Bill Ackman, chairman of Pershing Square Capital Management, proposed an idea to “save” capitalism. Framed as a cure-all for growing disillusionment with capitalism, he recommends that every child have a sum of money invested on their behalf. He proposes that children born in the United States, going forward, receive a lump sum of $6,750. However, it would be distributed as no-fee, stock index funds. At retirement, the recipients could then withdraw from the fund for their income.
In theory, at an 8% annual return, every program recipient would be a millionaire by retirement. So is this idea viable? Can socialism save capitalism? And is it really the best way to “encourage greater financial literacy”?
Unfortunately, that’s unlikely.
Although the underlying goal of financial literacy is admirable, there are a multitude of ways to reach that end. So let’s examine this proposal to pinpoint the exact flaws (and pose some alternatives).
Who Stands to Benefit?
Consider Bill Ackman’s position as a hedge fund manager—he, and more specifically his industry, stand to benefit directly from this proposal. If the government were to artificially pump thousands of dollars into the market per newborn, the money managers of Wall Street would have a field day. While financial motivation does not always mean a proposal is harmful, it’s important to consider who stands to benefit.
And on the back end, the government would reap the tax benefits. If you don’t believe me, just look at the qualified retirement calculator.
People are quick to believe that more risk truly means more reward, yet risk is truly “the likelihood of loss.” Volatile markets have a tendency to make money managers wealthy while the average investor loses. Other government programs, like the 401(k), have the same result—Wall Street Wins.
Again: making money isn’t inherently bad, yet there is a principled way to build wealth. One of the most principled things we advisors can do is to act in the best interest of the client–regardless of the payout. That means recommending products and solutions that are proven to accumulate wealth. And who do you know, Warren Buffett aside, who made their fortune on the stock market?
This leads to the next point…
Inflation, Inflation, Inflation
Inflation is the stealthiest “tax.” Consider what it took to go to college in the last century—what could once be accomplished by a summer job now has a generation of graduates paying loans into their 30s and 40s, or even well beyond that.
The goal for Ackman’s proposal is for these accounts is to accumulate $1 million dollars so that everyone can retire a millionaire. Yet even at a mere 3% inflation rate, $1 million dollars would have the same impact as about $147,000.
Using the Present Value Calculator, we can see what that $1 million would feel like in today’s dollars:
Will that really be enough money for a full retirement income? If these account holders retire at 65, that $147k would have to stretch for 20, 30, or even 40 years. And life expectancies are only increasing…
If you’ve read any of the PEM books or followed the Prosperity Economics Movement for long, you’re likely hyper-aware of the fact that average returns are far from average. When you look at the history of the stock market, a first glance might look promising. The S&P (without dividends), for example, has averaged 9.14% over the last 66 years. Yet in practice, it’s not what it appears to be.
In Busting the Interest Rate Lies, Kim D.H. Butler, describes how Mr. Johnson who worked at UPS for 29 years, never made over $14,000 a year. However, when he died in 1991, his net worth was $70 million. How? He wasn’t gifted a one-time check nor did he win the lottery. He made his money simply by diligently saving and investing. As Kim highlights the importance of understanding how money works, she consistently demonstrates, using real data, how those average returns actually perform. And unfortunately, it’s not pretty. When there is a downturn in the market, the effects are detrimental to the growth of the account. In fact, it can take almost a decade, if not more, to fully recover from a bad year in the stock market. And that’s if the whole decade is in the green.
If we used the exact S&P market history for the last 66 years, shown below, the lump sum of $6,750 doesn’t grow to $1 million. It doesn’t really get close, at just over $727,000. And that’s an illustration using real numbers. There’s potential to do better, sure, yet there’s also potential for even lower yields.
This is one reason whole life insurance performs so well—accounts are protected from loss. Which means there aren’t periods of recovery. And in fact, the cash value of a life insurance policy can make other retirement accounts much more effective.
Additionally, that 8% Ackman talks about is the necessary minimum return to earn $1 million in 65 years. It’s not a personal promise from Ackman. He doesn’t have some crystal ball that the rest of us don’t—it’s the return necessary to ensure the desired outcome.
More Gains = More Taxes
Here’s where things get even dicier–we haven’t even talked about taxes. Ackman’s proposition is that these accounts grow “tax-free” until age 65. Compound interest may be “one of the great wonders of the world,” yet that also means that people will pay taxes on the back end. . An increased tax obligation only further decreases the “million-dollar value” of this proposal.
Taxes, of course, are nothing new. What Ackman is truly advocating for is a tax deferment. And surely it will be a disappointment for many to learn that their million dollars is even less than expected. Especially if they draw their retirement income thinking it’s still “tax-free,” only to be surprised the money doesn’t stretch as far.
One of the biggest myths of the financial “planning” industry is, “You’ll be in a lower tax bracket when you retire.” This leads millions to believe that there’s an entirely separate tax bracket for retired people. Unfortunately, the only way to be in a lower bracket is to have a lower income. In order for this future wave of retirees to lower their tax obligation, they must take a lower income, which may be necessary anyway, considering inflation.
One of Ackman’s main sources of inspiration is to solve income inequality. And he suggests that through forced participation in capitalism, that problem can be solved. Yet the inflation red herring clearly shows that the pieces don’t align.
For the government to sponsor the program is not a capitalist ideal, it’s a socialist one. It’s unlikely to rally people to capitalism because they’re not truly participating in the system. Instead, it’s a program that people would have no real involvement in until they turn 65. And even then the only involvement would be withdrawals. Isn’t Ackman’s one-size-fits-all approach similar to the social security trust fund model which may run out in 2034?
Will Ackman’s proposal truly fix income inequality if a) people don’t realize the benefits until they’re 65, and b) everyone is more or less left with the same amount? And really, how is any of this designed to help teach our upcoming generation financial responsibility or literacy?
While financial literacy may be the chief goal of Ackman’s proposal, there’s little involvement from those who participate. The money is donated to their account at birth, managed by someone else, and locked up until retirement age. (Did we mention management fees?)
Greater financial literacy is a worthy aspiration. It’s one of the cornerstones of the Prosperity Economics Movement—empowering all people to learn how to control their finances. Yet this proposal is a passive program that requires only that you live long enough to receive the money.
Without control, there is no financial literacy. Without direct oversight or intention from the recipient, there’s no guarantee they can or will be able to manage that money in retirement. They may not even choose to save outside of this account, under the assumption that they’ll have plenty through this program. In order for people to learn how to better manage their money, they have to create good habits. Habits are established through active participation. If we can empower people, from a young age, to establish good habits, we’ll go a lot farther to establish widespread financial literacy, i.e, teach a man to fish, instead of waiting until he’s 65 and throwing one at him.
…And No Access
Lastly, without access and control to these finances, people won’t be able to participate in the best part—enjoying their money. This goes hand in hand with control.
If we want to revitalize the strengths of capitalism, people need to participate in it, not be mistakenly led into some sort of utopianism. At best, this proposition wouldn’t have a significant effect on people’s live for another 65 years. At worst, people will have a false sense of security until they realize that their assets aren’t as powerful as they expected them to be.
As an advisor, helping to improve your clients’ financial literacy can help them learn about long-term solutions to stabilize their financial future. And yet, not contributing to and following the growth of their money might lead to financial illiteracy if they only see their 65th birthday as a lottery win or payday. Having access to capital now allows people to make cash-flowing decisions and mistakes, which will have a far greater impact on their lives. People will be more incentivized to participate in a system that truly benefits them and others.
So, Can Socialism “Save” Capitalism?
The idea is a flawed one, to begin with. Remember, if it seems too good to be true, dig a little deeper.
What our country is lacking right now is real, honest financial education. Not education that benefits the government and Wall Street. We need education that puts the power back in the hands of the individual. Instead of handing out money that will just flow back to those institutions, what if we began financial education early?
There’s no shortage of ways to help children learn more about money and how to manage, and enjoy, it wisely. Good savings habits are among the most important lessons of a financially literate person—have your clients open a savings account with their children, and help them save towards a specific target. Then impart life skills—like doing chores, or starting a lemonade stand—that help them achieve that desire. In fact, there are even some compelling reasons to insure your children.
Become the Expert
It’s small things like the above that help a person learn the skills to thrive. And these are actionable things that anyone of any age can do.
As a financial advisor, you have the important task of teaching your clients how to take control of their money. It’s not something that happens overnight, and it’s certainly not something that happens passively. It takes an active partnership.
As a non-profit, we aim to educate both advisors and the public about alternatives to the Big Banks and Wall Street. To stay up-to-date on your own training, we encourage you to join our PEA mentorship program. You’ll get access to our wealth of resources, including monthly live Zoom training and webinars.