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Roger Farmer urges national treasuries to establish new Social Care Funds that borrow money at low interest rates, and invest the proceeds in the stock market to finance government social programs

Roger Farmer urges national treasuries to establish new Social Care Funds that borrow money at low interest rates, and invest the proceeds in the stock market to finance government social programs

The current value of the US government’s unfunded pension and Medicare liabilities is $46.7 trillion, or roughly two and a half times US GDP. Other estimates put that figure much higher. In the United Kingdom, a similar calculation by the Adam Smith Institute yields a £1.85 trillion ($2.34 trillion) “hidden debt time bomb.” And the situation in Switzerland, France, Belgium, Germany, Austria, and Spain is little different. It seems that all advanced economies are facing public-finance trouble ahead.

Or maybe not.

What if there really is such a thing as a free lunch? What if there was a way to raise the money to pay for social-welfare programs, such as pensions and health care, without imposing extra taxes? In fact, there is: national treasuries should establish Social Care Funds that borrow money at low interest rates and invest the proceeds in the stock market.

According to one study of a century’s worth of data from 16 advanced economies, the return from investing in stocks was 6.96% higher, on average, than the return on government bonds. And there was remarkable consistency across countries. Denmark had the smallest equity premium, of 3.8%, while Japan’s was the largest at a whopping 9.89%.

There is some evidence that the equity premium has been a little lower in recent years, so let’s conservatively assume that it will be approximately 4% over the next 50 years. This implies that governments will be able to borrow from the public at a rate of 4% below the level of stock-market returns. How can that be, and why hasn’t some rich investor arbitraged this equity premium away?

Here, it helps to think of asset markets as existing to allow trades between different kinds of people, and specifically to allow the young to save for their old age. Taking that approach implies that market volatility has nothing to do with economic fundamentals. Rather, it reflects the animal spirits of investors, who engage in orgies of buying and selling stocks and shares, fueled by self-fulfilling waves of optimism and pessimism. According to this view of markets, volatility exists because almost all the people that you and I will trade with in the financial markets are not yet born.

In my book Prosperity for All, I call this the absence of a prenatal contract. Suppose, counterfactually, that such contracts did exist. In this make-believe world, the unborn would buy assets that pay off in bad states of nature, and they would pay a premium in good states. And perhaps surprisingly, the very existence of those trades would eliminate market volatility in the first place. In reality, however, asset markets are volatile because the unborn are not able to exploit arbitrage opportunities. Those opportunities are reflected in the equity premium.

But, although future generations are not yet around to trade in the asset markets, national treasuries can trade on their behalf. There is a massive free lunch staring us in the face. You and I can’t exploit it, and nor can Bill Gates or George Soros. Only the treasury of a sovereign country is rich enough to arbitrage away the equity premium, because only it can trade on behalf of the unborn.

To see how it would work in practice, consider the UK. Its GDP is approximately £2 trillion, and the value of all traded equities in the FTSE 100 index is roughly the same. The UK Treasury would first need to decide which assets it was willing to buy. I have previously suggested that it should purchase a broad value-weighted index fund consisting of every publicly traded share. The Treasury would then borrow money and invest in the index fund.

I would also propose that the UK Treasury start small – for example, by establishing a Social Care Fund of £100 billion. Assuming a 4% equity premium, investing this amount in shares would return £4 billion per year on average, or roughly what the UK currently raises in inheritance taxes each year. That’s not peanuts, but nor is it enough to fill the pension gap.

Still, if a trial of that size were successful, the scheme could be ramped up. If the Treasury were to borrow £1 trillion, equivalent to roughly 50% of UK GDP, and invest this sum in index funds, the expected revenue would be around £40 billion per year – not far short of what the UK currently raises through corporation tax. That is serious money, and has a present value of £1 trillion if capitalized at 4%.

What if the government lost its shirt? Wouldn’t a market crash of 10% or 20% devastate UK public finances?

No. In most advanced economies, governments take in the equivalent of at least 40% of GDP in tax revenues. The net present value of that revenue, capitalized at 4%, is ten times GDP. Governments therefore have very deep pockets with which to move markets if needed. Alternatively, a national treasury could choose to absorb its losses by riding out a major recession. After all, markets cannot remain irrational for longer than the treasury of a large advanced economy can remain solvent.

I am not a big fan of government intervention in markets. Anyone who suggests that there is a free lunch must first explain what governments can do that private individuals cannot. The explanation, in this case, is simple: governments can make trades on behalf of the unborn that leave all of us better off. Surely that’s a better way for national treasuries to pay for social welfare than trying to squeeze another £40 billion per year from an already overtaxed population.


Roger E.A. Farmer is Professor of Economics at the University of Warwick, Research Director at the National Institute of Economic and Social Research, and author of Prosperity for All: How to Prevent Financial Crises. This content is © Project Syndicate, 2019, and is here with permission.

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18 Comments

If ever there was a clear example of the failure of Economics. this is it.

No mention of overshoot, the planet, resource draw-down, species extinction, sink degradation - in short, no mention of anything real.

As a piece of wishful fiction, it may have a use - kind of 'look at this, someone high up in academia is still peddling dis-proven nonsense'.
But it has no other use. Future generations should indeed be represented - we should have an advocate for them (actually ten equal-voting advocates, one for each of the next ten generations and our own generation should only get one ... Read more

If ever there was a clear example of the failure of Economics. this is it.

No mention of overshoot, the planet, resource draw-down, species extinction, sink degradation - in short, no mention of anything real.

As a piece of wishful fiction, it may have a use - kind of 'look at this, someone high up in academia is still peddling dis-proven nonsense'.
But it has no other use. Future generations should indeed be represented - we should have an advocate for them (actually ten equal-voting advocates, one for each of the next ten generations and our own generation should only get one vote) legislated into the RMA.

But this? This is just belief in numbers. Coupled with, perhaps, a need to deny......

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... apparently , we've hit peak atoms ! ... scientists have estimated that there may be no more than 10 raised to the power of 82 atoms in the known universe ...

Atom emergency crisis , folks !!!!!

... from now on , I'm gripping tightly onto all of mine ...avoiding the future shortage , Gummy is becoming an atomiser ...

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Hell, if the government went in boots'n'all, they could make enough money to pay the population a dividend instead of imposing taxes!

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Why not cut out the middle bit. Just impose a tax the lot. Not really all that much different.

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We can all dream can't we? I'm not sure I trust the future that much.
The day we see oil replaced as the underwriter of the global economy is the day everything really changes.
And the only way that happens is when it absolutely must - by those who control the levers today.
And it doesn't look to me, as if they're in much of a hurry.

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When it comes to Health Care costs the US is probably the most uncaring society in the Western world. Having allowed it pharmaceutical companies to run up their prices out of control and their Doctors over prescribe highly addictive drugs such as opioids for financial gain.
Take life saving treatments for diabetes for instance; the average cost of Insulin in the US is $360 per month. Where the same amount would be the equivalent of $65 in the UK and only $19 in Italy.
BBC Article: The human cost of insulin in America
https://www.bbc.com/news/world-us-canada-47491964

They need Medicare, only a very irresponsible ... Read more

When it comes to Health Care costs the US is probably the most uncaring society in the Western world. Having allowed it pharmaceutical companies to run up their prices out of control and their Doctors over prescribe highly addictive drugs such as opioids for financial gain.
Take life saving treatments for diabetes for instance; the average cost of Insulin in the US is $360 per month. Where the same amount would be the equivalent of $65 in the UK and only $19 in Italy.
BBC Article: The human cost of insulin in America
https://www.bbc.com/news/world-us-canada-47491964

They need Medicare, only a very irresponsible Government would take away basic health care for it's people and only an mentally unstable President would use the funding for their healthcare to build a wall that they don't even need.
Bloomberg article: Trump Proposes to Cut Medicare and Spend Big on Wall, Defense
https://www.bloomberg.com/news/articles/2018-02-12/trump-to-urge-wall-o…

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... the largest untaxed part of our economy , is the biggest part of it , our natural resources ... the value of our land , our air , and water are in the multiple $ Trillions ... and yet , we tax none of it ...

Until we bring in rent resource taxes , such as an annual land tax , we'll be forced to impose upon our workers and businesses for the funds to fuel the gumnut's spending ...

... and until we begin nipping a bit of land and water tax off the largest owners / users , they'll ... Read more

... the largest untaxed part of our economy , is the biggest part of it , our natural resources ... the value of our land , our air , and water are in the multiple $ Trillions ... and yet , we tax none of it ...

Until we bring in rent resource taxes , such as an annual land tax , we'll be forced to impose upon our workers and businesses for the funds to fuel the gumnut's spending ...

... and until we begin nipping a bit of land and water tax off the largest owners / users , they'll continue to have a free run , and get fat , whilst the rest of us trudge the bitter cobblestones of Struggle Street ( Charles Dickens eatcha heart out .... haaaaa deeeee haaaaaaaaa )

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It's not that bad. There is no need to resort to outright theft.

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GBH - some of us have moved on in our thinking.

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FTT

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So, to use the stock market as an even bigger ponzy. It already is to some extent with Kiwisaver inputs.
What an incredibly stupid idea. Like some sort of perpetual motion machine.

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Would pay to go back and read " Irrational Exuberance " by Schiller and see that for two periods in excess of 25 years in the last century the US stock market was below its previous peak.

The strategy advocated is simply very high risk.

Only approach would be to dribble it in annually over very long time frames.

Sadly politicians time horizons don't stretch to the required 30 + years for this to work.

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When you timeframe is 50+ years then market fluctuations become irrelevant and cashflow can be smoothed.

The bigger problem is the risk that something will change in a such long timeframes that makes the practice uneconomical - for example: the end of the oil age, global warming, world war 3. With a very long timeframe, tail risks have significantly larger than zero probabilities.

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I like the idea, but hard to implement in practice, and would lead to too many relative distortions between countries, markets, indices, individual stocks. Would be very hard to control the asymmetry in positions that the market would ultimately take, i.e an over allocation of investor portfolios to equities (would lead to a higher interest rate environment).

It would essentially take future returns away from private sector investment by reducing forward looking returns, and could well lead to an under allocation of capital in core areas where risk taking takes place naturally, as well as an over allocation of capital in ... Read more

I like the idea, but hard to implement in practice, and would lead to too many relative distortions between countries, markets, indices, individual stocks. Would be very hard to control the asymmetry in positions that the market would ultimately take, i.e an over allocation of investor portfolios to equities (would lead to a higher interest rate environment).

It would essentially take future returns away from private sector investment by reducing forward looking returns, and could well lead to an under allocation of capital in core areas where risk taking takes place naturally, as well as an over allocation of capital in other areas, i.e crowding out investment, inefficient allocation of capital. You'd be better off doing a helicopter drop into everyone's Kiwisaver, with a lockup - to - maturity period if you wanted to reallocate public wealth toward investment.

Land bank schemes are ultimately better suited to crown balance sheets, they are dependent on land prices over time, which act under a quantity theory of money in the long run. They are easier to control in terms of the flow of credit to the private sector, they appear as off balance sheet liabilities (exposure can be estimated through modified, standard approaches to risk weights), as the responsibility of the mortgage at present is housed by private sector debitors, and forward guarantees are simply just that, unless they come due they do not need to ever be made good, thus can be financed at 0% interest, or negative real rates when accounting for the additional crown revenue/inflation they produce. Fannie & Freddie are successful examples, albeit with negative connotations ever since the GFC, prior to that they were an effective source of stimulus and have had positive social and economic effects in investment. The additional quantity of money that is generated is an effective tax grab in reality, and that is the cost society pays for the reallocation of resources toward real estate investment. They still generate moral hazard, however it is at the creditor level, rather than the debitor level, thus can be regulated & controlled more easily, as well as being exponentially easier to exit should the need ever arise, without market disruption.

Like it or not, real estate is the largest investment market in the world, almost too large to quantify. Every economy large or small, has real estate investment at its heart. Anything else is a secondary investment. It is grossly overlooked in importance.

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Absolutely nuts......the stock market is already massively over-priced and is due for a big crash.

Simple, we need to tax those who are not paying tax not give them a get out of jail card from the tax payer.....utterly , utterly bonkers.

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Hilarious: "borrow at low interest rates to invest on stock market"
Precisely what people did to invest on NYSE in 1928-29.
That ended well.
No taxes folks... you can have xmas and not pay for it.
No need to give a toss about more unfortunates (or even pensioners)
This sort of 1984-94 throwback Neo-liberal garbage should have been discredited 20 years ago.

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NYSE return 1929-54: NIL
Oh, and lastly, about $30trillion in world untaxed sitting in offshore tax havens.
Great for keeping consumer demand and disposable income down so we can sell the plebs more debt.
Amazing how political non-morality trumps economic ability to add up

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NZ is already doing a version of this - the Super Fund. The problem being that a new government can decide to remove payments so they can do something else with the money - as National did in 2008 in a bid to balance the books.

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