Interesting… Flawed, But Interesting…

I happened to run across an editorial from last month by Ted Halstead, boss of the New America Foundation, in which he proposes a "new Homestead Act" to promote greater access to financial assets. His thesis:

The most promising way to revitalize America’s middle class is to update old traditions. In the nineteenth century, the U.S. sought to broaden the ownership of land; in the twentieth, the ownership of homes. In this new century, the target should be the ownership of financial assets. The logic for such a course follows from the economic dynamics that are widening the gap between today’s haves and have-nots.

This presupposes that financial assets are as fundamental a part of individual prosperity as are land holdings and home ownership. This assumption is off-base for a number of reasons, not least of which is that the small stockholder doesn't actually control anything to speak of, as a landowner controls his land or a homeowner controls his home; nor does stock directly contribute to physical security in the same way that a home does. But regardless. Setting aside the flawed comparison to the Homestead Act and the G.I. Bill, let us proceed to the meat of the proposal:

Imagine if every newborn in America were to receive $6,000 at birth as a down payment on a productive life. With the magic of compound interest [ed: uh oh…], that sum could grow to $20,000 or more by the time the child reaches 18. This young adult could then apply his or her nest egg toward various investments, such as college tuition, a down payment on a first home, seed money for a legitimate business, or retirement savings. Given the number of children born in America each year, the annual cost of such a program would be about $24 billion—roughly what the government squanders on farm subsidies. The benefits, however, would be immeasurable.

Endowing the next generation with resources to invest in its own human capital and financial future would create not only a much broader middle class but also a more self-sufficient, skilled, and entrepreneurial workforce. Gradually, the U.S. would witness the birth of a mass investor class, with ever more citizens deriving their income from returns on financial holdings as well as from wages. There would be less need for a generous welfare state, and the interests of workers and business would be better aligned.

A Homestead Act for the twenty-first century could also offer inner-city kids a new social contract:if they play by the rules and graduate from high school, then a pot of money will allow them to invest in their own futures. Paired with financial-literacy education in schools, such a policy could help turn a culture of poverty and dependency into one of hope and opportunity.

First, the obvious issues. Going from $6,000 to $20,000 in 18 years assumes a rate of return of about 7%. Assuming that Halstead is interested in real returns (i.e. adjusted for inflation), this would require a rather aggressive investment strategy, certainly more so than can be done with bonds. So either the "down payment" would have to be actively managed (with the corresponding risk of catastrophic losses), or else we should settle for smaller hypothetical gains — perhaps a $6000 stake could double (in real terms) in 18 years, reflecting a real rate of return of 4%, which is still being generous.

Second, this is a universal welfare program. The starting stake must come from tax revenue, and it further reinforces the notion that it is the government's job to take care of everyone by confiscating wealth from those who are most successful (cue Ayn Rand rant here).

That said, it has a few interesting features which can be examined. Assuming that such a program were instituted exactly as described (ha ha), everyone would grow up knowing that there is a lump sum of money waiting, which is not large enough to finance consumption for any length of time, yet is easily large enough for a down payment on a house, or the starting capital of a small business or an investment portfolio. Combined with a prudent upbringing (ha ha), the child would have a great incentive to learn the fundamentals of budgeting and money management, or even entrepreneurialism. That this would be of tremendous benefit should go without saying, especially compared to the status quo of widespread financial illiteracy.

Additionally, as noted above, this would constitute a financial incentive for students to graduate from high school (or the equivalent — homeschoolers should benefit as well). At present, many students see no benefit to sticking it out when they could go directly into the workforce, legal or illegal. Given the abysmal content of many high schools, I sympathize; but in any event, this would cause students to reassess their interests.

Moreover, if social welfare programs were indeed scaled back (har har), they would be replaced by a market system that allows the new adults to do whatever they wish with their stake, and reap the benefits or consequenses of their choices. Government spending could thus be employed more efficiently (hee hee), reducing the total cost to taxpayers (giggle).

Of course, in the real world such a program would most likely cause a boost in sales of luxury SUVs to recent high-school grads. Government spending would continue to skyrocket, nary a program would be cut back, and young people would develop an even worse mentality of entitlement. And there would be a proliferation of credit cards targeted to middle-schoolers, secured with the assets in this "Homestead" account.

So, not really useful. But an interesting idea nonetheless. It would be fun to compare this with Heinlein's idea of "legacies" that he put forth in For Us, the Living.