Economists call it “moral hazard”: an idea that originated in the insurance industry. Simply put, moral hazard arises when one party in an economy can pass off the risk of his actions/behaviors to another. This process distorts the natural marketplace, enabling that person to take more risks than would otherwise be prudent, knowing that the consequences would be borne by someone else.
A simple example. International banks over-aggressively lend money to spendthrift countries. When the inevitable financial panic occurs, the International Monetary Fund (IMF) often steps in to cover the poor banks’ losses. This action bails the banks out of their foolish positions — and perpetuates the corrupting cycle in the future.
Insurance, when properly “underwritten” (i.e. “sold” to you and me) by the insurer, does not trigger moral hazard. Take life insurance. Or what should better be called “death insurance.” You bet you are going to die; the insurance company bets you are going to live. In the aggregate the insurance company can calculate the overall average death statistics for a large group of customers quite accurately. A good profit can be made based on the fact that your chance of dying early will be countered by the vast majority of the other average-life-expectancy policy holders.
Knowing that your family is now fully covered if you die prematurely, you might be willing to take greater risks than usual, perhaps driving a bit too fast, or taking up the hobby of skydiving from airplanes, or taking extended holidays in war zones. But it is unlikely that you will actually do so. And insurance companies have become quite good at excluding individuals who attempt to “game the system”, such as those who have terminal cancer but don’t reveal their condition.
Which brings us to the problem of government insurance schemes. And in particular, government insurance schemes which do not protect the insurer — the government –against possible moral hazards of the insured. In other words, Social Security, Medicare, Medicaid and ERISA (defaulting private insurance retirement programs that are back stopped by the US government). Here, the Federal Government guarantees that the insurance schemes will always pay out, no matter how expensive the cost becomes or how clever the system can be gamed by individuals succumbing to moral hazard.
Since these schemes are really government promises made by politicians over time to capture the favor of specific voting groups — and thereby get re-elected to office — no simple checks-and-balances mechanism exists to prevent a moral hazard from being created. This is especially true when the benefit (the money) flows from the government to mostly third party beneficiaries, such as hospitals, health care professionals, drug manufacturers, and trade union bosses.
No wonder, then, that the largest and most powerful lobby group in the US today is no longer the National Rifle Association. It’s AARP (which used to stand for the American Association of Retired Persons). AARP now has well over 60 million members, and is growing larger as each baby boomer turning 50 becomes eligible to join.
Of course, Social Security, Medicare, Medicaid and ERISA are not really true insurance programs. Unlike legitimate privately-run insurance companies, there is no reserve pool of assets to tap into when needed to pay out to future beneficiaries. The money collected in premiums is not used for investments, it’s simply used to immediately pay the current bills of earlier insured people. Contrary to what a former national politician once alleged, there (alas) is no “lock box” with a treasure trove of assets safely tucked away in the government vaults. What really exists is yet another Ponzi scheme this time made legal by government definition.
One way the politicians can successfully pull this confidence trick off is to simply hide the real numbers from the public’s eyes. It’s easy. These debts owing to future claimants are never put on the books. Nowhere in the multi-trillion dollar US budget will you find the tens (hundreds?) of trillions of dollars of unfunded Social Security, Medicare, Medicaid, etc. debts owed by the federal government. They ain’t there.
Generation X and Generation Y, being somewhat smarter than the baby boomers, cottoned on to this a while back. They fully expect the US government to renege on its overly-ambitious obligations. This renouncing has already started. Full SS payments used to start at 65. It’s now, 66 or 67 — depending on how young you now are. Expect the payout age to be raised to 70 in the not too distant future… The payments used to be tax free. Now 50% are taxed above certain incomes. Expect that to be raised to 100% — and cut off completely for people above a certain gross retirement income. It WILL happen.
Eventually, almost no one will qualify to receive any Social Security benefits. That’s the only way the government can extract itself from the moral hazard risk it has fallen prey to. By the way, Congress has historically exempted itself from paying into the Social Security system. It has a much nicer and juicier plan for its own members. It also allows most government employees from opting out of SS as well — and into privately-run retirement and health plans like the State of California’s CALPERS program.
Medicare and Medicaid programs are next in line for moral hazard duty and government “adjustments” to counter the moral hazards created in the first place.
So my best advice for every private “investor” in these government insurance schemes? Avoid ever putting your money into them in the first place, or find ways of getting your money out as fast as you can — preferably before the next “beneficiary.” But here’s an even better solution. Get a good government job. Preferably as a university economics professor at a state-owned college.
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