What Social Security Can Teach Us About UBI
How should we finance universal basic income—and could every American become an investor in our nation's prosperity?
When describing universal basic income (UBI) to someone I sometimes say it’s like Social Security for everyone. The person I'm talking to will object, saying that they paid for their Social Security themselves through payroll taxes, to which I reply that no, in fact Social Security is an income transfer just like UBI.
Like many things economic, how Social Security works is often misunderstood. You might think that it works like an annuity: you put in a given contribution which is calculated to give you an income stream at some point in the future. Right? Wrong. Social Security is “pay as you go”. Your payroll taxes actually pay for Social Security checks to current retirees. That is an income transfer. Any money left is placed in the Old-Age and Survivors Insurance and Disability Insurance Trust Fund. What makes it seem like it’s your money is that under the law you are “entitled” to a benefit in part based on your lifetime contribution. But the size of those benefits and the rules regarding when you get them are subject to change, unlike an annuity. It really is a transfer from current workers to retirees, not insurance in the common meaning of the word.
That system works well when the economy is growing and there are lots of younger workers and few retirees. It doesn’t work well when the baby boomers retire. Then we must draw money from the Trust Fund. Turns out that there wasn’t nearly enough put away in the trust fund and, further, that it didn’t earn much of a return.
We consider the return on the Social Security trust fund only briefly here since it has limited relevance to UBI. The trust fund can only legally buy special-issue U.S. Treasury securities that pay low interest rates. Over the last ten years the effective yield on these bonds has been close to zero when adjusted for inflation. Meanwhile Canada’s trust fund, which is invested in the market and managed by professionals, earned over six and a half percent annually, inflation adjusted. Canada’s fund is solvent for at least the next 75 years while ours is projected to run out of money in 2032[1].
The second funding problem we have with Social Security is that we haven’t been putting enough away, although a decent return would have greatly helped. Social Security is funded by a tax on wages. But the tax is limited: above a certain cap, you no longer pay any additional Social Security taxes. Currently covered earnings above $184,500 are not taxed. There is no lower limit on wages subject to the payroll tax. In addition, interest income, dividends, capital gains, and pass-through business income are not subject to the Social Security tax. In short Social Security, the largest Federal expenditure, is financed by a regressive tax on wages paid mostly by the poor and middle class. A regressive tax takes a larger percentage bite from the incomes of poorer folks than richer ones.
What can we learn from Social Security when it comes to the design and funding of a universal basic income?
The first lesson is that we should pay for it using the general income tax. If we look around the world, many countries pay for their retirement system from general tax revenues, and UBI could be financed that way. Total income in the US grows along with the economy and exceeds the rate of inflation. If we finance UBI through an increased income tax as in the Shares in America model UBI proposal, revenue will grow automatically and so would benefits - keeping ahead of inflation.
Some countries, especially in Europe, use both general income tax revenue and what is called a value added tax, or VAT, to fund their retirement systems and some UBI proponents such as Andrew Yang have called for doing that here. A value added tax is a national sales tax, and if applied to everything would be regressive. To make it less regressive, common everyday needs such as groceries, healthcare, prescription medicine, public transportation, and children's clothing are exempted. In addition, luxury goods face a higher VAT.
The main argument for a value added tax is that it is harder for rich people to wriggle out of than the Swiss cheese of our current income tax. Personally, I prefer a complete reform of our tax system to drastically simplify it and remove the loopholes. Income is income from whatever source as Patriotic Millionaires points out. I can’t imagine that instituting a VAT in the US would require any less political muscle than enacting meaningful tax reform.
A third approach is to invest public funds in income-producing assets. Canada does this with its pension fund, and Norway invests its oil revenues in a sovereign wealth fund. Why couldn't we use a similar approach to help finance universal basic income? Bernie Sanders has called for an American AI Sovereign Wealth Fund which would hold the stock of AI companies. Sam Altman of ChatGPT suggests an American Equity Fund financed by an annual tax of 2.5% of large companies’ market value, paid in shares, plus a 2.5% tax on privately held land values, paid in cash.
I like the idea of an independently managed sovereign wealth fund as in Canada. We missed the boat on doing that here with the Social Security trust fund. To avoid constitutional issues, it would probably be necessary to create such a fund using income tax revenue, and have it run by an independent organization. I suggest possibly earmarking a portion of our universal basic income as a contribution to the sovereign wealth fund. Everyone would get the same universal basic income and the same percent of that UBI would flow into the public wealth fund. As we know, the stock market’s long-term return is around 10%. Rich people live on their investment income, and wealth accumulates at a much faster rate than wages grow. As I mention in my book, four men in the US have as much wealth as the bottom half of all Americans.
For generations, the wealthy have accumulated fortunes through their ownership of stocks and other productive assets, while most Americans have depended primarily on wages. Why shouldn't everyone share in the returns from America's growing wealth? A publicly owned investment fund could make that possible, providing income for future generations rather than leaving them entirely dependent on the wages and payroll taxes of tomorrow's workers.
To summarize: we should learn from Social Security and fund universal basic income using general income-tax revenues as suggested in the Shares In America model UBI proposal. We could dedicate part of our universal basic income to funding a US public wealth fund which in time would pay handsome dividends.