Is the 401K a Ponzi Scheme? Discuss

As of this writing, the Dow has slipped -111 points.  As Atrios would say: “Weeeeeeeeee!”  Update:  It’s back up again, “whhooooAAA!”  Update: Annnd back down again.  “Weeeeee!”  Isn’t this fun?

I was amused and irritated to see the question “Is Social Security a Ponzi Scheme?” at Room for Debate in the NYTimes recently.  (Fortunately, no one debating said it was, not even the rabid Republicans)  We are only discussing this because Rick Perry, Mr. Goodhair himself, brought it up.  The answer is “No”, it is not a Ponzi scheme.  The system has been working for something like 80 years now.  It’s an insurance system.  Participants pre-pay into it through deferred wages and withdraw it when they need it.  The money collected is used to buy Treasury Bonds.  Social Security is not an investment scheme that promises to return a huge bang for the buck.  It’s a modest retirement program, a fallback in case everything else fades.  It’s supposed to be solvent for decades to come.  The only issue is whether there will be anyone still employed to pre-pay.  The more people out of work, the fewer of us paying our share and, ironically, the more we’ll come to depend on it down the road.

The 401K, however, IS a Ponzi scheme.  No doubt about it.  Investors are told that if they save in a 401K, their money will grow.  How much it will grow depends on how much your 401K managers are willing to bamboozle you.  The investor is told that whatever it is you think you can afford to put into the system is not going to be enough to retire on.  The more you put in, the greater your payoff 30 years from now when you retire.  You’ll be rich, rich, rich!  And it certainly looks like that, doesn’t it?  That little pile of cash just keeps growing and growing, until there is a market “correction” and it doesn’t anymore.

One of the characteristics of a Ponzi scheme is that it requires a lot of new investors to support the returns of the older investors.  In this game, it helps to get in early.  There are a lot of older babyboomers who didn’t get in while they were young but when they did start contributing to their 401Ks, they were in their prime earning years and were able to set aside a nice chunk of change.  Pretty soon, they’re going to want to take that money out to live on and as we all know, there are a lot of babyboomers.  And they can do that once they’re old enough.  They won’t be socked with a punitive tax when they withdraw that money.  The rest of us who are unemployed and may need those funds to live on will pay dearly.

Please do not tell me about how prudent it is to put aside your money for retirement and not spend it no matter what.  We’re not stupid.  But that money could be used to stimulate the economy at a time when the Republicans stand in the way of doing anything helpful, and could theoretically provide more jobs, and with jobs we can start socking money away again.  When money is tied up in some illiquid 401K that you can’t get to without undergoing a hemorrhage, the only people it benefits are some testosterone poisoned fund managers and their bonus loving banks.  Funny how the Obama administration and Congress are so willing to cut a break on the payroll tax but not the excise tax for withdrawing 401K benefits.  It almost sounds like they were trying to undermine social security while forcing people to stay in a 401K where there is no guarantee of a return and much, much more risk, tying up those funds for decades to come.  Now, why would they do that…?  I only ask.

A market “correction” could wipe you out.  That’s harder on a soon to be retired senior than a younger worker.  But if you don’t have a job, you can’t contribute.  So, the money that was supposed to guarantee your retirement at Millionaire Manor doesn’t really grow.  Over time, the mutual funds will require more investments coming in to offset the money taken out.  There’s bound to be a plateau, unless the fund managers find bigger and better scams, but won’t that entail more risks?

So, to recap: the 401K promises gigantic returns to people who get in on the ground floor.  More and younger investors are required to also contribute to prop up the stock prices of the companies your funds are dumped into.  Older investors can withdraw all of their funds penalty free; younger investors cannot.  The savings are not guaranteed and can be wiped out by market conditions, or diminished by the withdrawal of the generation above you.

Sounds fairly Ponziesque to me.

That’s my theory and I’m sticking with it.