The Patsy Generation: How The Government Sticks It To The Young

Patsy: [n] chump: a person who is gullible and easy to take advantage of

The men and women who braved the Great Depression and went on to fight World War II, ridding the world of the evils of fascism are known as the Greatest Generation. Their sons and daughters are often now known as Baby Boomers, the result of the great boom of births following World War II.

While younger Americans have been described by many terms: Generation X, the MTV Generation, the Computer Generation, no major term has stuck. The one that will may very well be the Patsy Generation.

In America, most entitlements are geared towards the older generations, as the main entitlements are Social Security and Medicare. With Social Security, people theoretically ‘save’ for their retirement by paying Social Security taxes. Nowadays, it takes the form of a 12.4% on your first $106,800 of wages (if you are an employee instead of self-employed, your employer pays half of that, which in reality means, he or she just pays you 6.2% less than he would have otherwise).

Social Security taxes don’t work as a strict cash in,-cash out account. While people who paid in more (i.e. were taxed more) ultimately receive more in benefits, the ratio compared to what they paid is lower. For example, take Patrick, Don and Jerry. All three were born in 1983 and plan to retire at 67 in the year 2050. Patrick is a typical young worker and makes $35,000 a year, whereas the others are well-paid for their age and make $80,000 and $120,000 respectively.

Here is the amount they would have paid in over time (including their employers share) versus how much they would have received in benefits, assuming they live to be 85.2 years old, which is the life expectancy for your average 67 year-old:

Amount Paid-In Benefits Difference
Patrick $194,290 $299,422 +$104,522
Don $436,480 $479,425 +$42,944
Jerry $582,692 $557,003 -$25,688

Turns out Social Security isn’t a bad deal for Patrick and Don, theoretically. They would get more than they paid-in. This is (mainly) due to the fact that their earnings are ‘invested’ into bonds and rise over time.

It’s been pointed out that most alternate investment vehicles would have returned a higher percentage, but that’s a whole different debate altogether and how the stock market/real estate is doing at that time largely determines the winner. What’s clear is that Jerry comes out behind on this, but not too many people are going to cry a river for him since he makes a higher income.

Little do all these guys know, but the money they paid in isn’t in a Gore-made lockbox, slowly collecting interest. Rather, it’s already been paid out to current retirees. Instead, all three have had IOU’s put into a lockbox, which they can only hope the government will make good on in 40 years. There’s about $107 trillion of promises made by the government currently in the form of Social Security and Medicare. Can Patrick, Don, and Jerry really assume the government will be able to pay these benefits in full in 40 years?

Social Security has managed to stay solvent for over 70 years now, so most people would think that that sort of fear is overblown. After all, Social Security has been a successful ponzy scheme from the start. In the middle of the Great Depression, FDR made payouts to elderly Americans and funded it through a 2% tax on payroll, which was split between employers/employees.

The first taxes were collected in 1937 and some lump sum payouts were made in that year. The first monthly payments went out in 1940. On January 31, 1940, Ida May Fuller became the official first Social Security recipient, cashing in a government check for $22.54. Ida had paid Social Security taxes for 3 years (1937-1940), contributing $24.75 into the system. Ida managed to live on to the ripe old age of 100, receiving a total of $22,888.92 in Social Security benefits in the meantime.

Most younger Americans will not be able to accomplish Ida’s feat of turning $24.75 into over $22,000. In fact, they may very well be able to pull the opposite trick. Over time, as benefits paid have risen, the tax rate has risen from the original 2% to today’s 12.4%. Life expectancy has increased dramatically, but the age of pulling in benefits has not, resulting in the need for more funds. There is also the fear of less workers compared to retirees. Social Security alarmists point out that there were 16.5 workers for every retiree in 1950. Progressives then point out that is because Social Security was expanded dramatically in the early 50′s and it has been a relatively stable 3.2 since 1975.

But, alas, the alarmists have the last laugh. This is because the ratio is projected to fall to closer to 2 by the time Patrick, Don, and Jerry (from now on collectively referred to as the ‘Patsies) retire. How long it will take for the worker/retiree ratio to fall to 2 is subject to debate, but most agree it will occur within 20 years due to Baby Boomers retiring. Since the Patsies money has already been spent on current benefits for retirees, the Patsies are going to be relying on a tax basis that is 40% smaller than the current one when they retire. That means the Patsies will have to take about a 40% haircut on their benefits, or their offspring (referred to as the Uber Patsies) will have to pay a higher rate. Since there are only 2 Uber Patsies for 1 Patsy (instead of 3.2), Social Security taxes for the Uber Patsies would have to be about 20-21%, something I don’t think we can count on them agreeing to pay (every Patsy has his breaking point).

Let’s assume social security cuts benefits by about 40% to keep with the demographic change. Here is how our three Patsies end up doing:

Amount Paid-In Benefits Difference
Patrick $194,290 $179,653 -$14,637
Don $436,480 $287,655 -$148,425
Jerry $582,692 $349,615 -$233,076

Keep in mind, most of the time you ‘invest money,’ you hope to get a return based on interest. So these numbers are a lot worse when you factor in the lost ability to invest those taxes paid into alternate investments.

But it gets worse. Out of all the government entitlement programs, Social Security is in the least danger. Remember that $107 trillion in entitlements? That’s largely Medicare, well over 80% of it at that. Medical costs have grown considerably over the past decade. When the baby boomers retire, it just means more Medicare payments (old people tend to need medical care more, shocker I know). And guess what….that’s unfunded too! So we’ll need more Medicare taxes on the Patsies and the eventual Uber Patsies. They will be paying more and more taxes for entitlements promised to older generations. However, when the Patsies get around to retiring, they will likely see a reformed Medicare system that pays out substantially less in benefits since the whole system would simply collapse otherwise (it still may, but that’s another article altogether).

It’s not just federal government entitlements that is skewing wealth away from the young, the state governments do it as well, particularly in the states behelden by public sector unions. Most states allow their union employees to retire and collect a pension equal to 3 times the number of years they have been in service (up to 90% of their max income). So, an employee can work from age 25, retire at 55, and collect a pension equal to 90% of their salary (plus benefits) for the rest of his or her life. That’s almost equivalent to being paid double all of those years!

These pension systems are guaranteed payments (in contrast to the private sector, where employees have retirement plans that are self-directed and can rise and fall with stock market and other asset prices). So if you are a regular, private sector worker, you have to put your own money in a 401(k) and hope it will grow. If you are a public sector employee, the governments put money in a pension fund for you and let’s it grow and pays you later. Either way though, the government will pay you the stated pension (generally 3% multiplied by the number of years you are on the job, up to 90%). It’s just whether the money comes from the pension fund itself or from taxes from future taxpayers (if the fund doesn’t do so well).

Currently, states admit that these pension funds are underfunded by just over $300 billion, so they’ll need a good $300 billion from future taxpayers. But wait, that’s using optimistic assumptions. When states say they will only owe an additional $300 billion, they are assuming the pension funds will grow 8% a year, compounded over time. While you hear a lot about average returns, there’s a big difference between an ‘average’ return and what a return is, after taking into account compounding. After all, if you go up 100% one year and down 50% the next, you really gained 0%, but you can say your ‘average’ return is +25%.

If the Dow Jones grew 8% annually, ever year since 1907 (after it crashed 40%, so in this example, you would be buying at a bottom), it would have grown from 40.76 to 104,576. The Dow Jones is at about 11,000 currently, so that’s off by a factor of 9.5. A more conservative number of 6% would have had the Dow jones at just over 15,000, whereas 5% would have it around 6,000. Either way, using history as a guide, one shouldn’t expect more than 5-6% a year of returns in the stock market over time, so using 8% as a guide is ludicrous.

It’s been calculated, using a 6% estimate, these teachers pensions are underfunded by close to $1 trillion! That means more and more taxes on current, younger workers to pay for state government retirees. Once again, the Patsies get fleeced. Even Patsies that want to milk the system can’t. State governments are catching on and are not making the same sort of pension promises for new hires. This is, of course, something they must do, but it’s too little too late.

Of all states, it’s probably California that is most cruel to Patsies. This is, quite ironic, because Patsies tend to flock to the state since it’s so darn cool. Not only does California impose a large income tax to pay for these pensions (their system is also greatly underfunded, so people can generally bank on more future taxes too), but the state’s property taxes are skewed against the Patsies as well. In California, because of Proposition 13 (passed in 1978), property taxes cannot be increased by more than 2% annually.

Because California housing has increased so much, people that have owned their homes for decades will pay a much smaller tax on a house of a similar value, compared to the Patsy that bought recently. Hence, Patsies basically pay a higher property tax rate in California since they bought more recently.

Over the past 20-30 years, public debt has slowly but surely grown in America. The past ten years especially have seen public debt absolutely skyrocket. The short-term beneficiaries of most of this deficit spending were generally the older, more established generations that received the entitlements and/or pensions. While everyone in America will have to pay for these entitlements, the younger generations will end up being the true Patsies. They will have the privilege of paying taxes for all of these benefit and entitlement programs, without actually receiving any benefits. Oddly enough, it’s also this group that tends to vote for more and more government spending.


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