Ponzi Schemes

Are social security, Medicare, and Medicaid Ponzi schemes?  (And how about Obamacare?)

It depends on how you define the term "Ponzi scheme."  Defenders of the entitlement programs say they are not Ponzi schemes because Ponzi schemes are  illegal whereas the entitlements are not; and because in Ponzi schemes the investors are deceived about the true nature of the investment, whereas with the entitlements it is all laid out right there in the statute books.

I'll concede both of those points, but those points are not really important.  The important aspect of the Ponzi scheme is its mathematics.  The key characteristic is that the liabilities of the scheme increase at a geometric rate that is faster than any possible ability to attract new money into the system.  In that sense, Medicare and Medicaid are clearly Ponzi schemes.  Social security has Ponzi scheme aspects, although not beyond cure by fixes that are at least theoretically possible.  For Obamacare it's too early to tell, but the odds that it will prove quickly to be a Ponzi scheme are exceedingly high.

Medicare spending in 1990 was $107 billion according to this article.  By 2011 it reached about $563 billion per a chart here.  That's a compound annual growth rate of over 8%.  The economy is growing at around 2%.  In a good year it grows at around 4%.  In a spectacular year it grows at around 7%, and we may never see one of those again.  Medicare grows at 8%, compounded, year after year after year. 

Here's a not-too-hard math exercise:  if Medicare is currently about 4% of the economy, and grows at 8% per year, and the economy grows at 3% per year, how many years until Medicare is larger than the entire economy?  The answer is shorter than you might think:  around 70 years.  At that point everyone works all the time, but we have no food, no housing, no clothes, no vacations, and not even any medical care except for old people.  Everyone works just to provide the medical care for the old people.

That scenario won't happen because Medicare as currently structured will fall apart, just like the  Madoff scheme fell apart, well before we get there.  But how soon:  10 years, 20,or 30?  Nobody knows.  But it will happen because there is no way around the math.  And by "Medicare falls apart" I mean the Federal government falls apart, unless they have somehow separated themselves from paying for Medicare in the meantime.

You ask, why can't we just slow it down, say to the rate of inflation or slower?  Good luck with that.  The reason is that the incentives are perverse and every one of the millions of people working in the healthcare system has the incentive to try to get as much money out of Medicare as possible.  With Medicare, every provider tries to raise his price every year by inflation or more, but that is only one of several factors at work.  A second factor is that people live longer, so there are more and more beneficiaries.  And then there are the new treatments.  If you come up with a new treatment, you don't charge just last year's price plus 3% because there was no last year's price.  You can set a new price at whatever you think you can get away with.  The government has no ability to push back because you will be able to show that somebody died when they refused to pay.  That's how we end up with new cancer treatments costing $100,000 for a course of treatment.

But you ask, with every good sold in the private economy, the producer has the same incentive to get as much money as possible out of the consumer.  So why don't sales of every consumer good turn into a Ponzi scheme?  The answer is that private individuals can't afford the price.  If Apple tries to price the new iPad at $100,000 the way a pharmaceutical company prices a new drug, it will sell about six of them and lose money.  That's why you see new electronic products coming out at high prices ($10,000 for a flat screen TV) that then drop quickly over time.  The rich buy in the first round and the increasingly less rich in subsequent rounds at lower prices.  In Medicare, every course of treatment is sold to the richest buyer of all, the one with the infinite credit card who can't say no when someone is dying.

I can confidently predict that until Medicare is reformed in a way that it must meet a budget and people cannot just get whatever treatment they want, then it is a Ponzi scheme (in the mathematical sense) and it will collapse.