Intro. [Recording date: November 16, 2017.]
Russ Roberts: John Cogan's latest book, which is the topic of today's conversation, is The High Cost of Good Intentions: A History of U.S. Federal Entitlement Programs.... So, I said it's a big book. I don't want to discourage any purchasers or readers. It's not super-long. It's a little under 400 pages. But it's a very comprehensive and remarkably clearly-written book on the history of the Federal government's role in transferring money to various classes of American citizens. And I learned a great deal from it. I want to start with the beginning, which I knew very little about. The beginning of Federal government entitlements is pensions for war veterans. Take us back to the beginning.
John Cogan: Well, that's right, Russ. Most people think that the sort of entitlements began with the New Deal. But it turns out that entitlements are as old as the Republic. And, as you said, the first entitlement program was a disability pension program for wartime veterans of the Revolutionary War. And it was followed of course by similar programs for persons who were disabled in wartime service in each of the subsequent wars during the 19th century. But, the Revolutionary War program sort of set the patterns that all entitlement programs follow. What you see in the Revolutionary War pension program is almost exactly what you see in modern entitlements. All of the same patterns. Incremental expansion of benefits occurring usually when there are times of budget surpluses. Each expansion tends to be permanent. And therefore, when Congress considers a subsequent expansion it regards all previous expansions as a base upon which to consider the next expansion. And then, finally, Congress has shown, shows it's inability to estimate just how much these entitlement programs are going to cost. So, everything that you see in modern entitlements, we see in the Revolutionary War pension program.
Russ Roberts: And then we see it in 1812. And then we see it in the Civil War. The part that's interesting to me is that it starts off--let's talk about how the eligibility evolves over time. So, it's starts off: If you were hurt in the war, you get a check. Which, a lot of people thought: That seems fair. You signed up--or in those days, you signed up, you didn't expect to get hurt; you knew you could. But if you did, it seemed pretty reasonable that you'd get compensated extra, above and beyond what your pay was.
John Cogan: Yes. That's correct. The Revolutionary War pension program started out actually with a fairly narrowly defined group of veterans. As you said, it was those who had been injured in battle, or the widows of those that had lost their life in battle. But the only group that was eligible among those disabled veterans were those that had served in the Continental Army or the Continental Navy. Members of the Militia or volunteers were not eligible. They were a state responsibility. The Continental Army was a Federal responsibility. But, 20 years after the program had started, Congress was experiencing large budget surpluses. And the program was expanded to include veterans who had served in the Militia or who had volunteered for service during the War of Independence. Then, about 20, 10 years after than, another expansion occurred. And then, the final liberalization is perhaps the most interesting one. It occurred in 1832. And it was the Universal Pension Law. And it granted disability pensions to any soldier who had served during the Revolutionary War in any capacity for at least 9 months. And so, you'd gone from a program where the group of eligible recipients was pretty narrowly defined to one where eligibility was simply service to one's country regardless of the capacity in which you served and regardless of whether one was disabled or not.
Russ Roberts: And, of course, at that point, there weren't so many of them left. So, it was a relatively inexpensive expansion.
John Cogan: Well, one would have thought so.
Russ Roberts: 1832--
John Cogan: 1832 was 49 years after the Revolutionary War had ended. I think life expectancy was around age 65, maybe. And the typical veteran would have been in his 1970s at that point. And so you are right. The architects of the law thought there would be very few recipients around to collect benefits. Lo and behold, a flood of applicants came in. I think the numbers are as follows. The architects expected about 10,000 soldiers to apply and qualify. A year later, 24,600 had qualified for benefits. And so, like in modern entitlements, they had completely underestimated the number of soldiers who would eventually receive benefits. I think the cost of that was that program was extraordinarily high. In 1833, Revolutionary War pensions accounted for about 1/4th of Federal spending. There's a funny quote that I have in my book from John Quincy Adams about this remarkable number of veterans who came forth to claim benefits, and his quote goes as follows: "He says, Uriah Tracy"--Uriah Tracy was his friend and a former Senator--"used to say that the soldiers of the Revolutionary War never die. They are immortal." Had he lived to this time, he would have seen that they multiply with time.
Russ Roberts: So, some of that was just bad actuarial estimates. Some of it was fraud, presumably. And some of it just was in surprise at how many people were willing to go through whatever the process was of applying.
John Cogan: That's a very important point you just made, Russ. Throughout history, what we've seen with entitlements is that if you provide a benefit, you will end up causing individuals to respond to the incentive that the benefit entitlement provides, modify their circumstances so that they can qualify for assistance. And sometimes it borders on fraud. Sometimes it's not fraud: it's just a modification in your behavior that's perfectly within the limits of the law. But invariably, the response by individuals to the incentives created by the availability of the entitlement causes the government to underestimate the eventual cost of the entitlement.
Russ Roberts: It just reminds me--one of the things I really enjoyed in the book were the quotes from various brave Senators, typically, or members of Congress, occasionally a president who would try to stand athwart the tide of expansion, whether it was Social Security or Revolutionary War pensions. And they'd say, 'This is irresponsible. We know this isn't true. We're never going to do this, that, and the other that we claim we're going to do.' And it's nice to have those heroic but ineffective efforts noted. And some of them are quite entertaining. I just wanted to mention that.
Russ Roberts: But, one of the things I learned most from your book that I already knew in some dimension but your book really brings it home, which I found very valuable, is that you ask economists--and I think we often teach our students this way. I try not to, but I think it's a common approach. We say, 'What determines the size of government?' Well, people--in a Public Finance class, they'll say, 'Well, we look at the things that the market doesn't do well--externalities, public goods--and that's where government has a role to play. And then we have to worry about taxation--how we're going to raise the money; and we try to do that in the most efficient way possible. And we try to spend the money as wisely as possible.' Etc., etc. But what your books shows is that that model of how government behaves is not so accurate. In particular, throughout really the whole history of entitlements, budget surpluses didn't ever--at least in your story; maybe you cherry-picked--budget surpluses never cause politicians to say, 'Well, we can cut tax rates and give people back money to spend on their own.' Instead, it's like, 'Let's give away more money than we did before.' And, it's interesting--I think most people don't think about it; I certainly don't always think about it--in 1832, there wasn't a lot of government revenue from anything other than tariffs. What else was there money coming in from? There's no income tax. Where else did the Federal government get its money besides tariff revenue? And what else was it spending money on besides these pensions that as you say were a quarter--which I think kind of shocking--a quarter of all government spending at that point? Of course, it was a low level of total spending. But still, 25%.
John Cogan: So, the tariffs were important. Your listeners might remember the Tariff of Abominations, in 1828, which provided a significant amount of tariff revenue. But, the big bolus of revenues in the 1830s and late 1820s came from land sales that the government was offering up--lands in the Western regions--and it brought in a huge amount of revenue. In fact, in 1832, the surplus of revenues was more than twice expenditures. So, there was this massive surplus. Andrew Jackson had vowed that he would use the surplus to extinguish the national debt that various presidents had moved to reduce. But he was going to extinguish it. And then, of course, we saw Congress's response to this surplus--which was the tremendous expansion of the Revolutionary War pension program. But the vast majority of other spending by the Federal government outside of pensions was for national defense. It has always been, until the modern era, the principal reason for government expenditures. In fact, this 1832 or 1833 experience where the pension expenditures rose to a quarter of the budget, that was only in one or two years. After that, the pension expenditures declined quite rapidly and fell to down below 10% of the budget, during the latter part of the 1830s, 1840s, and so forth. And so, there was a real spike in spending as a consequence of the benefits. It turns out that these benefits were made retroactive, about 18 months of retroactive benefits; and that's what caused the spike. But most government expenditures back then, and until, I would say, the 1970s, were on national defense.
Russ Roberts: So, my favorite fact in the book--and this is great for cocktail parties, listeners; this is going to blow you away. It sounds like it's--it's literally impossible; it can't be true. But it is true. And we're going to finish up our conversation about veterans' pensions, which is this early period of the 19th century in entitlements spending by the Federal government. The Civil War ends in 1865. And, Union soldiers only get pensions--and you'll tell us how that evolved in a minute. But think about this: that's 152 years ago. And yet, today, in 2017, or at least when you were writing your book, there is still someone receiving a pension from the Civil War. Now, a Civil War soldier I guess could have been 18, or 17--I guess they could have lied about their age--it could be 16. But we're now--that person, 152 years later, would have to be 168 years old. So, no human being that we know of in modern times has lived to that age. So, it seems to defy logic that there could be anyone still receiving a pension based on their Civil War service. And yet, we have the story of the great Irene Triplett. So, tell us about Irene.
John Cogan: Yes. A truly remarkable story about how Congress, when it legislates entitlements, very often cannot see where these entitlements will go. So, Irene Triplett is--I think she's 87, perhaps 88 this year. And she's still alive. She is the daughter of Mose Triplett [Moses Triplett] and his wife, who was named Elida Hall, and eventually Elida Triplett. But, Mose--actually he was a Confederate soldier during the initial years of the Civil War. And he decided that he would switch sides, near the end of the War. And then, when Congress eventually granted disability pensions to virtually all Civil War veterans, Union veterans, Mose received a pension. In 1924, Mose, who was at that time 78 years old--
Russ Roberts: And should be about to lose the pension. Because, he's going to die. And that's it. 1924--that would be a long time after the Civil War.
John Cogan: It is. So, he married Elida Hall. And Elida was 28 years old at the time. And these--what we call these May-to-December weddings were quite common during the period. But, as a consequence of her marriage to Mose Triplett, she qualified for a survivor, a widow's pension. And so she collected the widow's pension. And then, in 1930, they had Irene as their firstborn. And Irene then collected a Survivor's Pension, when her mother passed on. And so, that's the story. And here we are, 152 years later.
Russ Roberts: So, she's the only, though. There's only one.
John Cogan: Yes. She is. Yes. Yes, yes.
Russ Roberts: Do you know who the last one before Irene was? How long has she been--in other words, how long has she been the only Civil War pension recipient?
John Cogan: So, that's a very good question. I don't know. But I do believe that there was a Civil War widow, I believe, and perhaps--I think I've got this right--who passed away just over a decade ago. And so, it is amazing how long these pension programs operate. When I started my work, my research on these pension programs, I thought, 'Well, they are different than the modern programs, because eventually the expenditure will die off. The expenditure will recede as the population of wartime veterans of each of the wars declines.' But, eventually can be a very, very long time, as we're seeing with the Civil War pension program. I was going to say one thing: The Civil War pension program's expenditures peaked about 50 years after the Civil War ended. And so, it was a consequence of ever-incremental expansions of eligibility and benefit levels that led to this growth in the pension program. To give you some idea of how it worked, let me take you back a little bit. In the early 1870s--let's say, 7, 8 years after the War had ended, there were about 250,000 Union veterans who were on the disability rolls. And, at that time, most Members of Congress thought that this was the peak of the program. That, anyone who had been disabled in wartime service would have come forth to apply for benefits. Well, it turned out that that wasn't so. By the 1890s--so, 20 years later--there were almost a million recipients of Civil War pensions. And so the incremental expansions of eligibility are reflected in those two numbers.
Russ Roberts: And the thing I found interesting is that, you know, they started off, you had to be disabled during the War; then it was just 'You were disabled some time. You got drunk and you fell off your horse,' or whatever. Then you still got a pension. And that was a change. It wasn't like they pretended they got hurt in the war. They liberalized the definition. I don't mean to push your expertise too far, John, you know, trying to find the second Irene Triplett. I apologize for not warning you before we talked. But, I've got a tougher question for you. Do you have any idea what Irene Triplett's benefit check is these days?
John Cogan: Yes, I do. I can't say too precisely, but I think it's a rather modest sum. I think it's around $72 or $73 dollars a month. And so, it's a very modest benefit.
Russ Roberts: Because they made a mistake--from Irene's perspective, they never indexed it for inflation.
John Cogan: That is correct.
Russ Roberts: Which was not a mistake--that mistake was avoided in the future. Maybe we'll get into that.
Russ Roberts: So, up till the Great Depression and the Roosevelt Administration, most entitlement programs, maybe almost all, were--at the Federal level--were of this nature. And it's important to point out, just as an aside, because at some point we may be talking about anti-poverty measures: of course, state and local governments were involved in anti-poverty measures before the Great Depression. There was also a lot of private charity before the Great Depression. But what makes the Great Depression important among--many, many reasons--but one is, it's the point where the Federal government gets deeply involved in anti-poverty. Which ends up, in my view, all private efforts to fight poverty that had been in place before. You can debate whether they were successful, ineffective, whatever. But, it certainly is a watershed moment. How else did the Great Depression change--of course, we got Social Security; we got many, many changes. So, talk about Roosevelt's role in the process.
John Cogan: So, from an entitlement history standpoint, the New Deal did the following. As you said, Russ, prior to the New Deal, all of the major Federal entitlement programs were programs that benefited individuals that performed some form of government service--either veterans or civil servants. The unique feature of the New Deal entitlements were that the expanded the eligible group of individuals for entitlement program to members of the general population. So, if you turned age 65 and you had work in a covered job, you were now eligible to receive a Social Security check. Unemployment insurance was another example of a entitlement benefit for the general population. Same thing with Welfare. And so, when I think of the history of entitlements and the importance of the New Deal, that is where the New Deal is profoundly important. We saw in each of the earlier entitlement programs this tendency to liberalize the eligibility rules for an entitlement program, so that it ends up covering almost anyone who could be remotely considered to be worthy of assistance. And, that force was now, with the New Deal entitlements, going to operate in a much broader and much bigger way, as these entitlements applied to the general population. And so that is the very, very short break from the past. In the past, it's also the case as we said, these entitlement programs for Civil War veterans, for Revolutionary War veterans--eventually their expenditures subsided. All those we said sometimes took a long time. But, eventually they would subside. With the New Deal entitlements, one cohort of recipients would replace another. The programs would become permanent, with the stock of recipients replaced every generation in the case of Social Security. And so, when you think about the dynamic of each entitlement expansion creating a new base on which future entitlement expansions would be considered--now, we are going to see, with the New Deal entitlements, and subsequent entitlements, this operate the tremendous force, causing entitlement expenditures to grow enormously over the past 70 years.
Russ Roberts: But there is something--again, a shocking thing I learned that I was totally unaware of--that, a number of times, President Roosevelt was a vehement restrictor of government spending on entitlements. And that he tried very hard--and sometimes successfully--at limiting entitlement expansions. Talk about what happened there.
John Cogan: So, Franklin Roosevelt was obviously a very, very complicated man. And we associate his tenure in office with launching the entitlement state. But, the Franklin Roosevelt of 1933, the year he took office, was a very different man. Roosevelt had campaigned as what I would call a--and [?]--an orthodox economist. He believed that large budget deficits were a, would do damage to the economy. And so, he had pledged to reduce spending as a way of reducing the budget deficit. So, when he got into office, veterans' programs--primarily programs for WWI veterans at the time--were about 25% of Federal spending. So, one couldn't shrink government spending without taking on the veterans' programs. And so, 7 days into office the President asked Congress if they would repeal all of the veterans' entitlement programs--except for the Civil War entitlement. But the entitlement for disability benefits for WWI soldiers to Boxer Rebellion soldiers, to the soldiers of the Spanish-American War, and so forth. And, further, he said that Congress should give him the authority to determine eligibility rules, and set the monthly pension benefit for those who qualified. Congress, 10 days later, gave him that authority, in what is called the Economy Act, or an act which is formally entitled An Act to Maintain the Credit of the United States Government. And so, within the next 3 months the Roosevelt Administration promulgated regulations that restricted eligibility for certain types of veterans. And reduced benefit levels by as much as 25%. So, what Roosevelt accomplished, then, over the next year, was to reduce the veterans' disability rolls by about 50%. A year after his regulations went into place, there were almost 400,000 fewer disabled veterans on the rolls than when the law had been enacted and the regulations promulgated. That action is the largest reduction in any entitlement program in American history. Nothing comes close to it. It was an extraordinary, extraordinary achievement for him. And one that you don't really read about too much in the history books about the New Deal. And, I have to say this about Roosevelt: He was a very, very tough competitor. Congress, after the reductions had been taken, Congress passed numerous bills that would overturn all or parts of the reductions that he had taken. And, he vetoed one bill after another. And badgered the Congress for their attempts to overturn his work. And, through the next 7 years he sustained the action that he had taken in 1933.
Russ Roberts: How did he justify those reductions in beneficiaries? I mean, it sounds like a horrible thing: people were disabled and he's cut them off. What was his story? What did he say?
John Cogan: So, the group that he was primarily focused on were WWI veterans who were disabled, but their disability had not resulted from their wartime service. So, they had become disabled some time in the 15, 16 years since the War, and had qualified for benefits. We cause them Non-Service-Connected Disabled Veterans. And, Roosevelt's view was, those soldiers had no right to a disability benefit. The Federal government owed them no benefits just for their service. He believed in the idea of a citizen soldier: In a time of war, all citizens were expected to serve their country and defend their nation. If you were disabled during wartime service, of course society was obligated to take care of you. But, if you came out of the war unscathed and were subsequently disabled on the job, in a manufacturing plant or on a farm, or whatever, society owed that soldier no assistance. And so that was his policy argument. It was certainly no different than the policy that the Founders had followed in deciding on pensions for Revolutionary War veterans. So, it had a very, very long legacy. So, that was the main policy argument that he made. He also made the case that the Federal budget deficits would eventually be the ruin of the country, and he made a strong case on the general ground that the deficit had to be reduced.
Russ Roberts: Well, he wanted to spend that money on other things. And, of course, you know, that's, in modern times what has happened--we've made a massive decision toward transfers and away from things government used to do as large expenditures of money. At least in percentage terms. And we'll talk about that toward the end. But for now I want to talk about Social Security. Which, really is--the more things change, the more they stay the same. Although it's important to remember that when Social Security was first passed--it's really kind of shocking politically--there were only taxes. There were no benefits.
John Cogan: That's right.
Russ Roberts: Now, the benefits that were paid, what, 5 years after the program was established?--
John Cogan: Yes--
Russ Roberts: were really quite spectacular for how much people had "put in." But the original idea was, it was an insurance concept that you would be compelled to put aside money, and then the government would take care of you. And of course over time, that changed a lot. The connection between how much you contributed and how much you got back got looser and looser, and it became much more of a redistributive program. But, I want to start in the early days. So, when the program starts, I think in 1936--is that correct, when the first taxes are collected?
John Cogan: 1937.
Russ Roberts: 1937. So, it passes, I think in 1935, starts [?] in 1936; taxes start getting collected in 1937. But nobody's going to collect a penny until 1941? Is that right?
John Cogan: Right. Right.
Russ Roberts: And, in 1941, anybody who is eligible--we'll talk about that in a sec--is going to get a very nice check, having only paid taxes for, at most, 4 or 5 years. So, talk about how the original coverage was set up, and the original financing, and how small it was. I was shocked to read that, even by 1946, only 1 in 6 workers over 65 years of age were receiving benefits; and only one third of workers were taxed. So, there was a lot of coverage differences compared to today, where almost everyone is receiving and being taxed. So, give us a little bit of that history.
John Cogan: All right. So, the program started out primarily for industrial workers; and large numbers of service workers and farm workers were not covered. And so, it was very, very confined to about, maybe about 50-60% of the workforce was initially covered by the taxes. And, as you said, individuals wouldn't begin to collect benefits until the early 1940s. For a person who was in that first cohort of recipients, on average, they would collect in benefits all of their contributions, and their employer contributions in the first two months of retirement. And after that, they would be living on somebody else's dime. So, from the get-go we had this transfer aspect to the program. And, as you said, it was not that--it was still an earned-right program, in the 1930s, and it wasn't really until the 1950s and 1960s that it became what I think of as a complete transfer program.
Russ Roberts: Explain that distinction.
John Cogan: So, an earned-right program, or a normal pension program--money would be collected and set aside and invested to finance the future benefits to those that are now paying the taxes. A tax-and-transfer program was one where there is no money set aside: the taxes that are collected today are used to finance the benefits to retirees today.
Russ Roberts: Or other things when there is a surplus--which is of course what has happened with Social Security.
John Cogan: That's right. That's right. So, it's very interesting. Roosevelt's original idea was that the program be more like a pension program. And so, initially the taxes were set much higher to generate revenues that were much higher than the benefit outlays. And so, a fund would be built up--a big reserve fund would be built up in the Treasury. And that fund could be drawn upon in 1980, or 1985, when there was expected to be a large number of retirees and no large increase in the debt of the U.S. government would be incurred. And so, it was set up more or less like a pension program. But, immediately, there were concerns that the money was being improperly used, that it was going to finance the general operations of government. Others, on the liberal side, said that this money that's being improperly used is being raised through a regressive tax, and therefore was unfair; and that we should use a progressive income tax to finance these types of expenditures. And eventually Congress said, 'The heck with it. We're going to eliminate this large surplus that we built up.' And they did so by immediately expanding the program to cover survivor benefits. The original law did not do so. And they sped up the date at which the first retirees would be able to collect their Social Security benefits. And, of course, they raised the benefit levels for those that were nearing retirement age. And so they had responded to the surplus of funds, just like every previous Congress from the Revolutionary War time to the present had responded to large surpluses: They spent it. But since then, Congress has established what they think of as a pay issue-go policy. So, the taxes that come in today go to pay benefits for those that are receiving the benefits today. From time to time, we get spurts of economic growth as we did in the 1950s and in the 1960s and early 1970s, and surpluses have built up. And Congress has used those surpluses as they had with the earlier pension programs to expand benefits.
Russ Roberts: But there is an illusion. And there is a theatrical aspect to this illusion that I did not realize: that the government invests--I can't say it without laughing. And it sounds disrespectful, because there are people who will say with a straight face, very proudly and very adamantly that the government invests that money. But it's an accounting sham. So, explain how that sham works and the theatricality behind it. Because, it's really--I was, again, surprised to discover--I always thought it was a total sham. It's worse than that, in a way. It's a theatrical sham.
John Cogan: It truly is. For years and years, all the Social Security Trust Fund was, was a ledger in the bowels of the Treasury Department. Revenues would come in to the Federal government. Income tax revenues would be combined with payroll tax revenues. And the--
Russ Roberts: Money is fungible--
John Cogan: Yes. The accountants would just separate it out--put one pot of money, the payroll taxes that they thought had come in, they would put that into a line or a column labeled Social Security. And they would record the outgo for this program as, in another column. And that's all the Social Security Trust Fund was. But, they established this, for the public, this elaborate system where they would list--every Social Security trustee's report published annually, they would list the so-called investments that the Trust Fund had made in Treasury securities. And the accounting is incredibly detailed. They will list, literally, dozens and dozens of securities that have been allegedly purchased with these funds. When, in fact, the securities that were quote-unquote "purchased," really never existed in the sense they were not marketable Treasury Bills. The height of this folly, or this story, comes in the 1990s. We had large economic growth from 1983 through the early 1990s. And, as a consequence a trillion dollars of surpluses had built up into the Social Security Fund. And, of course, these were all just accounting surpluses. The money had been spent on other activities of government. In any event, Members would return to their districts; and as the trillion-dollar balance in the Fund became known to the public, they would be confronted by senior citizens in their districts, these Town Hall meetings, asking them, 'Well, where is the Trust Fund? You say there's a trillion dollars here. Where is it?' And so Members came back to Washington and the leadership decided that they would create a Social Security Trust Fund. So they passed a law in 1994 that established the Social Security Trust Fund, and a Bureau of the Public Debt building in Parkersburg, West Virginia. And so, the Trust Fund consists of a--literally, of a file cabinet--where non-marketable securities are placed, each quarter, representing the holdings of the Social Security Trust Fund. Now, I want to emphasize that these securities are non-marketable. They cannot be sold in the market. They are not going to be traded in the market. They are basically worthless pieces of paper that are sitting in there. People have asked me: 'Why is this Trust Fund in Parkersburg?' And the answer is that Robert Byrd, at the time, was the Chairman of the Appropriations Committee; and Robert Byrd was a Senator from West Virginia. And there just happened to be a nice Bureau of the Public Debt building waiting for its second floor to be filled with some government activity. And so, that's how we have the Social Security Trust Fund.
Russ Roberts: Just to make it clear--these so-called securities, these notes, are pledges that the Federal government will pay back the principal and maybe even some interest at times, I think, to replenish and take care of the Fund. But, of course, it's all just government money. It's not anything real that's set aside. It's just, as you say, a ledger, a transaction ledger that says, 'Oh, yeah, that money is there because the government has promised to pay it.' But, of course, if the government doesn't have the taxable capability to pay it, those promises are not enforceable in any real way.
John Cogan: I think that's right. And I think the important thing you said there, Russ, was that there is a Pledge, and all Members of Congress have taken that pledge, that they will replenish the Trust Fund by quote-unquote "exchanging these securities for general revenues of the government." But, as you also said, there's no real economic asset there. The money has been spent. And, so, all we have is a pledge. When people ask, 'Where would we get the money that would be used to replenish the Trust Fund?' the answer is, 'We'd have to go out and we'd have to borrow it in the open, public markets, just as we would if there were no [?]--'
Russ Roberts: No Trust Fund--
John Cogan: Right. Exactly. Exactly.
Russ Roberts: So it's--I mean, it's just fascinating. Fascinating. I did not know about that West Virginia building. So, it's--well, it's incredible.
John Cogan: If you get a chance, you should go visit it. I do believe that George W. Bush actually went out--
Russ Roberts: It's a must-see. Definitely a must-see.
Russ Roberts: Now, Social Security is, along with Medicare, going to cause some serious challenges potentially to U.S. fiscal stability in the future. There's a point--I forget where it is; you'll tell me--where Federal entitlement spending passes Defense spending as a proportion of GDP [Gross Domestic Product] and now continues to grow while Defense spending has continued to fall as a percentage, to the point, now, where in 2017, if I have it right, it's something like--Entitlement spending is about 16% of GDP; Defense is around 3-something.
John Cogan: Reverse it. The Defense budget is about one sixth of GDP, defense is. Entitlements are about two thirds of--
Russ Roberts: No, no. You are talking about Federal spending. No, of GDP.
John Cogan: Oh, I'm sorry. I'm sorry. You're right. Yes. Yes.
Russ Roberts: Tell it your way. Go ahead.
John Cogan: So, I was just going to say: Entitlements have profoundly changed the priorities of our government. As we discussed in the beginning of this show, Defense was the primary responsibility of the Federal government. And that was reflected in the Budget, where the lion's share of government spending was on National Defense. Now, it's completely flipped. Defense is one sixth of the total, and entitlements are about two thirds of the total. Entitlements, when you go back and look at their growth since WWII, you find that all of the growth--all of the growth, Russ, in government relative to GDP is a consequence of entitlement spending. National Defense and spending on all other programs is about the same or a little bit less than it was in the late 1940s. So, when you think of entitlements as being a financial issue, it is. But it's also a sort of a large governmental issue. You can't understand the growth in government without understanding entitlements. And they have truly, truly changed the priorities of our government from one that was primarily focused on national defense to one that's now primarily focused on transferring hundreds of billions of dollars from one group in society to another group in society. And, most often, without regard to the financial need of recipients.
Russ Roberts: So, let me put on my Progressive hat here. Doesn't always fit so well, but I'm doing my best. So, one view of this--by the way, what I was about to say, with the Baby Boomers starting to retire today, and having health challenges, the role of Social Security and Medicare at current benefit levels is going to be increasing over the next 20-40 years, such that there are some serious questions as to whether those promises at the current levels will be kept. Obviously something is going to have to change. Either the taxes are going to have to rise, or eligibility is going to have to be reduced. And we don't know what's going to happen. But, let me play the cheerful Progressive, which is: 'This is all good. Your book's called The High Cost of Good Intentions, and high cost has two interpretations. One is just the budgetary cost. And the other is that it is costly in the more general sense of the word--that it's not always worth it. It's not always a good thing. But I could argue, and I might argue, that this is a good thing. Because, look--we don't need as much defense spending as we used to. We don't need to have as big a standing army. The labor costs of defense are smaller. Yes, there's some technological things we want to continue, say, to invest in; but those are still going to be relatively small in terms of the total size of the Federal government today. Transfers--eh, they are just transfers. It's not regulation. It's not distorting. And, what's the big deal? We'll solve this problem. We'll raise the retirement age to 70 because people are healthier. We'll raise the amount at which Social Security taxes apply--as we've done already. We'll continue to do that. We'll raise that ceiling.' And then, finally, 'We'll stop paying as much to people who have lots of money. Which is nuts, to my mind, that we do that. And we'll solve this problem. And it's a good thing. It's not a crisis. These expansions of eligibility that you are worrying about, it's not so important. It's just government moving money around. What's the big deal?'
John Cogan: So, that is actually a very common view--that, all we're doing is moving money around from one group in society to another. And, that there's no, sort of social cost associated with doing so. But I think that's a misguided view. Every dollar of an entitlement expenditure, regardless of how much it helps individuals--and believe me, in my book, I make the case that many of these entitlements, most of the entitlements, in fact, are quite beneficial to society in providing a safety net of assistance and in providing security against poverty. But the reality is, balanced against that, is: Every dollar of entitlement spending ends up producing a disincentive for labor market participation, for work, for investments in human capital. And, when you have an entitlement system as pervasive as ours--and so, how pervasive is it? Well, in 2016, over half of all households were receiving some benefit from at least one Federal entitlement program. If we take out the households that are on Social Security and Medicare, and just limit the population to households that are headed by a person under age 65, the percentage of those households that are receiving assistance from at least one Federal entitlement is 41%. And so, these entitlement programs, every one of them contains, as I said, some work disincentive. Clearly, when you reduce benefits as income rises, as we do with our welfare programs, you create a work disincentive. When you provide Disability assistance to individuals who are temporarily, marginally disabled, you create an incentive for individuals to claim that they are disabled rather than to engage in gainful work. Social Security and Medicare have become incredibly generous. Here's a fact that your listeners may not be aware of. The typical married couple that reaches age 66 today and begins to collect Social Security and Medicare benefits will receive--on average, this is--receive benefits that total $50,000 a year. Now, the median household income of households under age 65 is not much higher than that. And so, the transfer that is being made to senior citizens who arguably are the most well-off demographic group in America, is really, really quite sizeable. The size of that assistance tends to create an incentive for individuals to retire a little bit earlier, to go on part-time employment. And therefore you lose productive workers from the workforce. The payroll taxes that are used to finance the transfer on working individuals in their thirties and forties also creates a work disincentive, or a hiring disincentive, on the part of employers. And you end up with a system that is so large that it invariably now, I think, affects the rate of growth of the economy as a whole.
Russ Roberts: Well, I wanted to say something about Social Security till we got waylaid talked about the lockbox, trust fund, theater sham. But, one of the things that deeply bothers me is that, when we talk about tax reform--which is in the news today in 2017, right now--people forget that the payroll tax is part of our tax system. They think of that as sort of a separate thing that sort of funds their old-age retirement. Which, of course, isn't true. That's, again, that's a hoax. That's just literally an illusion. What it means is that, when you cut tax rates, if you are only cutting income tax rates you are only going to cut them for the rich, because the rich certainly the top 5% pay the overwhelming--I think is it, 95% of all taxes are paid by the top--of Federal income taxes--are paid by the top 50%. And so, any tax cut is going to be skewed toward wealthier or richer Americans, higher-income Americans. The problem is that, we should be cutting taxes for everybody. The problem is that the income tax, most people pay zero now. Almost half pay zero. And that leads to a world where government spending is seen to be quite cheap for most Americans, because they don't pay for it. But that's a lie. That's an illusion. In fact, every American, almost every working American pays a healthy amount of taxes through what is almost a flat tax--the employer or employee portion of the payroll tax. Which is, what, 15%-plus right now. Do I have that number right?
John Cogan: Yes you do.
Russ Roberts: So, 15% tax rate of the combined person, employer and employee share--that's a serious amount of tax. But we don't think about that. And so, we have this very unhealthy political dynamic. So, what I'd want to do--what I'd prefer to do--is roll the payroll tax into the income tax. Eliminate the payroll tax. Raise the income tax rates for some. They are paying them anyway--just, they don't realize, sort of they don't see it as dramatically or they think they are being, it's being set aside for them. Which isn't true. Force people to see that they are actually paying. Which is a good thing. And then, when you cut rates, cut everybody's rates. Cut rates of people who are making $40,000 a year but still paying their 7.5%, 7-point-something plus their employer's 7-point-something which probably comes out of their wages. And then you could have--you could talk about real tax reform. But the current system--so, the first point I want to make is that that's incredibly destructive, I think, to the political process, that dishonesty. Second point I want to make--and this is a subtler point, and I apologize for lumping them together, but they go together in my mind--is that, you are making the point, which I think is very important, that when we think of entitlement, we think of helping disadvantaged, poor people, disabled people. Well, a lot of people who get these checks are not poor or disabled. Like you say. They are wealthy elderly people who happen to have paid Social Security taxes when they were younger. However, if you are going to help the poor, in general you are going to have to structure a program--if you want to have some kind of work incentive you are going to have to structure that program so that some non-poor people, people above the poverty line, get some portion of the benefits. That's not true of Social Security. That's not necessary at all. So, I understand the argument that we have to help some people who are, say, 20- or 30- or even 50%-above the poverty line, because if we phased out benefits sharply right at the poverty line, we'd kill the incentive to take work that paid just a little bit more than that. Because you'd be losing all your benefits. So, we have to phase that in slowly, or phase it out slowly. And, as a result, some people above the poverty line get money that's supposed to go to poor people. That's inevitable in designing an anti-poverty program. But Social Security is not inevitable--that everyone is entitled to it, rich and poor. And I think that's just a terrible political mistake going forward. And I think--well, I'm done. I'm rambling on. You can respond to any of that, all of it, whatever you want.
John Cogan: Well, I couldn't agree with you more about Social Security being very, very different from the kind of program that would protect individuals from impoverishment and old age. It's really become so distorted over time. And most of the Social Security money has very, very little to do with poverty alleviation or poverty prevention. A very, very significant chunk of it, and other benefits, go to individuals in the middle class. And when we start thinking about how do we avoid this large increase in government spending that's coming as a consequence of the Baby Boomers' retirement, we should be looking at Social Security and its structure, both on the tax side, as you've pointed out, and on the benefit side. And, right now, we have a program that, the higher your wages during your working life, the more benefits you get out of Social Security. So, any inequality in wages during working life translates into inequality in retirement life. Most of the individuals that receive Social Security are not impoverished. And so, the place to start, I think, is, as you said, with going back to the original notion of Social Security, which would be a anti-poverty program, and think about feathering down of the level of benefits as a family's income rises, even during their retirement years. And when I make that observation, I always get the response back, 'But I paid into the program!' And I say, 'But you didn't.' Those benefits went to pay for your mother's and father's Social Security benefit. Not yours. And, you paid into Food Stamps. You didn't get your money's worth out of that, either. You paid into defense. You don't always get to use that, either. That's called taxes. It's the way the system works. Why you feel a claim on Social Security benefits simply because there was a program that alleged that you were putting aside money for your own retirement when in fact you weren't--unlike, say, your private savings, which, yeah--that I'm going to take. I'm happy to take that. I saved; I did without consumption so I could have money when I got older. But the government forced me to pay for other people's benefits. And the word 'Vietnam,' by the way, and other things that had nothing to do with Social Security, they used that money for farm subsidies and everything else. And the fact that we had a thing, that we had a, this theater that said it was for me is a--it's theater. So, just get with the program, folks. Now my angry listeners over the age of 65 are going to tell me that I'm wrong. But I think I'm right.
John Cogan: Well, the fact is that for today's retirees, they have paid only for about 2/3rds of their Social Security and retirement benefits. If you grant them the idea that their payroll taxes were set aside. It would still be the case that if you only gave them what they paid in to the system, plus a 2 or 3% rate of return, they would only get 2/3rds of the benefits that they are now getting. The second point--and I think this is really important for your listeners that may be getting angry--is: They have to think about who is actually paying for their benefits now.
Russ Roberts: My kids!
John Cogan: Exactly. Exactly right. It's their kids. It's individuals that are in their 30s and 40s that are trying to raise a family; send their kids to school. That's where the money for their benefits is coming from. And if they keep that in mind, they might think, 'Well, gee, maybe I could do with a little bit less of my Social Security benefit.' If it results in a reduction in the tax liability that's levied on younger workers. But it has to be, kind of, together. There has to be a concomitant reduction in that payroll tax. And that might be a way of phasing it out, and achieve your goal, Russ, of getting rid of the payroll tax altogether and having a uniform treatment of income for the purposes of taxation.
Russ Roberts: Well, I think it's appropriate at this point in the conversation to quote the great French economist Frederic Bastiat. He said, "The State is that great fiction by which everyone tries to live at the expense of everyone else." And I think that's the worry, for me. I don't know--when people worry or express concerns about the size of entitlements, I really do feel--you are denting me a little bit. But I generally feel that of all things government does, giving money to old people is not the worst thing. Even with the disincentive to work, I just, I don't know how large that is. And I'm talking about the disincentive both to the recipients and the tax-payers who finance it, of course. Of all the distorting things the government does--transfers are--I accept your point that there is a distortion. But it's relatively small compared to certain regulatory interactions, interventions, and other things that the government does. But I do worry about the long-term trend. So, you know, if we think about--there's a lot of people interested now in a guaranteed annual income, a universal basic income, sometimes called, where everyone again, rich or poor, to avoid incentive problems, would get and phase out problems--everyone would get the same amount from the government. And there does--there is at some point, a point where the government "can't afford that." And where more productive and legitimate uses of government money are not going to be available because the budget isn't there. How worried are you about that--about this entitlement train continuing, to speed up? And potentially creating something more catastrophic than just the distortions that you are worried about, that I may be a little less worried about?
John Cogan: Yeah, well, very concerned. There are about almost 50 millions persons age 65 and older today in the United States. In 20 years, there's going to be about 80 million.
Russ Roberts: At least.
John Cogan: At least.
Russ Roberts: So, health care might, innovation might make that a bigger number. I don't know.
John Cogan: I think you're right. I think it very well could run up higher than 80 million because of health care innovation. That increase is going to drive Federal spending, if we don't do anything about entitlements, to levels that are just unprecedented in world, peacetime history of the United States. And it's not a temporary expenditure. It's a permanent, large increase in government spending. In 15 years, if we try to finance that level of government spending with taxes, you'd have to raise each and every tax in the Federal tax code by 33%. If, instead, you decided you were going to finance the increase in expenditures by debt, you would end up with a debt that is in excess of 100% of GDP. Now, I have to say: The consequences of this are a little bit uncertain. That is, we are going in to uncharted waters when we get to tax levels that high or debt levels that high. But, I'd say this: Economics teaches us that high tax rates of the sort that we would experience are detrimental to economic growth and detrimental to improvements in our standard of living. History teaches us that debt levels in the neighborhood of 100% or more of GDP run the risk of creating large financial crises for a country. And so, although we are going into uncharted waters, I think both economics and history should tell us, 'Beware,' and 'Start taking action now to rein in the growth of these entitlement programs,' so we don't end up in either a stagnating economy with high tax rates and declining standards of living, or financial crises. And so, the time to get moving is now. The ship of state moves very, very slowly, as we've seen. And so the time to take on these entitlement programs is now, before we get to a point where they threaten our future prosperity.