How Social Insurance Became Confused with Socialism
July 25, 2016
Jul 25, 2016
21 Min read time
How did we come to view social insurance as socialist?
Portrait of Thomas Paine, by Laurent Dabos, c. 1791 / Artwork: National Portrait Gallery, London
Uniquely among the world’s rich countries, the United States lacks a comprehensive, universal social insurance system. This is largely due to ideological opposition by Republican Party elites. It took nearly seventy years for Democrats to achieve the expanded, still-less-than-universal coverage provided by the Affordable Care Act—against unanimous Republican opposition. Republicans have continued to sabotage the ACA, successfully blocking the extension of Medicaid coverage in nineteen states. The GOP’s primary plan for Medicare is to shift costs to the elderly. It has resisted full funding of Social Security Disability Insurance and insists that the only acceptable plan for ensuring the financial stability of Social Security is to cut benefits. Meanwhile, thirty-three states, nearly all GOP-led, have cut workers’ compensation programs since 2003, often drastically.
What accounts for this extreme hostility to social insurance? Social Security and Medicare are popular programs, even among the GOP’s base. Republican leaders, however, tend to think of social insurance as a socialist or communist scheme designed to undermine private property and free markets. Their arguments can be traced to Austrian economist Friedrich Hayek, whose 1944 book The Road to Serfdom warned that the emerging social democratic regimes of Europe were stepping onto a slippery slope to totalitarianism. Adapted into an illustrated booklet distributed widely by General Motors in the mid-1940s, The Road to Serfdom has fueled American opposition for decades now. Ronald Reagan, probably inspired by Hayek, made a recording opposing Medicare for the American Medical Association in 1961, predicting that it would lead to the state dictating to people what jobs they must perform and where they must live and work.
The ironies here are rich. Conservative criticisms of social insurance reflect profound misapprehensions of its relation to private property. Social insurance, in both theory and practice, arose in defense of private property and against communist and socialist threats. Exploring these origins is essential now because they contain important lessons that will help us strengthen social insurance to meet the challenges of post-industrial capitalism.
Thomas Paine, the great American revolutionary, proposed the world’s first realistic plan to abolish poverty. What he devised were universal social insurance and stakeholder grants, outlined in the 1797 pamphlet Agrarian Justice. (The relation of this work to later programs is not lost on the Social Security Administration, which reproduces the text on its website.) Paine addressed his proposal to the leaders of England and France as a “third way” between the English Poor Laws and revolutionary communism. The ingenuity of his plan is best seen in comparison to these two alternative ways of configuring property rights and distributive claims.
France had just contended with history’s first revolutionary communist plot, devised by François-Noël “Gracchus” Babeuf. With his Conspiracy of Equals, Babeuf planned to overthrow the Directory, the committee that ruled France between 1795 and 1799, when it was deposed by Napoleon. Babeuf sought to replace the government with a new system in which private property, markets, and money were abolished; production collectivized in state-managed communes; and output distributed among citizens in strictly equal shares. The state would determine what jobs each person would do, and—anticipating the Chinese Cultural Revolution and Pol Pot—send city-dwellers to rural communes where they would learn communist virtue and labor under the watchful eye of the state.
In theory and practice, social insurance arose in defense of private property.
Recognizing the dangers of individualistic striving, greed, and competition for esteem, which would inspire the more productive to claim unequal shares, Babeuf argued that his plan required comprehensive state control of thought, education, culture, media, and consumption in order to suppress status competition and inculcate egalitarian ideology. Babeuf advocated these radical measures because he thought the institution of private property was the fundamental cause of poverty. He believed that, before property was privatized, everyone held the earth in common, and no one was poor. He argued that any recognition of private property would lead to a regime of unjust inequality and mass immiseration.
Long before Babeuf and his followers tried to undo poverty through communism, England tried to address the problem through the Poor Law system, first codified under Tudor reign and revised many times since. Poor Law regimes were characterized by means testing, “less eligibility,” stigmatization, work requirements, and state regulation of the poor. Means testing subjected the poor to probing and humiliating inquiries into their means of support. Less eligibility meant that the support the poor could claim had to be less than the lowest-paid worker’s wages—a formula intended to deter potential claimants of relief and ensuring them only bare subsistence.
Poor relief stamped on its recipients the degrading badge of dependency. The able-bodied unemployed were often forced to labor in workhouses, under the stigma of the presumption that they were too lazy to work unless compelled to do so. In the workhouses, they were confined by the totalitarian governance of overseers, under conditions barely different from slavery, and denied civil rights. Poor Law ideology rationalized such harsh measures on the assumption that poverty was either inevitable—in the case of disability or death of able-bodied workers within the family—or caused by vices such as laziness, alcoholism, gambling, and sexual licentiousness. (Such thinking is easily recognized in U.S. welfare policies for the poor, especially since the “welfare to workfare” reform of 1996.)
Paine regarded both Babeuf’s scheme and England’s Poor Laws as outrageously unjust. State communism violently abrogated the fundamental rights of individuals to liberty and the fruits of their labor. The Poor Laws, too, undermined the liberties of the poor and inflicted suffering and humiliation on them. Neither regime was compatible with democracy. A third way to address poverty was needed—one compatible with individual liberty, universal dignity, equal democratic citizenship, and distributive justice.
Paine began with an analysis of the fundamental causes of poverty. Against Poor Law reasoning, Paine denied that poverty was either inevitable or due to vice. And against Babeuf, Paine denied that private property inherently caused poverty. The difficulty lay only in the distribution of claims on the income derived from ownership. Private property systems offer two basic ways to obtain income: wages from work and rents from property (including interest and profits). But not everyone can work. All human beings are unable to work for substantial periods of their lives, and some are unable to work at all. If work cannot provide for all, then the way to ensure that no one suffers poverty is to ensure that all are entitled to rents. And in principle, all should be, he writes:
The earth, in its natural uncultivated state was, and ever would have continued to be, the common property of the human race; that in that state, every person would have been born to property; and that the system of landed property . . . has absorbed the property of all those whom it dispossessed, without providing, as ought to have been done, an indemnification for that loss.
Therefore Paine proposed to end poverty by reconfiguring the system of property rights. Property, he argued, should incorporate a scheme of social insurance, including old-age pensions and disability insurance. Everyone would own this property, by right. He also proposed stakeholder grants for young adults. These would be funded by a 10 percent inheritance tax on land and personal property.
The key features of his plan were generosity, universality, and entitlement. Generosity meant that social insurance payments should be sufficient to prevent poverty, not merely to prevent starvation. Universality gave everyone a stake in the system and avoided the humiliations and violations of privacy entailed by means testing. Entitlement meant that everyone could claim payments as a property right, a claim of justice rather than charity, and thereby avoid the stigma of dependency. These features ensured every adult’s personal independence, with no one forced to forgo their liberty as a condition of subsistence.
Paine justified social insurance entitlements as a form of private property by starting from premises devised by John Locke, the early liberal philosopher who had powerfully influenced the American revolutionaries. According to Locke, individuals could claim title to common land by laboring upon it. Individuals are entitled to the fruits of their labor, and hence to the value added by their labor to the land. But Paine argued that they are not entitled to the underlying value of natural resources, which they did not produce but simply took for themselves. To compensate for this appropriation, landowners owe a rent to everyone else. This rent could be paid through an inheritance tax. But taxes on the value of undeveloped land were insufficient to support social insurance generous enough to prevent poverty, so Paine included personal property (mostly housing) in the inheritance tax base. Such a tax would not unjustly deprive anyone of the fruits of their labor, since the value of housing depends on the availability of nearby public goods, jobs, and commerce, which are due to society rather than the individual property owner. To motivate the rich to accept his plan, Paine pointed to the dangers of communist revolution, as demonstrated by Babeuf.
Less than a century later, social insurance became a reality under Otto von Bismarck, chancellor of Germany and minister president of Prussia. During the 1880s, Germany instituted the first health insurance, retirement pensions, and workers’ compensation plans. Bismarck was no socialist. He also promoted the notorious Anti-Socialist Law, which prohibited socialist meetings and mailings and authorized police to banish socialist leaders from their cities. For Bismarck as well as Paine, social insurance was erected as a defense against communist and socialist revolution, and as proof that a system of private property and markets could deliver a decent standard of living and security to all.
Bismarck’s system differed from Paine’s in its funding source and benefit structure. Revenues came from taxes on wages rather than property. Where Paine proposed flat benefits, delivered equally, Bismarck’s pension and disability benefits were graded according to each payer’s contributions. The modern scheme closest to Paine’s was advanced by the socialist economist William Beveridge, who, in 1942, urged the British government to establish a social insurance program funded by general revenues, with a flat benefit structure.
As rich countries adopted social insurance programs during the twentieth century, nearly all chose Bismarck- over Beveridge-style schemes, or soon switched from the latter to the former. Bismarck-style schemes enjoy several advantages. The rich prefer that programs be funded from wages rather than rents, so that workers shoulder the costs. (Despite appearances, in the United States the cost of the employer’s contribution to Social Security and Medicare falls mainly on workers.) Funding benefits with wages poses a formidable political obstacle to diversion of revenues away from workers to other priorities. Benefits graded to contributions are also popular because low, flat benefits are too minimal to appeal to the middle classes, who can self-insure at the low levels promised. Graded benefits add security against loss of middle-class standing, which is difficult to insure through individual investments in asset markets subject to booms and busts.
Thus while Paine led the way in promoting social insurance as a poverty-prevention program, contemporary social insurance schemes, following Bismarck, also promote the security of the middle class. This accounts for their worldwide popularity.
• • •
Given that, in both theory and practice, social insurance arose as a defense of private property and free markets against socialism and communism, it is ironic that Hayek saw existing social insurance programs as a mortal threat to property rights and a giant step toward totalitarianism.
The ironies don’t stop there. A closer reading of Hayek’s work shows that he supported a form of social insurance. In The Road to Serfdom, Hayek argued that “the case for the state’s helping to organize a comprehensive system of social insurance is very strong” and that the state should guarantee everyone a basic level of security. In The Constitution of Liberty (1960), he argued that a free society was consistent with the state’s involvement in organizing social insurance, along with compulsory contributions. Existing social insurance programs are dangerous because, instead of offering the same basic level of benefits to all, they (partially) protect individuals against the risk of losing their middle-class status. In the name of liberty, Hayek thus preferred the social insurance scheme of the socialist Beveridge over that of the anti-socialist Bismarck.
How could this difference separate a free society from one sliding into the totalitarian abyss? In the course of explaining this, Hayek articulated virtually all of the objections to social insurance still raised today.
1. Inter-generational injustice. State-managed social insurance plans, because they are funded on a pay-as-you-go basis, can and do pay out more to the elderly than could be supported from their prior contributions. Generous payments reflect the political demands of the elderly, who wish to keep up with rising incomes. This imposes an unjust burden on the young, whose payments today support current retirees. Hayek predicted that younger generations would tire of such coercion, strip the elderly of their franchise and civil liberties, and stuff them into concentration camps.
2. Paternalism. The high rates of taxation needed to support graded benefits deny people meaningful choices between current and future consumption, about how to invest their savings, and between health care options. Instead, the state imposes its paternalistic judgments about which choices individuals should make. Its real aim is to make most people dependent on it and no longer responsible for themselves—a view encapsulated more recently by Mitt Romney’s claim that 47 percent of Americans depend on government handouts and fail to take responsibility for their lives.
3. Moralism. A system of graded benefits requires the state to make moralizing judgments of who deserves what. A free society determines distributions on the impersonal, nonjudgmental bases of property and contracts.
4. Means testing. The only justification for redistributing income is to secure people’s basic needs, which can justify only low-level benefits. Moreover, insurance should pay out only upon the occurrence of the insured event—falling into poverty. This requires proof of need. Hence even social insurance should be means-tested, rather than paid out to everyone who retires or becomes disabled. This would also reduce the tax burdens of the system.
5. Fraud. To describe the income redistributed by graded benefits as “earned” is fraudulent, since the recipients have not fully paid for their benefits and are merely taking income really earned by others. While the state rightly relieves poverty, any attempt to protect the middle classes against downward mobility in old age or sickness amounts to an unjust redistribution of income from the young and lucky to the old and unlucky.
Each of these objections can be countered, some on their own terms and others by reference to Paine’s understanding of social insurance as a form of property to which all members of a community are entitled.
The intergenerational justice argument imagines a normative baseline in which the welfare of the elderly depends on wholly discretionary gifts from those still working. Yet the elderly have always depended on the young for support and have always expected more than a basic level of subsistence if their children could afford it. Children have always been morally obligated to support their parents. The only question is the means by which they provide this support. Social insurance, by collectivizing this obligation, insures the young against the fecklessness and bad financial luck of their parents.
Bismarck-style social insurance supplies three additional benefits to the young. First, by keeping up with rising standards and hence costs of living, it enables many parents to live in independent households, so they don’t have to move in with their children—the overwhelming preference of both generations in the modern day. Second, it helps liberate women, primarily, from the need to drop out of the wage labor market so they can provide direct care to their parents or in-laws at home. Third, it helps spare the young from the burden of having to deal personally with the financial demands their parents would otherwise make on them, along with accompanying resentment, humiliation, guilt, needling, and supplication. The emotional costs of elder provision are dramatically lower when such provision is mediated by an impersonal entitlement system.
The paternalism argument fails to recognize the importance and scarcity of fiduciary relationships in finance. Most people are financially naïve and have no desire to undertake the costly labor needed to master the details of investing. Ordinary savers have little reason to trust the private sector in a financial world characterized by extreme information asymmetries; pervasive conflicts of interest between financial agents and principals; weak or nonexistent fiduciary responsibilities of financial experts to their clients; innumerable zero-sum, risky, and fraudulent games peddled as sound investments; high fees; and unstable markets. Casting people’s fates to business cycles—and into the hands of casino capitalists who boast about dumping gussied-up toxic assets on widows and orphans—has been catastrophic, as evidenced by recent financial crises. The overwhelming popularity of social insurance—and resistance to privatization measures, such as President George W. Bush’s 2004 proposal—reflects justified distrust in a privatized retirement system that may fail to deliver the financial security that workers demand. The people have voted to hire the state rather than private actors as their financial fiduciaries for a large part of their retirement assets, and to pool their contributions in a common fund. This does not make them dependent wards of the state any more than pooling their contributions in mutual funds and hiring private financial advisors to manage them makes them wards of their advisors. Those who relish the prospect of personally managing their own money are wealthy enough that social insurance taxes leave them with plenty of discretionary income to invest as they see fit. Telling the rest that they must rely on their own judgment to do so is like telling people that, to avoid paternalism, they have to do their own dental work.
Hayek’s critique of social insurance is hostile to enabling personal independence and political autonomy for all but the rich.
Hayek’s objections to paternalism, moralism, and fraud misapprehend the nature of social insurance by confusing a form of property entitlement with state-based charity. Paine saw that, if adults are to retain their freedom and personal independence in contexts where they cannot work, or where work doesn’t pay decently, they need a source of rents—property income. Otherwise they will be at the mercy of meddling bureaucrats—the overseers of the poor—or subordinated to the whims of private charitable donors. Modern social insurance follows Paine: it is structured as an entitlement, functionally equivalent to a property claim on an income stream. Property claims distribute income on an impersonal, nondiscretionary basis, independent of anyone’s judgment of what a particular individual needs or deserves. Social insurance shares this virtue. Because it is not means-tested, claimants do not have to prove their neediness before suspicious authorities. Nor do their claims hang on bureaucrats’ judgments of their individual moral deserts. The size of their claims is based on impersonal rules graded to their record of prior contributions into the system.
Hayek’s call for means-testing social insurance invites the very moralism and arbitrary bureaucratic judgment he decries. United States welfare programs that impose asset limits on eligibility—including Supplemental Security Income, Temporary Assistance for Needy Families, the Supplemental Nutrition Assistance Program (food stamps), and Medicaid—force people to spend down their assets and even sell their cars as a condition of receiving benefits. They cannot save for their or their children’s futures and may lose eligibility if third parties give them gifts. Such intrusive, punitive, shaming regulations, based on suspicion of malingering and fraud, trap families in poverty.
Because he failed to understand social insurance as property, Hayek forced it into the mold of Poor Law charity. He insisted on drawing a sharp distinction between what people have “really earned” and paid for through the market and what he took to be the unjust enrichment of egalitarian “re”-distribution. But property is not, as a general matter, earned. As Paine observed, land and other natural resources are produced by no one’s labor. The state decides through property law who gets to claim natural resources. In the United States, original claims to land and mining rights have mostly been given away. Assets produced by labor in one generation are inherited, not earned, by the next. Even when assets such as housing are created by their owners’ labor, their market value is less a function of those labor inputs than of surrounding social activities and legal arrangements, including property laws. Income from property is also, as a general matter, unearned and a function of prior constructions of property law. No one works to earn their returns on passive investments.
It is true that the value of social insurance funded by wage taxes is not determined by markets, but this is not unusual. Intellectual property is much the same. The value of an invention or creative work is a function of intellectual property law, which decides such matters as copyright, patent terms, and fair uses. Similarly, state law determines the income stream to which individuals are entitled as a result of their wage contributions to social insurance. In neither case do markets set an independent benchmark for determining “earnings”; both are determined by legal entitlements.
Hayek’s critique of social insurance, while made in the name of liberty, is hostile to enabling personal independence and political autonomy for all but the rich. For the middle classes, Hayek offers insecurity; for the lower classes, dependency. In this, he partially anticipates those contemporary libertarians and conservatives, such as Charles Murray, who propose replacing virtually all social welfare and social insurance benefits with a low universal basic income. A predictable result of such an arrangement is a bimodal distribution of income, with more people pushed down close to the basic income level and the top few percent reaping most of the gains. Like Jeb Bush’s “Right to Rise” platform on taxes and entitlements, this amounts to ripping out the middle rungs of the economic ladder in order to add rungs between the millionaire and billionaire levels. Such a distribution of income and opportunity may be good for plutocrats, but it is inconsistent with democracy. A strong democracy, one that is responsive to citizens generally and not just the rich, requires a middle class inclusive of virtually all citizens. Bismarck-style social insurance helps support such a middle class. Low, flat benefits do not.
Paine saw that the distinction between the dependent and independent is a function of property entitlements alone, and not of whether one ever lifted a finger to earn, pay for, or deserve the property in one’s possession. The idle rich are counted as independent, even if their income wholly derives from passive investments, speculation in zero-sum financial games, and inherited property. Why? Only because their property endowment empowers them to pay for the things they want, rather than be forced to beg for someone else’s charity. From a causal point of view, however, they are entirely dependent on the labor of others, since they produce nothing themselves.
Such is the condition of all humans whenever they are unable to labor, whether owing to youth, old age, disability, illness, or the irrational waste of involuntary unemployment. Likewise if they are unable to labor in the market-compensated sector because they are occupied with nonmarket dependent caregiving. Hayek preferred a system in which all those unable to work for wages have nothing but a minimal safety net to rely on, accessible only upon a humiliating display of personal need and subject to the arbitrary discretionary authority of a moralizing, bureaucratic judge. For anything beyond this, they would have to live at the mercy of wage-earning family members or private charity. Like many others, he could not see past the suffocating moralism of Poor Law reasoning, and thereby confused freedom with subjection.
Paine saw a better way: ensure that everyone has entitlements—property claims—to a sufficient stream of income to live freely and decently. It is time to return to his insight in order to patch the holes in our current system of social insurance, which is too dependent on accumulating a record of steady, decently paid wage labor and on wage-tax contributions. Women who must limit their labor-force participation to care for dependents, unpaid interns, undocumented immigrant workers, workfare workers, informal grey economy workers, the growing precariat, and prison laborers are excluded from the full benefits of our current system because they do not pay wage taxes, pay too little to receive meaningful benefits, or, in the case of undocumented immigrants, do not receive credit for the payments they make. While we take steps to ensure that all workers are decently paid, we should also strengthen social insurance for those who are not, as well as for those whose labor-force participation is limited. We should also prepare for automation, which may dramatically reduce the demand for labor. These considerations support a case for supplementing wage taxes with wealth taxes, to expand social insurance benefits and make access to them truly universal.
Paine was also right to see that robust and universal social insurance is a constitutive feature of a sound economy based on private property and markets, not a threat to it. Capitalism began with wholesale attacks on numerous forms of property rights: primogeniture, entail, commons rights, chartered monopolies. It has also engaged in massive property innovation, including the creation of corporate stock, intellectual property, rights to the broadcast spectrum, and many types of derivatives. In constantly redefining property, capitalism has always engaged in redistribution. Recognizing this reality is an important step toward overcoming the ideological obstacles to redefining property rights in the interests of everyone—not only of the 1 percent.
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July 25, 2016
21 Min read time