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Economic Error #14: The Government Can Pay Off Social Security by Printing Paper Money Without Inflation. (Please Ignore Medicare.)

Gary North
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Ellen Brown believes that the entire debt of the Social Security System can be paid off by the government without raising taxes.

While she does not mention Medicare, whose long-term legal obligation is easily five times that of Social Security, she either thinks that it can also be paid off without inflation, or else she is ignoring the largest single component of the Federal government's debt. In other words, she is either sweeping the statistical problem under the rug, or else she thinks Medicare is not a problem. Search her book, and there is no treatment of how to deal with Medicare. The word "Medicare" does not appear in the book's index.

Here is what she says about Social Security.

The issue here, however, is what would happen if the Social Security crisis were resolved by simply cashing out its federal bond holdings with newly-issued U.S. notes? Would dangerous inflation result? The likely answer is that it would not, because the Social Security fund would have no more money than it had before. The government would just be returning to the fund what the taxpayers thought was in it all along. The bonds would be turned into cash, which would stay in the fund where it belonged, to be used for future baby-boomer pay-outs as intended. [Web of Debt, p. 377]

It would be hard to imagine a more inaccurate statement. It is almost inconceivable that she could make a mistake this huge.

First, FICA taxes paid into the Social Security Trust Fund are immediately spent by Congress. The Treasury issues nonmarketable bonds, meaning IOUs, to the Social Security Trust Fund. These bonds must be paid for by the Treasury by paying interest to the Trust Funds. These bonds are IOUs, and taxpayers are on the hook for the debt. This debt keeps growing. Here is how one economist has described the arrangement.

The Social Security and Medicare Trust Funds exist purely for accounting purposes: to keep track of surpluses and deficits in the inflow and outflow of money. The accumulated Social Security surplus actually consists of paper certificates (non-negotiable bonds) kept in a filing cabinet in a government office in West Virginia. These bonds cannot be sold on Wall Street or to foreign investors. They can only be returned to the Treasury. In essence, they are little more than IOUs the government writes to itself.


Second, an IOU is not money. An IOU is what you receive when you lend money. So, the Social Security Trust Fund in effect loaned the money to the Treasury, and the Treasury spent the money. This has been going on ever since the late 1930s. The money that the Social Security System pays to the Treasury is in circulation. There is no money in the Social Security Trust Fund. That money was spent as soon as it came in the door. The government does not sit around when it has money to spend. It spends it. Somebody receives it. It winds up in somebody's bank account. Then it gets spent. It winds up in somebody else's bank account.

Third, it does no good to print money to hand over to the Social Security Trust Fund. Here's why. By Federal law, the Social Security trust fund must hand the money back to the Treasury, and the Treasury spends it. The money can be invested only in Treasury securities. The money cannot be spent to invest in the stock market, the commercial bond market, or the commodities market. The only thing that the money can be spent for is to pay the recipients of Social Security who have retired or who are eligible for payment because of an injury. Any money coming in to the Social Security System that is not used immediately to pay the beneficiaries is turned back over to the Treasury. So, if the Treasury hands several trillion dollars of paper money to the Social Security Trust Fund, the Trust Fund has to hand the money right back to the Treasury. This is Federal law. Ellen Brown is either unaware of this, or else she decided not to tell her readers. Here is how the Social Security Administration describes this arrangement.

First of all, the trust funds are required by law to be invested in issues either issued by or guaranteed by the United States Government, and that's the Federal Government. Up to 1960, there was heavy investment in the marketable government securities. Starting in 1960's there started to be a preference for special obligations, which were securities created for the sole purpose of being invested in by the trust funds.

Since 1980, no new investments have been made in marketable securities, but only in the special obligation securities. Now what were these? These were designed to provide security to the trust funds. They have the unique characteristic of being redeemable at par prior to maturity, so that there is no risk of lost of principal if in fact the trust -- this money is needed to pay benefits ahead of the maturity date.


So, it is not possible to pay off the Social Security debt, meaning buy back the bonds, because by law the Social Security Trust Fund has to hold government bonds. Ellen Brown does not understand this. She is oblivious to this. She thinks that new money can be used to buy back the bonds, despite the fact that by law, the Trust Fund has got to put the money back into the hands of the Treasury, in exchange for more bonds.

The Treasury pays interest to the Trust funds. Again, citing the Social Security System,

The interest rate. That is a formula now. It is calculated as the average of all government securities, marketable securities with a call -- due or callable date of four years or later. So again this was an attempt to recognize that these trust funds are essentially long-term funds, and to create a rate that approximates the market rate, but that is a totally predictable rate and not one that is subject to the judgement of anybody making these investment decisions.


So, the Treasury could pay the interest with newly printed paper money, but it cannot legally pay off the debt by purchasing the nonmarketable bonds in the Trust Fund.

What if she says that law must be changed? What if the law says that the Trust Funds can buy any assets they want? The public is totally opposed to putting Trust Fund assets at risk in the private capital markets. It wants those IOUs from the Federal government.

Fourth, under Ellen Brown's reform, the government can create pieces of paper with dead politicians' pictures on them, and then hand the money over to the Social Security Trust Fund in order to meet Trust Fund expenses. The Trust Fund would then send the paper money to the recipients of Social Security. Of course, this means that the Social Security System must abandon the practice of depositing the money electronically into the banks. Instead, it sticks spendable money into an envelope, which is easily stolen, and sends that cash to the recipients. What the recipients do with the money? They spend it. They take it to their banks and deposit it. This serves as the basis of a new round of fractional reserve expansion of money. Or maybe they take it to a store and they buy something. At the end of the day, the store owner deposits this paper money into his bank account. At this time, the fractional reserve banking process takes over, and the money multiplies.

Fifth, this new money is in addition to the money that is already in circulation. This is real money, and it constitutes inflation. I define inflation as an increase in the money supply. There is no question that the new money is in competition with the old money. This means the holders of the new money will be able to bid up prices in order to buy whatever it is that they wish to buy. In other words, the new money competes with the old money, and the price level goes up. This is how Ellen Brown defines inflation. That money will be spent, and like a giant auction, it will raise prices of the goods at the auction.

The economy is a giant auction. If somebody comes to the auction with a bucket full of paper money that has just been printed, and that person begins to bid at the auction, he can raise the price of the bids. If lots of people come to the auction with buckets full of newly printed money, we can be sure that the prices of the items at the auction will rise as a result of the increased money in the buckets.

Sixth, the major expense of the government is off-budget. These are the unfunded liabilities of the Social Security Trust Fund and the Medicare Trust Fund. These are liabilities which will come due when people retire or reach age 65, in the case of Medicare. These expenses have not been budgeted. There is no money to pay these obligations. There is no money in the Trust Funds, no corporate bonds in the Trust Funds, and no way to pay off these obligations without either borrowing, taxing, or printing money.

How much money are we talking about? A lot. To meet these future obligations, the government should hand over the following totals to the two Trust Funds. Then the funds would have to buy profitable investments in the private sector. (Oops, sorry; that would be illegal.)


Understand, these are not the actual future obligations. These figures are the present value of those future obligations. This is the money necessary today to make the investments that will meet these future liabilities.

If we apply Ellen Brown's logic of Social Security and Medicare, this means that the government would have to print at least $107 trillion of paper money to invest the money to pay off the obligations. That means $107 trillion printed today.

Under the present monetary system, this would mean that the fractional reserve banking system would multiply this hundred trillion dollars by at least a factor of 10, but probably more likely a factor of 20. We are not talking $100 trillion; we are talking at least a quadrillion dollars, and maybe twice this. (As always, this depends on whether commercial bankers lend all the money they are allowed to, or put some or all of it with the Federal Reserve System as excess reserves, thereby sterilizing the money: no expansion through loans.)

Even if there were no fractional reserves -- her reform of 100% reserve banking -- it would be wildly inflationary to print $107 trillion overnight.

How much currency is in circulation as of late 2010? Under $850 billion.


Over half of this is outside the United States. So, the domestic currency supply is around $400 billion. Under Ellen Brown's scheme, given the unfunded liabilities added onto the Trust Fund debt, the money supply would increase by 110 divided by .4, meaning by a factor of 275 to one. Overnight.

Do you think this might be a tad inflationary?

She never mentions the fact that there are these unfunded liabilities. She only mentions a few trillion dollars worth of IOUs that are in the Trust Fund of Social Security. This is peanuts -- chump change. She never mentions Medicare.

This woman is so abysmally ignorant of the economic facts that it boggles the imagination. She doesn't understand that an IOU is not money. She doesn't understand the Social Security Trust Fund has to turn the money back over to the Treasury. She doesn't understand that the Medicare program's unfunded liability is five times larger than the Social Security System's unfunded liability. She never mentions these unfunded liabilities.

Anyone who trusts this woman to explain the economy or the Federal debt is relying on somebody who doesn't know what she is talking about.

For a detailed critique of Ellen Brown's economics, go here:

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