Friday, February 11, 2005

I’m an English major, but I can still do the math.

On his latest stop in the Lolabamboozle tour, the President was in my fair state yesterday. And he tried his usual bit of mathematical magic about Social Security.
And why does that happen? Because when you're able to get a rate of return on money invested, over time that money grows, that money accumulates, that money expands. And so I believe younger workers ought to be allowed to set up a personal account and invest in stocks and bonds so that their money can increase faster, at a faster rate than that which their money increases in the Social Security system. That's what I believe ought to happen. (Applause.)
And so -- that's called the compounding rate of interest. Just trying to show off a little bit, kind of -- (laughter.) Not bad for a history major. (Laughter.) Let me give you an example of what I'm talking about. By the way, our plan is one where I believe we ought to phase in the accounts so they're more affordable, so that the transition costs are more manageable to get to such accounts. I believe ultimately a worker ought to be allowed to put 4 percent of the payroll tax aside as a -- 4 percent of the 12 -- as a -- in the personal account. So money stays in the system, but money also would be allowed to grow with interest. Your option, by the way. Younger workers shouldn't be forced to do this. Younger workers -- if you're interested in this, you can do so.
Now, if you're a worker who earns $35 [sic] a year over your lifetime, and this system were in effect where you could put 4 percent of your payroll taxes in a personal account, and you start at age 20, by the time you retire, your personal account would grow to $250,000. That's compounding rate of interest.

So boys and girls, here’s a little bit of arithmetic (as we used to call it) that I remember from eighth grade:

Social Security taxes are around 6%
35000 x .06 = 2100

And you get to take 4% of that
2100x .04 = 84

Taking an average of $84 a year for that average $35000 over a “lifetime” earnings, (and we assume that annual contribution is made EVERY year – no time off for losing your job or having a kid or two) by my calculations you’d need an annual interest rate of 12% AND work till you’re 70 to get $250,070 in the end. If you wanted to retire at 65, you’d need an annual interest rate of 13.7% to get $251,621.

Last time I looked, returns on bonds were in the 4 –5 % range.

Of course, you could always choose stocks…


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