Unfortunately, this year’s Labor Day celebration comes at a time when the employment situation in the U.S. is rather dismal.  Last Friday, the BLS (Bureau of Labor Statistics) put out its jobs report for August.  The official word is that “nonfarm payroll employment changed little (-54,000) in August, and the unemployment rate was about unchanged at 9.6 percent.”

Here is the problem - I have always been mildly dissatisfied with our use of the unemployment rate as the key indicator of the health of the jobs market.  Why?  Because of the “discouraged worker effect.”  In essence, if you are so discouraged by the job market that you have given up looking for a job, you are no longer even considered part of the labor market.  Therefore, you are not counted in either the numerator or the denominator of the unemployment statistics.

An alternative is to look at broader measures.  One such measure was discussed last Friday by Henry Olsen of the AEI in an article posted at AEI Online.  I will refer you to his bog to see the graphic, but the bottom line is that he looks at the ratio of civilian employment to the total population, and finds these numbers much less rosy.  For example, he notes:

“The import of the employment rate is clearer when one compares it and the unemployment rate to data from last August. America’s adult population has risen by 2 million people since then, but the number of adults with jobs has dropped by 180,000.  The unemployment rate declined slightly despite these numbers, from 9.7 percent to 9.6 percent, because over 2.3 million people have left the labor force entirely, so discouraged they are no longer even looking for work.  The employment rate more accurately reflects that despair, sliding down from 59.1 percent to 58.5 percent.”

So, unfortunately, we celebrate Labor Day this year at a time when the outlook for labor is not ideal.  Let’s hope it gets better next year.

The editorial in Tuesday’s Daily Illini titled “Sustainability investment guarantees return” extols the virtues of the newly increased student Sustainability Fee.  Back in 2008, the annual $5 Fee was created by student referendum to fund projects that “help establish a sustainable campus environment by financing initiatives such as green buildings, engagement of the university community, recycling, energy efficiency, and environmentally responsible purchasing.”  This past year another referendum raised the Fee to $14 per student per year.

The Daily Illini’s editorial claims that Fee helped pay for a $450,000 lighting efficiency project at the Krannert Center that would save $70,000 annually for the next 20 years.  Assuming that these figures are correct, the implied 14.5% Internal Rate of Return (IRR), while not overwhelming, is a solid return on a capital investment particularly given current macroeconomic circumstances.

The existence of the Sustainability Fee raises two questions that I want to address.

(1) Why the need for a student Sustainability Fee if the projects it funds provide such good financial returns to the University of Illinois?

For readers of this blog and for general members of the University community, the answer is probably self-evident: budget problems.  The State of Illinois and the University can barely (and sometimes not) cover current operating expenses, leaving no room for projects with large upfront costs that provide future benefits.  That is, there is no money for long-term investments.  I am not saying that all projects funded by the Sustainability Fee will provide at least a 14.5% IRR, but one can envision many other energy efficiency projects on campus that could yield high returns that go wanting for lack seed money.

(2) Why would the current generation of students want to impose costs on themselves when the majority of benefits accrue to future generations of students?

Looking at the 2010 referendum results, the $9 increase in the Sustainability Fee passed with 77.1% of the vote.  While that seems like an impressive margin, only 13% of the student body actually voted on the referendum.  This means that the 3,885 students who voted “Yes” for the Fee increase imposed over $300,000 in costs per year on “No”-vote  and non-voting students.  (To be fair, the Sustainability Fee is refundable upon request; however, the default opt-in and in-person refund process probably leads to high Fee participation.)  Thus, my first point is that not all of the students choose to impose the Fee.

Next, since undergraduate students are only on campus four years, any project with more than a four year payback period will not be financial beneficial to the students.  That is, the generation of students that paid for the Krannert lighting project receives a NEGATIVE rate of return ($450,000 invested with 4 X $70,000 in net savings).

So what is going on here?  It seems true that university students are more concerned with the environment than are the general population, and probably more so for the subset of students that self-selected to participate in the referendum.  Therefore, the students voting “Yes” for the Fee could be gaining non-monetary benefits from the sustainability projects (such as the “warm-glow” of doing the environmentally responsible thing).  However, I have another, potentially more nefarious explanation: their parents’ credit card.  To the extent that parents pay for room, board, and fees for their children, the ability for students to impose the Fee for a cause they feel “good” about is just another way of spending their parents’ money!

I hope you all have a fun and safe Labor Day weekend, see you all next time.

The contention that small firms create disproportionately many jobs dates back about 30 years to work by Birch in the late 1970’s and early 1980’s, and while there have been some  challenges to the inverse relationship between job creation and firm size, the evidence in favor of the proposition has been strong enough that the idea is still with us today.

The Haltiwanger-Jarmin-Miranda study begins by noting that not all “small” firms are the same.  Some are the typical “mom and pop” operations you think of – small retail operations like grocery stores or dry cleaners.  Others, however, are very different.  For example, a high-tech start-up might have just two or three employees.  It is also small, but it is also ambitious in a way that the mom-and-pop retailer may not be.  These two firms might have very different growth paths ahead of them.  The mom-and-pop might add another part time employee or two over the next few years, while the start-up might go public and add a hundred or thousand.  The point of the H-J-M paper is to figure out how much of the conventional wisdom that “small firms create jobs” is due to them being small, and how much is due to the that young firms (e.g., start-ups) also happen to be small.

In short, H-J-M find that the conventional wisdom is driven almost entirely by the fact that young firms are also small firms.  To quote the abstract of the paper:

 [O]ur main finding is that once we control for firm age there is no systematic relationship between firm size and growth. Our findings highlight the important role of business startups and young businesses in U.S. job creation. Business startups contribute substantially to both gross and net job creation. In addition, we find an “up or out” dynamic of young firms. These findings imply that it is critical to control for and understand the role of firm age in explaining U.S. job creation.

“more than 500 employees took advantage of our Voluntary Separation Incentive Program, and some 90 tenured faculty members and 16 adjunct professors and lecturers will leave the University under the Voluntary Retirement Incentive Program. Achieving this reduction in staff through voluntary programs minimized the dislocation and disruption that would have resulted from more drastic measures.”

Over the past 6 months, I have heard a lot of discussion among university colleagues and members of the community as to whether these incentive programs are really a good thing or not.  Concerns seems to focus on two aspects. 

1. Are these programs really cost effective?  For example, how do we know that we are not just subsidizing retirement that would have happened anyway?  If 50% of the people who retired under this program were planning to retire this year anyway, this would essentially doubles the per-incremental-retirement.

2. How do we know that the “right” people are retiring?  For example, might it be the case that the most productive employees are the ones accepting these packages, because they are the ones with the best non-University alternatives for producing income?

I do not have the administrative data from Illinois that one would ideally like to have to answer these questions in our case.  But I did find a wonderful 2004 paper by John Pencavel of Stanford University, entitled “Faculty Retirement Incentives by Colleges and Universities” in which he discusses these and other topics.  I encourage you to read the whole paper if you have the time.  But here is my brief summary of some of his findings (based on his own research and that of other economists):

He examines the early retirement programs used by the University of California for tenured faculty in the first half of the 1990s and finds that:

1. Faculty are indeed responsive to monetary incentives.  He finds that an incentive equal to a one percent increase in a pension replacement rate is associated with a 3.7 percent increase in the acceptance of the early retirement incentive.

2. He shows that it is exceedingly difficult to accurately forecast who accepts such a package, which in turn makes it very difficult to accurately predict behavior in advance.  In the paper (around pages 30 and 31, he explains the reasons in detail).
3. Contrary to the concern raised in my question #2 above about the “best” faculty being most likely to retire, he finds that after controlling for age, length of service, academic discipline, and campus, one can treat salary as a proxy for the “quality” of a faculty member (i.e., if we compare two 60 year old professors in the same department who have been on the same campus for the same number of years, the more highly paid one is, on average, “better.”)  He finds that “those individuals with higher salaries were less inclined to accept the buyout program, a finding that is commonly found in studies of the relationship between pay and quit rates.”  In other words – on average – the better employees (as proxied by salary) were less, not more, likely to accept early retirement.     

4. For those that object to the use of salary (conditional on age, campus, dept and years of service) as a proxy for quality, he also reports results of another study that found that in the years before the early retirement programs, “those faculty with lower research output were more inclined to accept the severance incentives than other faculty.”  Again, this suggests that the most productive faculty are less likely to retire under an incentive program than are less productive faculty.

On net, I confess that reading this research makes me feel better about the program that the University implemented.  However, Pencavel concludes by cautioning against declaring an early retirement program a success simply based on the reduction in payrolls and the absence of adverse selection in who retires.  A full cost-benefit analysis would require an analysis of a much broader range of implications – including the overall impact on the quality of teaching and scholarly output.

In short, only time will tell …

Much of public economics is concerned with who bears the burden of such taxes.  Any tax that takes the same fraction of income from everybody is said to be proportional, whereas the income tax that takes higher fractions of high incomes is said to be progressive.  In contrast, a tax on electricity would be regressive, because electricity constitutes a higher fraction of low-income budgets than of high-income budgets.

What about the implicit tax on lottery tickets?  Just like electricity, lottery tickets constitute a higher fraction of spending for low-income households than for high income households.  The book about state lotteries by Charles Clotfelter and Philip Cook has a very appropriate title, “Selling Hope” (Harvard University Press, 1989).   As a result, the implicit tax is said to be regressive – a burden that’s a higher fraction of income for the poor than for the rich.

 I’ll claim here, however, that state lotteries are progressive, not regressive.  They provide a benefit to low income families that is a higher fraction of income than for high income families.  The key to this point is to think about lotteries “relative to what?”.  The usual question about a tax considers the burden on high and low income families relative to no tax. Indeed, if the state allowed a competitive market for lotteries with no tax, then the average payout would pretty much match the sales revenue minus normal administrative costs, with no net profits.   Relative to that alternative, the lottery tax is regressive (takes proportionately more from the poor).

But a world with many untaxed competitive lotteries is not the relevant alternative!  The question over the past few decades for each state legislature is whether to allow lotteries at all!   Relative to that alternative, no lotteries, the introduction of a lottery – even a taxed lottery – provides people an opportunity to buy something worth more to them than its price.  This difference is what we call consumer surplus.   If you are very hungry, you might be willing to pay twenty dollars for a hamburger, if you really had to do so, but fortunately for you, the price is only $5!

The introduction of a product provides consumer surplus to those who buy it, since it is worth at least the price to them and probably more than the price they have to pay.  For lottery tickets, those who spend a higher fraction of income on lottery tickets are the poor, and so the introduction of lotteries provides benefits to the poor that are a higher fraction of their income than for others. 

You may object to that logic, but let’s figure out what might really be wrong with it!  That logic is absolutely unassailable to anyone who buys into consumer sovereignty and the economic efficiency of the free market.  That logic says consumers are fully informed and will buy whatever makes them happy, with no negative effects on anybody else.  If so, then the poor benefit from lotteries.

Any valid objections to my logic above would have to explain exactly what is the market failure.  Do buyers not know that the state is keeping some of the money, and therefore the expected payout is less than the price of the lottery ticket?  I think they do understand that.  Are they imposing negative externalities on others?  Single individuals should be allowed the freedom and responsibility to decide for themselves how to spend their money.   A married couple with kids might want to plan a budget together, but there’s no inherent reason that budget couldn’t include a little fun with lotteries.  Some behaviors might be pathological, like alcohol or gambling addictions, but that is not a reason to ban all alcohol or gambling.  It is a reason to watch out for the pathological cases, and try to help out those individuals.

I certainly don’t mean to claim that lotteries have no issues at all.  Public policy might want to deal with those issues.  But most people who want to ban lotteries are being paternalistic, with the inherent belief that they know what’s best for other people.  They want to impose their beliefs on other people.  That’s not consistent with a free society.  If people are allowed to choose for themselves, then lotteries make poor people better off.

What is the WEP?  It is a provision in the law that alters the way Social Security benefits are calculated for individuals who work for state and local employers who do not participate in the U.S. Social Security system.  For example, the earnings of employees of public universities and public schools in Illinois – who participate in Illinois SURS and Illinois TRS – are not covered by Social Security. 

Illinois is not alone.  Approximately one fourth of all public employees in the U.S. do not pay Social Security taxes on the earnings from their government job according to the U.S. Government Accountability Office (GAO).  This includes approximately 5.25 million state and local workers, as well as approximately 1 million federal employees hired before 1984. 

However, many of these public employees – including the author of this blog – will still qualify for Social Security benefits, either as a result of switching between covered and uncovered employment at some point in their career or because they simultaneously work two or more jobs that span both covered and uncovered employment.  For example, a teacher in the State of Illinois may spend his summers working in covered employment.  Alternatively, a professor may spend part of her career working at a private university covered by Social Security, and part of her career working for a state university that is not covered. 

If Social Security benefits were calculated as a simple “linear” function of lifetime earnings, this would not present any problems.  If you earned 50% of your lifetime income in Social Security, you would just get 50% of the benefit that you would have earned had all your earnings been covered.  The only thing Social Security would need to know is how much you paid into Social Security.  Whether you have other “uncovered” earnings would be irrelevant.

But Social Security does not have a “linear” benefit formula.  Rather, it is explicitly designed to offer a higher ratio of benefits-to-taxes-paid for low income workers than it offers to higher income workers.  It is designed this way in an attempt to redistribute income from the rich to the poor.

And therein lies the problem.  If Social Security only observes part of a person’s total earnings (e.g., they know someone’s earnings from a summer job, but not their university salary), then they might mistakenly classify this person as a low-income individual, even though they might be a high income individual who just had a small part of their earnings covered by Social Security.  As a result, blindly applying the same benefit formula to this person gives them a benefit that is too high relative to other individuals who have the same total lifetime earnings!  In essence, we would be paying too much to people who only worked a small part of their career under Social Security.      

In order to adjust for this, the Windfall Elimination Provision (WEP) was enacted as part of the 1983 Social Security Amendments.  This provision is meant to downward-adjust the Social Security benefits of affected workers in order to eliminate the “windfall” (a poor choice of words, I am the first to admit!) that arises when, for example, an individual with high lifetime earnings (based on both covered and uncovered earnings) would appear as if he or she were a low earner when evaluated solely based on covered earnings. 

It is easiest to see the problem that would be created if there were no WEP provision in place through an example.  Consider the three individuals shown in the table below.  “Larry” is a very low income worker who works his entire life under Social Security, with an average lifetime monthly earnings of only $500 per month.  Using the 2008 benefit formula, Larry would have a full benefit $450, or 90% of his pre-retirement income.  “Mo” is a higher income worker with all of his earnings covered under Social Security, thus having an average monthly income while working of $5,000.  Under the benefit rules, Mo would have a full benefit of $1891.34, or a 38% of their working life income.  Thus far, this example simply illustrates the “redistributive” nature of the benefit formula, as Larry receives a higher replacement rate than does Mo, owing to the fact that Larry has lower lifetime earnings.

Social Security Primary Insurance Amount If No WEP Adjustment Applied

Now consider Curly, a public employee.  Curly’s total lifetime earnings of $5000 are identical to Mo’s.  Had all of Curly’s earnings been covered by Social Security, Curly would have the same 38%replacement rate as Mo.  However, only 1/10^th of Curly’s earnings were in employment covered by Social Security; the rest were in non-covered public employment.  If Social Security applied the standard benefit formula to Curly’s covered earnings without any WEP adjustment, Curly would receive a monthly benefit of $450, equivalent to Larry.  This provides Curly with a ratio of benefits to (covered) earnings of 90%, which is substantially more generous than the 38% ratio provided to Mo, even though Mo and Curly have identical lifetime earnings.  To use the language of the provision designed to address this issue, Curly would receive a “windfall.”  The WEP adjustment is designed to calculate Curly’s benefits differently, so that they end up looking more like Mo’s, since they both have similar lifetime incomes.    

In short, because Social Security is a redistributive program, there is a real need for something like the WEP.  Most people affected by it, however, hate it.  And who can blame them given that SSA does a terrible job of explaining it?  In essence, instead of telling a retiree that “your benefit will be $800,” SSA tells them “your benefit would be $1100, but because of the WEP, it is only $800.”  But for the individual in question, the $1100 benefit is a red herring.  In no way, shape or form is the $1100 benefit a relevant amount to start with.  So SSA’s poor communication and negative framing raises a lot of hackles unnecessarily.  As a result, thousands of letters are written to elected officials every year demanding that it be repealed.  And, every year, bills are introduced in Congress to eliminate it.  And every year, those bills fail as they should.

This is not to say that the WEP is perfect.  Far from it.  I have written more extensively elsewhere that the WEP calculation may be close to correct on average, but it is almost certainly wrong for each individual.  Sadly, it hits lower income individuals harder than it should, and does not hit most high income individuals hard enough.  There is a “right” way to calculate the WEP, but implementing it requires that SSA have a full history of both covered and uncovered earnings, but they did not collect the uncovered earnings in a systematic way until the early 1980s.  As such, we probably have to wait another 10 years before they can implement the fix.  In the meantime, SSA could do themselves and a lot of elected officials a huge favor by taking the time to adequately educate affected individuals on the rationale for this program.

If housing values continue to rise and people keep working, everybody is happy.  Homeowners can make relatively small payments on the home equity loan and enjoy increased consumption in the short run.  Eventually, when they sell their house at a higher price, they can pay off the loan and everyone wins. 

However, in the face of a national recession and housing bust like we’ve experienced lately, things look quite different.    People have lost their jobs, and so can no longer afford to make their loan payments.   In ordinary times, the lender would seize the collateral for the loan – in this case the house.  However, at the same time we’ve been going through a recession, we’ve also been experiencing a housing bust.  So, the house that had been valued at $200,000 at the time the loan was written may not only be worth $80,000.  The collateral is no longer there.

The result of this dynamic is an increase in defaults on home equity loans.  Faced with financial difficulty, buyers are choosing not to pay their home equity loans and challenging the banks to try and collect.  However, in the case of home equity loans, this can be particularly difficult for banks, since, following bankruptcy, home equity loans are paid off only after primary mortgages.  So, if an equity lender tries to collect, the borrower can simply threaten bankruptcy, in which case the equity lender will most likely get nothing.  Thus, rather than being at the mercy of the banks, households that took out large amounts of debt are actually in a position of power.  To quote a couple of paragraphs from the article:

The result is one of the paradoxes of the recession: the more money you borrowed, the less likely you will have to pay up.

“When houses were doubling in value, mom and pop making $80,000 a year were taking out $300,000 home equity loans for new cars and boats,” said Christopher A. Combs, a real estate lawyer here, where the problem is especially pronounced. “Their chances are pretty good of walking away and not having the bank collect.”

Even when a lender forces a borrower to settle through legal action, it can rarely extract more than 10 cents on the dollar. “People got 90 cents for free,” Mr. Combs said. “It rewards immorality, to some extent.”

This phenomenon points toward an interesting change in American culture that reminds me of a story from my own life.  When I was in graduate school, I would rent movies from Blockbuster Video. (This was pre-Netflix, but at least they were DVD’s!)  I used to take the due dates very seriously, to the point where I’d pull on my shoes and run out at 11pm just to return a movie before the midnight deadline.  Then, one day, I didn’t, and I realized that nothing bad happened to me if I did.  Sure, there was a fine, but it was one I could deal with.  From that day on, I don’t think I ever returned another video on time.

What we’ve been experiencing lately with regard to bankruptcy and loan delinquency is much the same.  There hasn’t been a change in bankruptcy policy.  And, while there has been a change in economic circumstances (some responsible people can’t afford to repay reasonable loans that were taken out in better times), there has also been a cultural change whereby declaring bankruptcy is no longer seen as a last resort.  It has become acceptable to declare bankruptcy strategically, even before all available options for repaying as much of a loan as possible have been exhausted.  And, lenders are now aware of this.

It is difficult to know the impact of this change on lending markets, but it is likely to be profound.  Home equity loans, which used to be straightforward, are likely to be more difficult to acquire, as lenders begin to protect themselves against the possibility of a housing downturn in a world where people feel it is acceptable to walk away from their obligations.  These protections will likely involve fewer loans, smaller loans, higher interest rates and stronger collateral requirements.

Several readers have emailed me the Chicago Tribune op-ed on August 10, 2010 entitled “Pension check may not be in the mail.”   In it, Dennis Byrne states that “if the pension funds go bust, the state has no obligation to step in to pay the benefits.”  This was based on a legal opinion provided by the Chicago law firm Sidley Austin.

According to this legal opinion, the contractual agreement is between the workers and the pension fund, rather than the workers and the state.  I find this a rather odd interpretation. 

In the 1998 “Sklodoswski” decision by the Illinois Supreme Court, “beneficiaries in various state employee pension systems brought suit seeking to compel the state and its officials to appropriate monies necessary to meet statutory funding obligations contained in the Illinois Pension Code.”

Essentially, Supreme Court ruled that while beneficiaries do have a contractual right to benefits, the Illinois constitution does not require that the state pre-fund those benefits. 

The court ruled that:

“allegations of underfunding are insufficient as a matter of law to constitute an impairment of benefits.  Plaintiffs … have alleged only an opinion that present funding levels are insufficient, from a prudential standpoint, to meet the accrued future obligations of the funds.  These claims have no factual allegations that would support a finding that the funds at issue are ‘on the verge of default or imminent bankruptcy’ such that benefits are in immediate danger of being diminished.”

The Court seems to have come awfully close to saying that if the level of funding reached a point where it was “on the verge of default or imminent bankruptcy,” such that the funds were no longer able to pay benefits, then this would constitute an impairment, and the state would have to pony up the funds.  The Court was simply observing that being actuarially under-funded is not sufficient to impair benefits.  And the Court is right on this point – since true impairment comes when the fund runs dry, not when there is an actuarial imbalance.  But once the funds run dry, the unspoken implication is that benefits would indeed be impaired and that the state would have to step in at that point. 

If you don’t believe these hypothetical discussions, then let’s look at some history.  As I noted in my 2009 paper in the American Economic Review (co-authored with David Wilcox):

“Perhaps the most reliable evidence on the riskiness of public pension benefits comes from instances when a public pension plan sponsor suffers from severe financial distress. For example, during the 1970s, the fiscal position of New York City deteriorated so greatly that, by March 1975, it was unable to complete a $912 million offering of short-term notes (Attiat F. Ott and Jang H. Yoo, 1975).  In response to the ensuing crisis, the city negotiated a one-year wage deferral and, over the period to 1978, cut 61,000 jobs from its payrolls, among other steps (David Lewin, 1977).  City pension funds became important sources of financing for the city.  Nonetheless, the city never reneged on accrued benefits under any of its five DB plans.  This protection of pensioners during a period of losses for other parties reflected the non-impairment provision in the state constitution.” 

“Another notorious case study occurred in the early 1990s, when Orange County’s Treasurer, Robert Citron, invested heavily in derivatives and long-term bonds, betting that short-term interest rates would remain low.  In December 1994, Orange County filed the largest municipal bankruptcy in U.S. history, following nearly $1.7 billion in losses sustained in Citron’s fund.  In response, the county chief executive officer proposed a 40 percent reduction in the county’s general fund budget, layoffs of more than 1,000 people, and the elimination of more than 500 other vacant positions (Matt Lait, 1995).  In spite of these financial difficulties, however, defined-benefit obligations were met in full.  In part, beneficiaries were protected by the fact that the pension fund was over-funded.  However, they were also protected by a constitutional provision stating that “the assets of a public pension … system are trust funds and shall be held for the exclusive purposes of providing benefits to participants in the pension or retirement system…” (Article XVI §17(a)).  Attempts by the county to use the surplus assets in the trust fund were rebuffed.”

In short, there has never been a case to my knowledge where a pensioner residing in a state with a constitutional guarantee against impairment was denied his or her benefits.

If I were a participant in a state DB plan (which I am not), I would still be pretty comfortable with my pension guarantee.  For perspective, it remains a substantially stronger guarantee than what the other 95% of America gets from Social Security which (a) is intentionally structured as an unfunded, pay-as-you-go system, and (b) which can be changed by Congress and the President at any time.

My main reaction is that everybody was very professional.  I greatly respected the prosecutor, the defense attorney, the judge, literally all of the witnesses, and all of the other jurors.  Overall it was a good experience.  I paid attention, I learned a lot, and I feel confident about the future of the US judicial system.  I’m also extremely confident in the decision made by the jury in this case. 

But that doesn’t mean that nothing could be improved.  One of my other reactions is that almost everything seemed overly thorough.  I’m not sure that time was “wasted”, and I’m not sure I have specific recommendations in this regard, but it did seem to be overly thorough to call FOUR witnesses to establish a single fingerprint match: the initial cop on the scene, who placed a call to (2) the cop who took the latent fingerprint from the household, (3) the cop at the jail who booked the suspect and took his fingerprints, and (4) the forensic scientist at the State lab in Springfield who compared the two fingerprints and declared them a match.  For each of those four, we heard name, spelling, job in general, task on the relevant day, explanation of the process, and plenty of other information.  And that was just one piece of evidence.  The case was mostly pretty boring.

As it turns out, the prosecution had many such pieces of solid evidence, more than enough to convict.  The poor defense attorney had very little that could be done, except to re-call some of the prosecution witnesses and hope that somebody slipped up somewhere.  Besides being extremely confident in our decision to convict, I was ALSO very sorry for the poor defendant.  He was all too typical of defendants in our judicial system: young, poor, minority, and disadvantaged.  He was previously convicted at an even younger age, which undoubtedly made it difficult for him to find work and left him unable to get his life back on track.  It seems that many people in his family and in the system have let him down as well.  We each can work for social change, so that makes me and each of us partly responsible.

For three days, the case used up the time of two attorneys, one judge, one defendant, two court security officers, twelve jurors, and two alternates.  That’s twenty people, 60 days, or 480 possible hours of work on other useful pursuits.  At an average of only $30/hour, those hours are worth $14,400, but even that estimate excludes the cost of the courtroom, building, maintenance, secretaries, training, and the time of the witnesses, some of whom had to drive from the State forensic labs in Springfield.  If the total per case is $20,000, then that needs to be multiplied by the thousands of court cases each year.

As an economist, I was somewhat appalled at the resources devoted to this trial, when the outcome should have been pretty obvious to everybody beforehand who was familiar with the evidence.  It seems obvious to me that the defense would have been willing beforehand to plead guilty to a lesser charge, and so it seems probable to me that the prosecution decided not to offer such a plea bargain.  They knew they could convict in court, and so they did not need to offer a better deal.  Then the defense was left to choose between pleading guilty or going through the whole trial, likely to be found guilty of the same charges.  If they face the same sentence when found guilty of the same charges, then they had no reason to plead guilty earlier.  Just roll the dice, take your chances in court, and hope that somebody on the prosecution screws up.  Nobody in this process is taking into account the costs to the court and to the jury.

What specific recommendations might be the result of my experience with the jury system?  Some of these suggested changes might require legislative action, or higher level judicial reform. 

First, the prosecution ought to be allowed and encouraged to offer some lesser charge, just to avoid taking all the time in court.  Even simpler, the judge could be allowed and encouraged to give a slightly lower sentence to a defendant who pleads guilty instead of being found guilty of the same charge, again to provide incentive to the defense to avoid taking everybody’s time in court.

An implication is it might not be wise to tie the hands of the judge in sentencing.  If the prosecutor or judge has nothing to offer in exchange for pleading guilty, then we incur the social cost of too many trials; defendants have no reason not to simply wait for trial to see if they get lucky with an odd jury or incompetent prosecutor.

Second, I don’t think it takes twelve jurors and two alternates to decide most cases.  Maybe for murder and other serious cases, but simple burglary could be decided by six jurors.  A unanimous decision by six jurors must be pretty darn clear. 

Third, put windows in the jury room!  Fourteen of us were cooped up in a very small windowless room for much of the day, simply waiting, while the court attended to other business or had discussions on the case that were not to be heard by the jury.

Fourth, it’s okay to tell us that our service might be required for a week.  But after an exhausting case that takes three full days, don’t tell us to be ready to return for two MORE days on other cases!

Finally, while those recommendations are based on my three-day experience, a fifth and more important recommendation is not exactly based on that experience but could instead be the topic of countless future blogs, debate, and social action: something must be done to break the negative cycle where kids are raised in a culture of neglect and without adequate opportunity for education, employment, and positive contribution to society.

“We can never insure one hundred percent of the population against one hundred percent of the hazards and vicissitudes of life, but we have tried to frame a law which will give some measure of protection to the average citizen and to his family …”

The original Act specified that benefits were to be paid only to primary workers when they retired at age 65.  The Act established that benefits would be based on payroll tax contributions made during the working years.  Of course, the program has been modified many times over the years (e.g., allowing benefits to be taken at 62, expanding coverage to spouses, disabled workers, and others, dramatic increases in tax rates, changes in benefits, etc). 

Initially, benefits were paid as a lump-sum.  While Ida May Fuller is best known as the first recipient of Social Security benefits, SSA’s historian indicates that the first benefits were paid as a lump-sum, and that:

“The earliest reported applicant for a lump-sum benefit was a retired Cleveland motorman named Ernest Ackerman, who retired one day after the Social Security program began. During his one day of participation in the program, a nickel was withheld from Mr. Ackerman’s pay for Social Security, and, upon retiring, he received a lump-sum payment of 17 cents.”

It was not uncommon for early recipients to receive much more than they put in.  Indeed, it has been estimated that the net transfers to early generations of recipients is well in excess of $10 trillion.  In other words, for most of the last 75 years, the majority of Social Security recipients received far more in payments than they paid into the system (and, yes, this is true even if one accounts for inflation and implied interest on those contributions.)

How is this possible?  Actually, it is quite simple.  Social Security is not a funded pension system.  It is a “pay-as-you-go” transfer system in which the funds paid out to current beneficiaries are provided by current taxpayers.  Such a system can work quite well so long as we have wage growth and so long as the ratio of workers-to-retirees is stable or growing. 

But therein lies the crux of Social Security’s financing problems.  Unlike what many citizens believe, the true problem facing Social Security has very little to do with Congress’ penchant for “spending the Social Security surpluses” of the past 25 years.  It has far more to do with the basic financing structure of the program.

In the 1950s, there were 16 workers paying taxes to support each Social Security beneficiary.  By the time JFK was elected President, it was about 5 workers per beneficiary.  Today we have a bit more than 3 workers for each beneficiary.  In my lifetime, that will fall to 2 workers per beneficiary.

So do the math.  If you want to replace 40% of the average workers income upon retirement, and you have 16 workers supporting each retiree, you only need to collect taxes from each worker equal to 2.5% of their income (2.5 x 16 = 40).  With only 5 workers per retiree, you need to tax them at a rate of 8%.  When there are only 3.3 workers (today’s ratio), you need a tax rate of 12.1%.  (Today’s combined tax rate is about 12.4%).  As the ratio falls to 2-to-1, tax rates need to climb to 20% to keep the system in balance.

(I am simplifying a bit here, but it is remarkable how closely this very simple calculation mirrors the Social Security Trustees’ long-term financial outlook!)

So, as we celebrate the birthday of the Social Security system, we have to ask ourselves some difficult questions.  Can we afford the system we have?  If not, whose benefits do we cut? High income retirees ?  Low income retirees?  Today’s retirees?  Today’s workers?  Alternatively, whose taxes do we raise?  Everyone?  Only high income households?

Just as most members of the human race who are fortunate enough to live to age 75 begin to notice varying degrees of health declines due to aging, so too must we deal with the unhealthy economic consequences of an aging Social Security system.