The Greatest Swindle Ever Sold

Since the Madoff scandal broke last year, the press has been filled with names and pictures of his victims. The front page of The San Diego Union Tribune on March 13 showed a large photo of a woman joyfully cheering. The caption read: “Miriam Siegman of New York, who said she lost her retirement money with Bernard Madoff, celebrated yesterday upon leaving a Manhattan courthouse, where Madoff was ordered jailed.”

We celebrate with the victims when a swindler like Madoff is brought to justice. Yet there is a vastly larger fraud being perpetrated on all Americans, and it’s unlikely that any of the perpetrators will ever be jailed for their crime.

Bernard Madoff defrauded a few hundred clients of some $65 billion. Yet his scam pales next to the swindle being perpetrated at this moment on hundreds of millions of Americans who have been told they have accumulated more than $40 trillion in future retirement benefits.

This scam is the Social Security system.

Those who conceived the Social Security swindle promised that it would end the plight of the aged and disabled by guaranteeing them “security” – a steady income in disability and old age. It was promoted as a life raft that would carry everyone safely through to the end of his or her days.

Today, 74 years later, Americans continue to be told that regardless of what happens to the economy, the government will never renege on this promise. As the population has aged, Social Security beneficiaries have become the biggest political lobby in America. To get elected, any political candidate must participate in the swindle. Both as a candidate and now as President, Barack Obama has consistently maintained that the Social Security program’s financing is basically sound, and can be assured far into the future. He’s lying.

I became aware of the technique of the fraud in 1975 when Arthur Andersen & Company published a lengthy report titled “Sound Financial Reporting in the Public Sector.” It disclosed both the magnitude of the crime, and the simple accounting subterfuge used to disguise the fraud.

The report pointed out that the government keeps its books using the “cash basis” method of accounting rather than the “accrual basis.” The cash basis is what you use to balance your checkbook. If you deposit $50,000 in your account for the year and write $49,000 in checks to cover your expenses, your checkbook will show a $1,000 surplus for the year.

However, this does not tell the true story. If you took a vacation in December and ran up $5,000 on your credit card, but the payment didn’t come due until the following year, your true expenses for the year were $55,000. You actually ran a $4,000 deficit which didn’t show up in your checkbook. Every rational business owner knows that to track the true condition of the business he must add in the cost of purchases he made but must pay for in future years. Sound businesses always use the accrual method of accounting.

In its 1975 report, Arthur Andersen reviewed the U.S. federal budgets for fiscal years ending 1973 and 1974, and came up with shocking figures. Using the cash basis of accounting, the government had reported federal deficits of $14.3 billion for 1973 and $3.5 billion for 1974.

Recalculated according to the accrual method and including future Social Security payments and government pensions, the true 1973 deficit jumped from $14.3 billion to a staggering $86.6 billion. The 1974 budget was even worse, jumping from $3.5 billion to just over $95 billion. The government underreported its deficits by more than $160 billion in a two-year period.

Peter G. Petersen, former Chairman of the Federal Reserve Bank of New York, began sounding the alarm on this looming financial catastrophe more than a decade ago. In his 1996 book, Gray Dawn: How the Coming Age Wave Will Transform America and the World, he pointed out that if federal law required Congress to fund Social Security the way private pensions must be funded, the annual federal deficit in 1996 would have instantly risen by some $675 billion. Add in lavish and unfunded federal-employee pensions and the deficit would have risen by $800 billion. Add in Medicare and it would have risen by more than $1 trillion.

The cash and accrual deficits that Arthur Anderson discussed in his 1975 report seem trivial compared to last year’s federal deficit of $454 billion, and especially compared to this year’s projected deficit of $1.8 trillion. Decade after decade the total of the swindle has been inexorably rising, until today the estimated shortfall owed Americans is an incredible $40 trillion. Nor has it stopped. The total continues to rise at a rate of $2 to $3 trillion per year.

Bernie Madoff was able to get away with his fraud by using the same technique as Charles Ponzi did in the 1920s. He sold fictitious securities, promised a high return, and paid off old investors out of monies taken in from new investors. It collapsed when new victims could no longer be found to support withdrawals from old victims.

The Social Security swindle has worked exactly the same way. It receives “contributions” in the form of FICA taxes, pretends to place those funds in trust, and pays benefits to current retirees out of taxes collected from current workers. Just as in the case of Madoff, there is no trust, there is no income to the non-existent trust, and the payments are simply made from current collections. Madoff’s scheme lasted 20 years before collapsing. The Social Security swindle is now in its 74th year…the end is near.

It’s clear that Social Security cannot fulfill its promises to future retirees, but the casualties will not be limited to those victims, like Miriam Siegman, who find there is no life raft to carry them safely through retirement. In order to continue the fraud, politicians have no alternative except to issue more promises. Retirement checks will come, but they will be financed by more federal borrowing. Cash basis deficits will rise. Treasury IOUs will be converted by the Federal Reserve into dollars. As the monetary inflation morphs into price inflation, the victim list will swell to include everyone who doesn’t see it coming.

Last year, former Comptroller of the Currency, David Walker, teamed up with Addison Wiggin of Agora Financial to produce an eye-opening movie, I.O.U.S.A., which documented the stunning financial swindle being perpetrated on the nation. This compelling addition to Petersen’s disclosure of the government’s financial fraud is being widely shown, and has just become available on DVD.

Unfortunately, we will never enjoy the sight of the politicians responsible for the Social Security swindle being sent to jail, but we can protect ourselves from their fraud.

It’s time to don your lifejacket.

Best regards,

John Pugsley
for The Daily Reckoning

The Daily Reckoning