Global Trend

A New Social Contract for a New Era

The implications of the political realignment we’ve been discussing will be much more pervasive than most people yet realize. Why? Because pressure has been building for a new social contract ever since the realignment of 1968.

As Bill Clinton said in 1995, and acknowledged by signing the 1996 welfare reform bill, “The era of big government is over.” However, because our system is constructed in a way that makes gradual change virtually impossible, very little has yet been done to reflect that sentiment. Our system requires the simultaneous cooperation of the executive, legislative and judicial branches of government; the last time such an alignment occurred was during the Johnson administration, 40 years ago.

Following the recent election, Bush is poised to rewrite the social contract set forth in The New Deal and expanded over more than 30 years to become the Great Society. That contract includes Social Security, Medicare, Medicaid, AFDC, Food Stamps, and Unemployment Insurance, as well as a dense regulatory web.

It was modeled on the “European welfare state” originally envisioned by Otto von Bismarck of Germany and embodied in the current systems found in Germany, France, Scandinavia, and most other EU countries. These programs were created at a time when the underlying economic and demographic realities were dramatically different; i.e., shorter life spans, higher birth rates, tight-knit families, comparatively primitive medical technology, and so on. Here and in other developed countries, cracks are appearing in the foundations.

Just as years of tectonic energy stored on a fault line is released in seconds as an earthquake, we can expect 30 or more years of underlying social change to be reflected in the next two or three years of legislation. Consequently, we forecast dramatic domestic policy changes in at least four areas:

Energy

Social Security

Health care

Tax relief and tax reform

Let’s start with energy. The United States is the world’s leading consumer of energy. As such, we face two big energy problems: a dwindling domestic supply of crude oil, and a lack of refinery capacity. We are making strides toward reducing domestic oil consumption per dollar of GDP. To reduce our demand for oil, we expect the administration to maintain current conservation standards, while encouraging a renaissance in the nuclear power industry.

However, the most critical efforts over the next decade will require us to develop domestic fossil fuels. Therefore, you can expect an energy bill to pass in 2005 that will open up drilling in Alaska’s Arctic National Wildlife Refuge. At the same time, expect to see the fast-track approval of the construction of domestic oil refineries that can handle low-priced grades of petroleum not currently processed by U.S. refineries.

Both of these moves will make us less vulnerable to supply disruptions from the Middle East or Venezuela. Beyond the next four years, the Trends editors expect renewed drilling in the Gulf of Mexico and off the California coast, as well as commercialization of breakthroughs in ethanol production, coal gasification, and geothermal power.

Recent discoveries in Canada, coupled with icebreaker tankers coming from Russia via the Arctic Ocean, will enable us to become more and more insulated from Middle East oil shocks. These efforts will be justified not only on the basis of economic interests, but also on the basis of national security. Securing the energy needed to drive our economy will greatly diminish our geopolitical vulnerability. This set of priorities addresses a big portion of the government’s responsibility to ensure domestic tranquility and provide for the common defense.

The second area where we expect to see dramatic policy changes is Social Security. This is going to be a much tougher challenge than energy policy. Why? Because Social Security impacts so many Americans and consumes so many resources.

More importantly, changing the program represents a break with the past, and a redefinition of the social contract that’s been in place for over 60 years. Most importantly, from a political standpoint, it promises to fundamentally transform the way in which the great mass of Americans perceive themselves. If successful, this will be nothing less than the transformation of Lyndon Johnson’s “great society” into George W. Bush’s “ownership society.”

What’s an ownership society all about?

According to this theory, every American should own a piece of the economy. A core idea of Marxism is the fundamental conflict between capital and labor. In that, there are “the capitalists” and there’s “labor,” with constant conflict between the two.

According to Stephen Moore, the author of Bullish on Bush: How George W. Bush’s Ownership Society Will Make America Stronger, “What’s exciting about the ownership society is that now the laborers are the owners of capital, so capital and labor are the same people. If business does better, so do the workers. And that’s why it makes this such a great way to share the wealth and make sure that even low-income people, who today can’t afford to own stock, will own stock and will then do better as the American economy does.”

More specifically, within the next 10 years, nearly every American should own a home, own a retirement plan, own a health care plan, and perhaps own a business.

Already we have over two-thirds of Americans owning their homes. This is the highest home ownership rate in the world. When Ronald Reagan was elected President in 1980, only 20 percent of adult Americans owned shares of stock. Today, 60 percent of adults own shares of stock.

And significantly, well over half of those people voted for Bush in 2004. Therefore, aside from considerations related to the health of the economy, it’s in the interest of the politicians who now hold the White House, Senate, and House of Representatives to further expand this so-called “investor class,” and to prove to them that these policies and principles will benefit that group.

Therefore, a logical goal for the politicians who now have control is to get stock ownership up to 80 to 90 percent of Americans in a decade or so. And, not surprisingly, it’s in the interest of the opposition, whose credibility rests on the “great society” programs, to thwart these efforts. Therefore, we expect to see titanic battles over Social Security that will determine the kind of society we have for the next two generations.

The restructuring of Social Security is expected to involve three components:

Guaranteeing existing benefits to retirees and those who are soon to retire, while indexing those benefits to prices rather than wages.

Redirecting 20 percent or more of the 12 percent of wages that currently go into the Social Security program to individually owned retirement accounts that will almost certainly produce returns better that the negative 2 percent Boomers can expect from Social Security.

Increasing both the retirement age for full benefits eligibility and the upper limit on salary contributions in order to fund the $1 trillion to $2 trillion “transition cost” from one program to the other.

It’s quite possible that the final bill will employ other mechanisms to fund the transition ? like borrowing. Even with strong Presidential backing, any proposal to fund the shift with massive new borrowing will spark controversy on Capitol Hill. Expect a tough battle in which the President will finally prevail in 2006 or 2007.

Launching these individual accounts in 2006 or 2007 will enable the new investors to take advantage of the boom we discussed in Trend #1. Furthermore, the influx of additional cash into the capital markets from new and younger investors over the subsequent decade will help compensate for funds that older, more traditional investors are likely to withdraw during this period. The financial services industry will be a big beneficiary.

Health care is the third contentious area that Bush will try to fix. The health care problem exists in two parts: first, the alleged “40 million Americans who lack health insurance”; and, second, the rapidly accelerating cost of providing health care to older Americans under Medicare.

The first part of this problem is essentially a figment of accounting and public relations. Let’s start with the 40 million uninsured people and subtract four groups of people who should not be included:

People who are counted among those who lack employer coverage even though, in reality, they are between jobs for as little as one day during the year.

Affluent young people who choose to be self-insured.

Illegal immigrants.

People who are eligible for existing programs like Medicaid, but are simply unwilling to sign up. This group includes many homeless people.

Once those adjustments are made, most estimates show that fewer that 1 million people are unable to get affordable insurance if they want it.

This small group usually falls through the cracks because of pre-existing conditions that make private insurance too expensive. But even these people don’t go without health care. Like the illegal immigrants, they are largely cared for at public expense in emergency rooms and public hospitals, such as Chicago’s John H. Stroger Jr. Hospital of Cook County.

Therefore, despite all the rhetoric devoted to these people during political campaigns, we don’t expect the administration or the opposition to do much, if anything, to address their needs within the next four years.

On the other hand, a top priority will be addressing the potential Medicare insolvency brought about by providing health care to the aging Baby Boom generation, as well as bringing the escalating cost of private health care under control. If fundamental reforms are not implemented, most experts expect the long-term impact to be catastrophic.

The answer appears to be to combine “free market forces” with the best of the rapidly advancing health care technologies. One of the most cost-effective areas of technology is already pharmaceuticals. So, adding a prescription drug benefit to Medicare represented a big step in the right direction.

Other revolutionary treatments now emerging from the labs, including adult stem cells and bio-artificial organs, are likely to produce highly cost-effective treatments for cancer, heart disease, and diabetes.

Introducing free market competition is the only way to ensure that these technologies are rapidly introduced. Overhauling Medicare and private insurance to emphasize options such as Medical Savings Accounts will represent another big part of the “ownership society.”

Just as “no one washes a rental car,” no one worries about getting the best value from free medical care. But giving people ownership of all but their catastrophic health coverage will create incentives to make wise decisions. Competition will then create better health care for less money. This will create big risks and big opportunities for physicians, hospitals, medical device companies, insurers, and pharmaceutical companies. We’ll be exploring these opportunities and risks in future issues.

The fourth area of dramatic change relates to tax relief and tax reform. The dividend and capital-gains tax cuts pushed through in Bush’s first term are set to expire in 2008, while cuts in individual income tax rates end in 2010. His first domestic priority in a second term will be to fight to make them permanent. With Republicans firmly in charge of the House and adding to their margin in the Senate, the President should get his way.

Finally, Bush wants to overhaul the tax code to make it simpler and more favorable to savings and investment. He’ll need to decide whether to push for fundamental change, such as a consumption tax, or simply to focus on making filing easier and eliminating the alternative minimum tax, or AMT.

The White House will try to keep changes revenue-neutral, though eliminating the AMT could cost $600 billion or more over 10 years. The Trends editors don’t expect any revolutionary reforms in the next four years, because businesses that would lose tax advantages are expected to unite in order to kill changes.

References List:
1. Bullish on Bush: How George W. Bushs Ownership Society Will Make America Stronger by Stephen Moore is published by Derrydale Press. ⓒ Copyright 2004 by Stephen Moore. All rights reserved.