whether you look at a 25-, 50- 75- or 100-year period, real equity returns have consistently outpaced real GDP growth by several percentage points–both domestically and in almost every other market worldwide. (See this PDF file, especially figure 1 on page 17. This document also gives possible reasons, for the curious, why Krugman’s seemingly sensible proposition isn’t true. Interestingly, Krugman’s papers are cited more than once—significantly in the conclusion.)

Krugman’s argument is downright level-headed compared to Barry Schwartz’s, though. I’ve commented on that in a previous post.

The second question, on private/personal accounts: Are these more "risky" than the collective Social Security trust fund?

Answer: Yes, but not in the way that anti-privatization activists say.

The risk is not that people who invest in equities via private/personal accounts will get less than they would in the current system. Absent a meltdown, they will get more. The risk is that they will get less than other people. Re-using an analogy from a previous post: it’s bothersome when the person next to you on the plane paid less than you did for the same seat. But it’s even more bothersome if everyone on the plane—you included—paid more for their seats.

Final question: Can we take advantage of equities’ greater returns, and provide them equally to all participants?

Answer: Yes. By investing some trust-fund monies in equities. All participants—and the federal budget—would benefit from the greater returns.

This would also save the costs of managing all those private/personal accounts. That’s not just government management and accounting expenses, but accounting expenses for every person filing a tax return that includes earned income, every year. I haven’t seen an estimate of these costs, but they have to be huge.

Various presidents have proposed various versions of this investment scenario over the years, but they’ve always been shot down—often for partisan political reasons, but also because of concerns about political manipulation of the money management. Which raises a key issue.

Problem: Who manages the money?

Answer: That’s a tough question.
Any method for allocating the investments—whether they’re President Bush’s personal/private accounts, or trust-fund monies—will have major financial, social, and political effects. Some asset classes would be favored, others not. The devil, as always, is in the details.

Congress could legislate extremely rigid and mechanistic investment allocation methods, but that legislation would itself be highly charged, politically. The main alternative would be some kind of commission that would set investment allocation rules and methodologies (within guidelines set by Congress). The concern is that such a commission could be highly politicized in the future—pressured to make particular decisions in the runup to an election, for instance.

The Fed is a good model for this kind of commission. It has managed in most cases—aside from some egregious gaffes by Alan Greenspan over the last few years—to avoid major involvements in the political fray. But it would be far more difficult to manage equities in the trust fund without succumbing to political pressure. With billions of dollars in play—over time, trillions—and a far more complex set of decisions to make (not just the target rate), it’s hard to imagine that politicians would be able to resist efforts to interfere, or that administrators could steadfastly resist that interference.

Perhaps Congress should include a provision in any equity-investment legislation making it illegal for members of the legislative or executive branches to communicate with those administrators in any way—much like ad reps at a magazine or newspaper being forbidden to talk to editors (sadly, a not-very-common but also not-unheard-of restriction).

That hardly seems likely to happen. Congress has a very poor record of restricting its own perquisites and prerogatives.

But as far as we can tell from President Bush’s current skeletal description of his proposed system, the risk of political manipulation is equally great with either the trust-fund or the private/personal system. With that being equal, true conservatives should be in favor of investing some trust-fund monies in equities.

Should conservatives care about conservation? Reading Lomborg

February 1st, 2005 Comments off

Should true conservatives be worried about conservation? Is the concern about consuming and contaminating our natural resources a bunch of ill-informed liberal vaporing, unsupported by fact?

My ex-business partner—a Republican who votes Democratic on occasion—has taken me to task on this point (not for the first time). He points to Bjorn Lumborg’s book, The Skeptical Environmentalist, which makes a case that things are actually in fine shape—that by every measure of human well-being, things have been getting better for decades, and will continue to do so.

I finally got around to reading it—enthusiastically, because I love being challenged in my beliefs when those challenges are backed up by facts and well-reasoned arguments. I didn’t read the whole thing—I bounced through it, reading major chunks. And I spent many hours reading the (voluminous) commentary about it on the web, moving back and forth between the book and the commentary.

On first blush I found Lomborg to be remarkably convincing, despite my knee-jerk liberal, conservationist tendencies and background. He was talking my language: well-reasoned argument, fact- (read: reality-) based decisions, dispensing with conventional beliefs that turn out to be based on weak premises and information, etc.

One bubble he pops very effectively, for instance, is the knee-jerk liberal abhorrence for the idea that market forces and incentives can give rise to good environmental consequences. The "green revolution," for instance—the improvement in agricultural methods (which admittedly created some problems of its own)—was driven by the desire to make more food/money from the same acre of land. That market-incentive driven development has been the, or at least a, prime factor leading to the world’s ability to feed two billion more people than it could have five decades ago.

But after many days of reading, research, and consideration (and a chunk of soul-searching), I concluded that while Lomborg accurately points out a huge amount of uninformed liberal vaporing, his conclusions—which fall at the opposite end of the spectrum—are profoundly flawed.

To explain that conclusion, it’s easiest to begin with Lomborg’s conclusion—to start at the end of the book and track the argument backward. Here are his final paragraphs:

Thus, this is the very message of the book: children born today—in both the industrialized world and developing countries—will live longer and be healthier, they will get more food, a better education, a higher standrd of living, more liesure time and far more possibilities—without the global environment being destroyed.

And that is a beautiful world.

The paragraphs that precede this argue that we shouldn’t "worry"—that worrying doesn’t solve anything: "We must take care of the problems, prioritize reasonably, but not worry unduly." Now as my ex-partner can tell you, I have very little patience for inchoate anxieties and idle worries that haven’t been carefully considered and analyzed. So this section should resonate well with me.


As I dug deeper, I realized that Lomborg’s don’t-worry-be-happy message (which is not an overstatement of his concluding sentences) rests on a quicksand of facts and arguments that in many, many cases don’t stand up to objective scrutiny. (Though as I said above, in many cases they do.) He repeatedly acknowledges in passing statements that there are problems with his arguments—a rhetorical technique that gives the impression of reasonable concern and balanced objectivity. But he repeatedly ignores his own caveats when he gets to his conclusions.

Moving a few pages forward in the final chapter, there’s an excellent example: a section on prioritizing societal expenditures based on economics and death rates—how to preserve the most life-years for the least amount of money. He draws on a Harvard study that calculates these figures for the U.S., and concludes that if resources were spent on the most cost-effective measures instead of some others (the bulk of which involve environmental regulations), "it would have been possible to save around 600,000 more life years or 60,000 more human lives." (Italics his.)

His very next sentence—one of those passing charades of objectivity—acknowledges both the impossibility (for many practical reasons) of the proposed action, and the inadequacy of the analysis supporting it: "Of course it is probably impossible to redistribute all the public spending to saving human lives on the basis of this relatively simple analysis." But only three paragraphs later he repeats the statement that he has just (and justly) discredited: "with greater concern for efficiency than with the Litany [environmentalists’ positions], we could save 60,000 more Americans each year—for free." (An irresistible aside: apparently "concern" for efficiency is okay while "worry" about long-term consequences is not.)

Here’s the big, overarching problem I have with the book: Lomborg constantly throws in caveats that give the impression of balance and reasoned concern for problems faced by humanity: "Of course this does not mean that everything is hunky dory and that we face no problems at all. Humanity still has a whole series of challenges to tackle, now and in the future." But he never says what the important challenges are, or what we should do about them. He just tells us what we should not be worried about—pretty much anything.

The unmistakeable, unequivocal, and unwavering message thoroughout the book is that there are no problems that won’t solve themselves.

An equal or greater problem with the book is Lomborg’s fast-and-loose approach to evidence. I won’t detail examples here, because I haven’t done the excruciating footnote-tracking that’s necessary to provide that detail. I have, though, read very carefully through those who have done the work—much of it is available here and here. Their arguments are, in my opinion, occassionally trivial but in toto, resoundingly sound.

Okay, I can’t resist—one random example: Lomborg argues that if you combine wild-fish catches with farmed-fish catches, the amount of protein coming from the sea is steadily increasing. But he ignores the fact that farmed fish don’t get their food from the sea; they’re fed with food from 1) wild-fish catches or 2) agriculture. So adding farmed fish to wild fish, and adding that to agricultural output, is counting the same food twice. Since Lomborg is a very diligent statistician and analyst, I find it hard to believe that he simply missed this.

This and the many other examples cited on the pages linked above make it clear that Lomborg constantly (though not uniformly) cherry-picks evidence, misreprepresents information, over- or understates results to suit his position, mischaracterizes the positions of others to set up rhetorical straw-men, and ignores facts/evidence that challenge that position. And when challenged with well-reasoned objections, he has refused to accept any but the most trivial of corrections. This is exactly the kind of irresponsible analysis that he skewers so effectively and accurately in the works of many who argue for environmental initiatives. As a result, when I’m reading his book I simply don’t know what to believe. I can’t trust him to deliver an objective sifting of the information on which I can base my own judgements and priorities.

So ultimately, I come away from Lomborg’s book dissapointed, wishing for a different book that takes all of his book’s strengths (popping environmentalists’ wackier bubbles based on facts, readably) and corrects its unfortunately fatal flaws (lack of objectivity that makes it impossible to know when the bubble-popping is valid, and lack of proactive recommendations). Perhaps that other book has already been written, but hasn’t achieved the widespread success and notoriety that Lomborg’s unfortunately biased and one-sided polemic has. If not, I wish someone would get at it. They could call it The Practical Environmentalist.