Pethokoukis on 401(k) Demolition: Socialism

US News columnist James Pethokoukis has one word for the nationalization of tax-deferred retirement plans: socialism.  He can’t quite believe Democrats would be this foolish in an election year, but Pethokoukis forgets that this is the Age of Obama.  The Audacity to Hope for Socialism Change has arrived:

I hate to use the “S” word, but the American government would never do something as, well, socialist as seize private pension funds, right? This is exactly what cash-strapped Argentina just did in the name of protecting workers’ retirement accounts (Efharisto, Fausta’s Blog). Now, even Uncle Sam isn’t that stupid, but some Democrats might try something almost as loopy: kill 401(k) plans.

House Democrats recently invited Teresa Ghilarducci, a professor at the New School of Social Research, to testify before a subcommittee on her idea to eliminate the preferential tax treatment of the popular retirement plans. In place of 401(k) plans, she would have workers transfer their dough into government-created “guaranteed retirement accounts” for every worker. The government would deposit $600 (inflation indexed) every year into the GRAs. Each worker would also have to save 5 percent of pay into the accounts, to which the government would pay a measly 3 percent return. Rep. Jim McDermott, a Democrat from Washington and chairman of the House Ways and Means Committee’s Subcommittee on Income Security and Family Support, said that since “the savings rate isn’t going up for the investment of $80 billion [in 401(k) tax breaks], we have to start to think about whether or not we want to continue to invest that $80 billion for a policy that’s not generating what we now say it should.”

Pethokoukis also asks a question that I neglected in my earlier post:

What effect would this plan have on an already battered stock market? Well, I would imagine it would send it even lower, sticking a shiv into the portfolios of everyone who didn’t jump aboard. But I am sure the Chinese would love to jump in and buy all our cheap stocks to fund the retirement of their citizens.

I’d suggest that Pethokoukis vastly underestimates the effect this change will have on the stock market.  The advent of private tax-deferred retirement accounts created a huge investor class in the US.  By some estimations, more than 70% of American adults have money in the stock market in long-term investments for their eventual retirement.  That’s a revolutionary change in the relationship between labor and ownership, one that capitalism succeeded in creating where Marx and his followers only fantasized.

What happens when the tax deferral on this investment ends?  Most people won’t want to take the risks of the market without it, certainly not on the scale they do today (about $5 trillion in capital) and likely not after the Fannie Mae/Freddie Mac collapse.  They’ll start moving to savings accounts or gold and removing their money from the markets.  The flight of capital will eliminate the necessary engine for recovery, but that’s a minor point.  The price of stock will utterly collapse as everyone looks to liquidate their holdings, crashing Wall Street and throwing tens of millions out of work as publicly-held companies disintegrate.

Want to see the Dow at its status before tax-deferred private investment accounts got approved?  We’ll look at 8500 with wistful nostalgia.  Get ready for 1500.