Filed Under (Retirement Policy, U.S. Fiscal Policy) by Jeffrey Brown on Apr 24, 2012
Yesterday, the Trustees of the Social Security and Medicare Trust Funds issued their annual report on the financial status of these entitlement programs. These annual reports have been published for decades, and are generally recognized as the most credible, unbiased, and objective assessment of the long-run financial situation facing these programs. I am going to focus on the Social Security program in this post.
Interest groups and policy analysts from across the political spectrum immediately issued press releases trying to spin the findings of the report. Here are the first two that crossed my virtual desk yesterday:
The National Academy of Social Insurance (of which I was a member for many years before finally resigning over frustration at their defense of the status quo) issued a release spinning the report in the most positive light possible: “The 2012 Trustees Report shows that Social Security is 100 percent solvent until 2033, but faces a moderate long-term shortfall. In 2011, Social Security had a surplus – revenue plus interest income in excess of outgo – of $69 billion. Reserves are projected to grow to $3.1 trillion by the end of 2020 … While the trustees’ projections indicate that major changes are not needed, modest changes should be made in a timely manner and can bring Social Security into long-term balance.”
In sharp contrast, the Committee for a Responsible Federal Budget issued a release stating: “Today, the Social Security and Medicare Trustees released their 2012 report on the financial status of Social Security and Medicare, showing that reforms will be needed soon to make these programs sustainable … Social Security as a whole is on an unsustainable path … Social Security’s financial status has deteriorated significantly since last year’s report … Currently, Social Security is adding significantly to unified budget deficits. Not counting the payroll tax holiday this year and last year, the program is projected to run a $53 billion deficit in 2012 and $937 billion from 2013 through 2022.”
Both NASI and CRFB are highly respected organizations, yet the pictures they paint could not be more different. So, who is right? Is it possible to reconcile these two views?
Like last week’s post, in which I tried to cut through the rhetoric over the cost of the Affordable Care Act, this post tries to cut through the rhetoric over Social Security’s finances by using a fictitious debate. And just like last week, the answer to “who is right?” is “It depends …”
Let’s focus on what appears to be a factual disagreement. NASI says “In 2011, Social Security had a surplus.” CRFB says “Social security is adding significantly to unified budget deficits.”
How can the program be running both a surplus and adding to the deficit?
The answer is that it depends on whether you think about interest on the Social Security trust funds as being income or not. One’s views about the Trust Funds also help shed light on whether we should view Social Security as being in financial distress now (the CRFB view), or whether we still have two decades before we have any real problems (the NASI view).
How does the Trust Fund work? (For this post, I am going to ignore the distinction between the retirement and disability trust funds – implicitly, I am assuming that Congress will simply re-allocate the payroll tax revenue across the two programs, as they have done in the past when needed).
Let’s go back a few years to the pre-financial crisis, say, 2007. Suppose you earned $50,000 that year. You and your employer each paid 6.2% of payroll into the system, for a total of 12.4%. This was approximately $6,200 that the U.S. Treasury collected, and this money was designated for the Social Security Trust Fund.
Social Security took most of that $6,200 (just to keep that math easy, let’s say they took $5,200 of it), and paid it out to current retirees and other beneficiaries (such as disabled workers, widows, etc). The remaining $1,000 was not needed in that year, so it was handed back to the U.S. Treasury. In return, the U.S. Treasury issued a $1,000 special-issue U.S. Treasury bond to the Social Security trust funds. Like other U.S. Treasuries, this one was backed by the full faith and credit of the U.S. government.
Now, back in 2007, like in most years in recent history, the U.S. government was running budget deficits. Thus, the Treasury department basically took your $1,000 and used it to finance the government spending that we were doing in excess of the income tax revenue we were bringing in. They did not actually invest the money in financial securities – rather, they spent it. Of course, they still owe the $1,000 to the Social Security trust fund.
This has been going on for about three decades. As a result, the Social Security trust fund now owns several trillion dollars’ worth of government bonds. And the U.S. Treasury pays the trust funds interest on these bonds.
Today, to a first approximation, the entire $6,200 that a $50,000 per year worker and her employer pay into the system is all going to pay benefits. So there are no more new deposits to the trust fund. But the balance of the account is quite large, and is spinning off interest.
So here is the key question. Should the interest that Treasury is paying to the Social Security trust funds be counted as income? Here is how a discussion might go between NASI and CRFB representatives. (Any misrepresentations of views are mine alone).
NASI: “Of course the interest should count as income. The interest grows the trust funds, and the trust funds represent a legal claim by the trust funds that will be backed by the full faith and credit of the U.S. government.”
CRFB: “Yes, but while these bonds – and their interest – represent an asset to Social Security, they are a liability to the U.S. Treasury. And because the Treasury spent that money rather than saving it, it is crazy to think that we should count this as income. The interest payments are just an accounting fiction, not a real flow of money into the government as a whole.”
NASI: “Ah, but the trust funds do represent real savings. If the Treasury had not issued this debt to Social Security, they would have had to increase public borrowing. So the Trust Fund balance represents money that the U.S. did not have to borrow – and that is a form of saving.”
CRFB: “But for decades, Congress used the Social Security surpluses to hide the deficits in the rest of the government. As a result, Congress spent more money over the past few decades than they would have if they had not been able to hide the true cost of their profligacy behind a unified budget framework.”
NASI: “There is no way to know for sure that the Social Security surpluses led to increased spending by Congress.”
NASI: “Academic studies aside, there is no question that we should count this interest. And if we do count it, it is clear that Social Security is running a surplus. It is also clear that the program can pay 100% of promised benefits at least until 2033.”
CRFB: “But that is a narrow perspective. We care about the government budget as a whole – not just the narrow question of the Trust Funds. From that perspective, what we know is that the amount of money we are collecting in payroll taxes today is no longer enough to cover the payments to beneficiaries. The days of cash flow surpluses are gone. And because interest on the trust fund is just one arm of government (Treasury) making a paper transfer to another arm of government (the Trust Funds), this does not represent real income to the government as a whole. As such, the program is in dire straits, and needs to be fixed now.”
That fictitious debate roughly captures the economic disagreement underlying these two very different assessments of the latest Trustees’ Report.
I happen to support the CRFB view that the problem is serious, that we need to address it sooner rather than later, and that there is no pain-free solution. But at the end of the day, it is impossible to fully refute the NASI view because we cannot go back in time and re-run an alternate history to know how spending would have responded in the absence of past Social Security surpluses.
Regardless of which view one holds, it is becoming increasingly difficult to deny the existence of a financing problem. Even if you take the NASI view that we do not have a problem until the trust funds run dry in 2033, it is worth noting that this date is quite a bit earlier than what has been previously estimated. Furthermore, 21 years is not a very long time when we are talking about a retirement program. After all, nearly half of today’s 65-year olds will still be alive in 2033 and relying on Social Security benefits. Today’s 46-year olds will reach their normal retirement age in 2033. And today’s college students will be nearly half-way to their own retirement age. We need to make changes now – so that we have time to phase-in the changes gradually and to allow individuals to adjust.
So, regardless of one’s views about the trust funds, it seems obvious to me that the real story behind the release of the Trustees’ Report is that the problem is real, it may be larger than we previously thought, and that it is not going to go away on its own.