by Calculated Risk on 5/25/2005 02:28:00 PM

On May 13, 2005 the Senate Democratic Policy Committee held a hearing on Social Security. "An Oversight Hearing on President Bush's Social Security Privatization Plan: Will You and Your Family Be Worse Off?"

There were statements from Senators and five witnesses:

Robert Shiller
Professor of Economics at Yale University

J. Bradford DeLong
Professor of Economics at the University of California-Berkeley

Derrick Max
Executive Director of the Alliance for Worker Retirement Security and the Coalition for the Modernization and Protection of America's Social Security

Peter Orszag
Senior Fellow in Economic Studies and Director of the Retirement Security Project at the Brookings Institution

Beth Kobliner
Personal Finance Columnist and Author of Get a Financial Life: Personal Finance in Your Twenties and Thirties

Many of us have read Dr. DeLong's testimony on his blog. Here is an excerpt from Dr. Shiller's testimony:

I conducted a study in March 2005 that simulates the long-term performance of personal accounts, and the paper, data and simulation program are available on my book website irrationalexuberance.com. The paper uses historical returns from 1871-2004 to assess the likely outcomes of the President’s proposal for various worker choices among the options. It does 91 different simulations for a worker born in 1990 assuming that he or she experiences the actual returns from 1871-1914, 1872-1915, 1873-1916, all the way through 1961-2004.

This sample has a U.S. historical average real stock market return of 6.8% annually, slightly above the 6.5% annual return assumed by the Social Security actuaries. My study also included “adjusted” stock market returns designed to match the median stock return in 15 countries from 1900-2000, 2.2 percentage points lower than the U.S. returns over the same time period. I believe that the international return figure is more realistic.

I found that using U.S. historical returns, a benchmark life-cycle portfolio loses money 32% of the time (i.e., 32% of the time the internal rate of return is less than the 3% real return required to break even in the proposal). The median rate of return is 3.4% annually. Using more realistic adjusted returns, the benchmark life-cycle portfolio loses money 71% of the time and has a median rate of return of 2.6%.

The conclusion is that the president’s personal accounts, even the life-cycle portfolio, would subject Americans to serious risks. The Ownership Society is a long-term and elusive goal, and we should not expose people to unnecessary risks in an overambitious attempt to attain that goal.

For those following the housing market, yes, the same Dr. Shiller.