The debate about whether or not Social Security is a Ponzi scheme is probably less important of an issue than a discussion about the ultimate and real solution to the unsustainable “insecurity of Social Security”: privatization. Chile’s successful transition to a privatized pension system in 1980 provides a model for the U.S. and the rest of the world. Jose Pinera, the architect Chile’s privatization efforts explains in this article “Empowering Workers: The Privatization of Social Security in Chile“:
“A specter is haunting the world. It is the specter of bankrupt state-run pension systems. The pay-as-you-go pension system that has reigned supreme through most of this century has a fundamental flaw, one rooted in a false conception of how human beings behave: it destroys, at the individual level, the essential link between effort and reward–in other words, between personal responsibilities and personal rights. Whenever that happens on a massive scale and for a long period of time, the result is disaster.
Two exogenous factors aggravate the results of that flaw: (1) the global demographic trend toward decreasing fertility rates; and, (2) medical advances that are lengthening life. As a result, fewer and fewer workers are supporting more and more retirees. Since the raising of both the retirement age and payroll taxes has an upper limit, sooner or later the system has to reduce the promised benefits, a telltale sign of a bankrupt system.
Whether this reduction of benefits is done through inflation, as in most developing countries, or through legislation, the final result for the retired worker is the same: anguish in old age created, paradoxically, by the inherent insecurity of the “social security” system.
In 1980, the government of Chile decided to take the bull by the horns. A government-run pension system was replaced with a revolutionary innovation: a privately administered, national system of Pension Savings Accounts. After 15 years of operation, the results speak for themselves. Pensions in the new private system already are 50 to 100 percent higher–depending on whether they are old-age, disability, or survivor pensions–than they were in the pay-as-you-go system. The resources administered by the private pension funds amount to $25 billion, or around 40 percent of GNP as of 1995. By improving the functioning of both the capital and the labor markets, pension privatization has been one of the key reforms that has pushed the growth rate of the economy upwards from the historical 3 percent a year to 6.5 percent on average during the last 12 years. It is also a fact that the Chilean savings rate has increased to 27 percent of GNP and the unemployment rate has decreased to 5.0 percent since the reform was undertaken.
More important, still, pensions have ceased to be a government issue, thus depoliticizing a huge sector of the economy and giving individuals more control over their own lives. The structural flaw has been eliminated and the future of pensions depends on individual behavior and market developments.”