Direct quotations from the classic Textbook of American Political Economics:

"John Kenneth Galbraith: His Life, His Politics, His Economics", by Richard Parker,
Farrar, Straus and Giroux, New York, 2005, ISBN-13: 978-0-374-28168-7, 820 pp,  $35.00
http://www.fsgbooks.com

http://www.fsgbooks.com/fsg/galbraith.htm

pages 596-599:

"More than a political price was paid for these compromises, though, as Galbraith frequently commented. For one, the compromises preserved substanial advantages for wealthy individuals and corporations, and the immense benefits they'd received in the 1981 "supply-side" bill were never fully rolled back. By the end of the Reagan years, the top marginal income tax rate paid by the wealthiest American families was roughly a third of what it had been under Eisenhower [13].

Further down the income scale, no one did nearly as well. The decade's largest revenue-raising bill by far was the 1983 Social Security Reform Act, but since it increased the tax only on wages, its burden fell hardest on the country's middle and working classes ( Not well understood by most Americans is the fact that Social Security is also a "capped" tax, meaning that no additional tax is paid once preset wage limits are reached, with the percentage growing smaller as top wages grow larger. This means that the top 10 percent of wage-earners pay less than the bottom 90 percent of earners as a percentage of their wages. The Social Security tax increase was engineered by a presidential commission chaired by Alan Greenspan ). The 1983 bill accomplished something else: it ended Social Security as a "pay-as-you-go" plan. Congress for the first time deliberately raised Social Security rates high enough not just to cover payouts to current retirees but to generate an annual surplus , which in turn was used to cover the huge operating deficit Reagan had created in the rest of the government budget. Soon, those Social Security surpluses were financing an increasing share of Washington's annual deficits, as hundreds of billions of dollars flowed from Social Security's bank accounts to the U.S. Treasury to buy bonds that covered the shortfall.

Forcing Social Security to cover deficits in the rest of the federal budget had two large, very dangerous consequences. First, by concealing the actual scale of the deficits, it confused most Americans about their effect on the burgeoning federal debt. Traditionally, the most important measure of federal debt had always been the "debt held by the public", which doesn't count the small portion of the federal debt held by the government itself. The distinction had been academic, since until Reagan the public traditionally held the lion's share (80 percent or more, on average) of total federal debt. But after the Greenspabn Commission reforms, the total federal debt skyrocketed from a publicly held debt of barely $700 billion (and government-held debt of $200 billion) to reach a combined public-private $6 trillion by 2003, with Social Security holding over half that enormous total.

Whether it is a problem to have a government agency own such a huge government debt is an issue that passionately divides economists along partisan lines as well as technical lines. But in the ideologically poisoned atmosphere after the Greenspan reforms, one surpassing irony is that although those surpluses "rescued" Social Security from insolvency, with Greenspan promising a "financially healthy" program for the next seventy-five years, conservatives ever since have questioned Social Security's long-term solvency and called for its abolition (an idea first proposed by Barry Goldwater in 1964, at the urging of Milton Friedman). That is, they have fostered and then exploited the public's confusion and fear over the Social Security surpluses, their uses, and the eventual deficits the system may face. The same conservatives -- with generous financial support from Wall Street firms that would benefit enormously from the change -- offer up "privatization" of Social Security as the way to escape the system's alleged "low returns" and the "high risk" of its ultimate "bankruptcy", despite a well-documented myriad of risk and return problems tied to putting pension plans into stock markets.

The second corrosive effect of forcing Social Security to cover the deficits was that it increased distrust of the accuracy of federal budgets and the transparency of the process that created them. As the highly regarded MIT economist James Poterba observed, "Phantom attempts to acheive deficit targets by camouflaging spending as loan guarantees, by instituting tax policies that yield short-term revenue gains but long-term losses, and by invoking accounting tricks to balance one budget at the expense of the next only make budget balance more difficult" [14].

The effect of the Reagan deficits "spilled over" in many crucial ways, transforming both the U.S. and global economies. The heart of the change was in what some economists called the "financialization" of modern economies, a typically unfelicitous term that nonetheless underscores the importance of trading in financial assets, compared to the fundamental production of goods and services. Signes of the shift were visible at the start of the Reagan era, but then accelerated so dramatically that the concept of "financialization" itself became a new "conventional wisdom". Consider, for example, the size of the stock market in relation to the overall economy.The total dollar value of U.S. stocks in the quarter century after World War II was usually about half the size of the GDP; over the 1980s, that value trebeled to 150 percent (at the height of the 1999 stock market peak it reached nearly $20 trillion, or 200 percent of GDP). The total debt of America's households and corporations meanwhile grew likewise: having risen in line with GDP growth in the pre-Reagan years, it took off on its own path, rising from 160 percent of GDP in 1981 to 225 percent by 1989 ( and nearly 300 percent today).

Internationally, the "financialization" process was even more dramatic: soon after Nixon's dismantling of Bretton Woods, currency trading rose to what then seemed the enormous sum of $18 billion traded per day in 1978. By the time Reagan left office, $600 billion was traded daily, (By the end of the century the figure was $1.5 trillion). Global derivatives contracts, an esoteric "hedging" device initially sold by banks to multinational corporations anxious to manage their post-Bretton Woods currency-exchange risk, evolved into a full-fledged speculative market, soaring from near zero in the Ford-Carter years to $20 trillion by 1990 and to $120 trillion by 1999. (The $120 trillion is roughly three times the sum of all nations' GDPs combined). In such an environment, not surprisingly, the profits of U.S. financial corporations likewise rose much faster than those of nonfinancial corporations. In the old Bretton Woods days, total industry profits for financial corporations averaged about 15 percent of those for all nonfinacial corporations; that figure has grown steadily to nearly 50 percent in the post-Reagan years [15].

The very non-Galbraithean assumption is that such changes represent the "natural" and efficient workings of "markets" released from government restraints. This badly misrepresents what actually occurred when Reagan and Bush were in office. To Galbraith, consciously designed public policies -- and their indirect consequences, often poorly understood or willfully ignored by their designers -- were as important as "markets" in making this new world [16]. For example, it was policy that helped to sustain high real (that is, inflation-adjusted) interest rates throughout the 1980s. After Paul Volker and the Federal Reserve used their short-lived monetarist experiment to choke off inflation, interest rates did not return to the historic long-term levels that economists assumed they would; instead, record-high real interest rates averaged over 5 percent, more than twice the long-term U.S. average [17].

Those high interest rates should have choked off growth by discouraging borrowing for new investment and consumption, caused a second recession, and forced the White House to choose between tax cuts for the wealthy, and economic growth. But they didn't -- and the question was why? The most important answer, Galbraith believed, lay in the new global financial markets. With major industrialized and oil-producing countries awash in cash, global markets had funneled into the United States hundreds of billions of dollars from wealthy foreigners and their governments, drawn to the high interest rates and vaunted security of U.S. capital markets [18].

One could say that these high rates acted as an economically "rational" magnet drawing funds to America (thereby saving Reagan from making the hard choices his otherwise "irrational" deficits required), but in fact politics were always the markets' partner. By the 1980s Japan was running a huge trade surplus with the United States, and American officials made it clear that an implicit price for allowing the surpluses to continue was that Japanese profits be reinvested in U.S. Treasury bonds; Japan thus became America's largest foreign creditor. Similarly Washington made sure that Saudi Arabia and Kuwait understood that the United States would act against the gigantic dollar surpluses they were building up unless they, too, made major committments to buy both American bonds and military hardware.

Despite the scope and scale of these manipulations and interventions, little understanding of what was happening overall -- or how its disparate parts were connected -- seeped into public consciousness in America. Much more discussed, because they fit the country's long-standing conventional wisdoms about technology, were all the new computer and telecommunications systems that linked New York trading screens to Paris, Sao Paolo, and Singapore, permitting a simultaneous explosion of foreign-exchange trading, arbitage, and hedging [19]. (The explosion in cross-border financial markets was also helped by new economic theories about risk and risk management. Work done by Modigliani, Black, and Merton is often cited; they led to the hiring of mathematicians and economists to write computer programs for risk management for banks and trading houses. The melt-down in 1998 of Long-Term Capital Management , where Merton was a senior partner, was a paradigmatic cautionary tale). This rush of foreign investors to U.S. bonds was manna to America's bankers, especially since their once-profitable opportunities to lend to the Third World were now mired down in rancorous debates over renegotiation and repayment".

WebEditor's Comments:

After this brief historical introduction, it is important to state realistically and briefly how honesty and prosperity can be restored to the Social Security Trust Fund and to the nation:

1. Return to the Trust Fund all moneys taken from it by the Treasury Department since 1984 for purposes other than Social Security.

2. Return to it realistic interest earnings (4-5%) that would have been earned on such balances since 1984.

3. Increase the present interest rates on IOUs to the Trust Fund from the present 2% to realistic levels, (currently 4-5%), adjusted annually for changes in such interest rates.

4. Cease all further withdrawals of money from theTrust Fund by the Treasury Department for purposes other than Social Security.

5. Consider the careful and judicious investment of some of the Trust Fund moneys into the American economy for the benefit of all of our citizens.

A Summary of the 2005 Annual Report by the Trustees of the Social Security Trust Fund has been published in a partisan form by the Treasury Department at:

http://www.ssa.gov/OACT/TRSUM/trsummary.html

The Full Report, hopefully non-partisan,  may become available for a full analysis.