Social security

Social security is a compulsory government programme that taxes current earnings and pays benefits to the retired, the disabled and survivors. The American version was created by the Social Security Act of 1935 and is the largest single item of federal spending; comparable schemes exist in most developed countries. It is the central case of the welfare state and the one on which the Austrian and libertarian criticism is most fully worked out.

The criticism has three distinct parts, which are often run together and which stand or fall separately: that the programme is not insurance and does not work the way its name implies, that it reduces the capital formation on which retirement income actually depends, and that it is compulsory. The first two are economic claims and are open to evidence. The third is an ethical one and is not.

Not insurance, and not a fund

The design is pay-as-you-go. Contributions are not invested on the contributor's behalf; they are paid out almost immediately to current beneficiaries, and a contributor's own benefits will be paid by people not yet working when he contributes. The programme therefore holds no accumulated assets corresponding to its obligations, and the "trust fund" is not one in the ordinary sense: surpluses are lent to the Treasury in exchange for special issue bonds, which are simultaneously an asset of the fund and a liability of the same government. Redeeming them requires taxing, borrowing, or printing at the time of redemption, exactly as if the fund did not exist.

The legal position matches the accounting one. In Helvering v. Davis the payroll levy was upheld as an ordinary tax, not tied to the benefits it nominally funds, and in Flemming v. Nestor the Supreme Court held that a contributor acquires no accrued property right in benefits and that Congress may alter or withdraw them. A contributor has a political expectation, not a claim.

This is why the question of whether the programme could have worked if it had been managed correctly is not the question it appears to be. A genuinely funded scheme would have had to accumulate and invest real assets, which is a different programme; a pay-as-you-go scheme performs as its demography allows, and the ratio of covered workers to beneficiaries in the United States fell from more than fifteen to one in 1950 to under three to one.

The comparison with a Ponzi scheme is often made and is exact in one respect and inexact in another. Earlier participants are paid from the contributions of later ones rather than from returns on invested capital, which is the defining feature. But a Ponzi scheme collapses when recruitment stops, whereas a government can compel participation and change the terms by statute, so the failure mode is a benefit cut, a tax increase or an inflation rather than a collapse.

The economic objection

The Austrian objection is about capital rather than about solvency. Retirement consumption has to be produced by someone, and what makes it possible is the stock of capital goods that raises future output. Saving is what directs resources into that stock. A compulsory transfer scheme takes resources from earners and hands them to consumers immediately, so the sums involved are consumed rather than invested, and it simultaneously reduces the private saving that would otherwise have been undertaken against old age, since the promise of a state benefit substitutes for it.

Ludwig von Mises pressed the wider version of this point against social insurance generally, that a scheme insuring against a condition partly within the beneficiary's control alters the incidence of that condition, and that the effects on saving and on the willingness to work are not incidental defects but consequences of the design. Friedrich Hayek, who accepted a case for a minimum floor of provision, nevertheless argued that the monopoly form the schemes actually took was the objectionable part: a compulsory single provider suppresses the alternatives against which its performance could be judged, and the case for the floor does not carry the monopoly with it.

The recurring counter-question is what happened, and would happen again, to the old and the sick without it. The historical record before 1935 is not the absence of provision. Fraternal orders, friendly societies and mutual aid associations covered a large part of the American working population with sickness, burial and old-age benefits, and their membership declined as public provision expanded and as regulation raised their costs. Whether those institutions would have grown into adequate coverage cannot be established, and the honest form of the claim is that the choice was between provision by one method and provision by another, not between provision and abandonment.

Origins and the political objection

Murray Rothbard argued that American welfare legislation was not a concession wrung from business by the poor but was substantially promoted by large employers and by a professional reform class whose interests it served, and that reading it as a straightforward response to need misdescribes how it was enacted.

The interventionist objection is structural. A programme paying benefits to a concentrated, organised and voting group while spreading its costs across a diffuse one is politically very hard to reduce, and the fact that its liabilities fall due after the terms of the officials who incur them removes the ordinary discipline. Proposals to convert it to individual accounts run into a transition problem that no accounting can remove: because there is no fund, diverting current contributions into accounts leaves current benefits to be paid from somewhere else, so the unfunded obligation has to be met rather than escaped.

The non-aggression objection is separate and does not depend on any of the above. On that view a compulsory transfer is aggression whether or not the programme is solvent, well run, or beneficial in aggregate, and an improvement in its finances is not an answer to it. Which of the two objections is doing the work is worth being clear about, because a reform that fixed the economics would satisfy the first and leave the second untouched.

See also

• Welfare state
• Interventionism
• Taxation
• Insurance
• Medicare
• Ethics
• Principle of non-aggression