Friday, February 18, 2011

Why Social Security Is Not The Problem

Deficits and debt are now red-hot topics in the national political debate, with House Republicans in particular on a pillage and burn campaign to slash federal discretionary spending.

Meanwhile, critics of concentrating too heavily on discretionary spending rightly point out that so-called entitlement programs constitute the nation's real structural fiscal problem.

And so you hear commentators and politicians talk about the need to get Medicare, Medicaid, and Social Security spending under control. Social Security? Alas, yes. Even President Obama, who should know better, let slip that Social Security doesn't account for much of federal deficit spending.

Much? It doesn't account for any of federal deficit spending. According to its actuaries, Social Security is completely funded for nearly three decades—until 2037 or thereabouts. Even then, if no other adjustments are made in the meantime, the only impact of exhausting the Social Security trust fund would be reducing benefits by perhaps 25 percent—serious, but not the end of the world. (I don't mean to trivialize this; only to say that the exhaustion of the trust fund doesn't mean the evaporation of the program.)

So, even if you accept that we are in a fiscal crisis (and not everybody does), concentrating your efforts on "fixing" Social Security is beside the point. The real driver of our long term fiscal problem is the impact of ever rising health care costs on Medicare and Medicaid. That is what, in part, health care reform was supposed to address. Too bad Republicans were completely absent from that discussion. Their serious participation could have resulted in a stronger bill with much better cost control.

Mentioning Social Security in the current fiscal debate is either dishonest or ignorant——it's not always easy to tell which. Perhaps you could say it is willfully ignorant, which is also a kind of dishonesty. Too often uninformed ideology wins the day. Conservatives, who have always resented, in principle, the major provisions of the New Deal, would love to conclude that Social Security is an unsustainable failure, regardless of the facts.

So how should we think about Social Security's place in our fiscal affairs? In order to have this discussion, it's important to understand the distinction between the national debt and the country's annual budget deficit. The deficit is a budgetary statement relating to a particular year's cash flows. The debt is the total amount the nation owes to its creditors. You would think that as each fiscal year passes, the debt goes up by the amount of that year's deficit, but because of the accounting practices used by the federal government—or at least, how it communicates its financial position to the public—that is not the case.

Specifically, payroll taxes (which fund Social Security), go directly into the government's general fund. When Social Security is running a surplus—when payroll taxes exceed Social Security benefits paid to retirees——it has the effect of making the national debt grow faster than the size of the stated budget deficit would suggest, because the payroll tax surplus masks the effect of overall deficit spending in the current year. That has been the situation for more than two decades.

But when payroll taxes are less than benefits paid—as has just recently begun happening—it has the effect of making the national debt grow slower than the budget deficit would suggest. That's because benefits are paid out of the general fund, even though their funding comes from payroll tax receipts and, when necessary, the trust fund.

This can be confusing until you've thought about it for a while. The confusion arises from the fact that, when government officials make claims about the deficit, Social Security is often treated as part of a "unified" federal budget (allowing its current year surplus to offset other spending) even though it is not. Its receipts and expenditures are reflected in the government's general fund, even though the trust fund, as we shall see, is also a major creditor to the government.

(Update March 11, 2013 - Ok, it is confusing. But you'll understand it with no problems after reading this new post. Please have a look.)

But ultimately, with respect to the nation's long term fiscal health, what matters is how much we owe to our creditors——that is, the size of the national debt. That's because "servicing" the debt——paying interest to our creditors on the bonds they hold—is a claim against current cash flow. Part of the nation's current expenses consists of paying interest on the debt, and that reduces how much we can spend on other things. When the burden of debt service gets too high, interest payments become excessive and crowd out spending on lots of other important things, in the same way that carrying excessive balances on your credit cards can interfere with buying a new TV or even paying your rent.

In the decades when Social Security was running a surplus, payroll tax receipts in excess of what was needed to pay benefits were borrowed by the government: the Social Security trust fund actually consists of special government bonds. Indeed, government bonds held by the trust fund are a significant part of the official national debt, alongside bonds held by individuals, by China, and others. The trust fund is just one of the government's many creditors, and obligations to the trust fund are explicitly included in the official debt——there is no smoke and mirrors here.

It's easy to see why claims that the trust fund is broke, or consists of "worthless IOU's," are fallacious: The status of bonds held by the trust fund is no different than any other government bonds that make up the national debt. Bonds issued by the U.S. government have historically been regarded as among the safest and most secure investment instruments in the world.

If you believe the United States will continue to service the national debt, then you must also believe the trust fund is secure, and Social Security is secure, at least for two to three decades. (If you don't believe debt service will continue, then you are anticipating unfathomable economic disintegration.) Even when the trust fund is exhausted, Social Security can continue to function at a degraded level. That's all a very long way off, and there are plenty of tweaks that can be implemented in the meantime.

It is therefore unfortunate that Social Security is even mentioned in the current fiscal discussions, because it is just not comparable to other programs that fall under the rubric of "entitlements." Over the life of the program, the government has taken exemplary steps to keep Social Security on a sound fiscal footing (including the Greenspan Commission under the Reagan administration increasing long term funding to prepare for the future retirement of the baby boom generation).

Current attempts to attack or weaken Social Security in the name of getting our fiscal house in order are either badly misinformed or ideologically opportunistic——in addition to being grossly unfair to workers, who have in good faith forked over a sizable chunk of their hard won earnings over their working lifetimes. Because those wrongheaded attempts are couched in an affected seriousness, an aura of "leadership" and of making "hard choices," they are all the more dangerous. It's appropriate, then, to question the judgment of anybody who drags Social Security into the current fiscal debate——and to tell them to go away and not come back until they can be serious.

Update Oct 31, 2011 - A lot of supposedly smart people who should surely know better inexplicably refuse to understand the Social Security trust fund, causing much public confusion. Why is that? Even the Washington Post recently botched the facts in a recent front page "analysis". Economist Dean Baker, of the Center For Economic and Policy Research, blasts the Post's many mistakes.

I have previously written on Social Security and the trust fund. See: Trust Fund Redux: A Parable, Stating The Obvious, and Trusting the Fund: Can we rely on the government's Social Security nest egg?Update Mar 11, 2013 - An all new and improved post explains better than this one why Social Security doesn't add to to debt, and why the Trust Fund will remain solvent for at least a couple of decades.

Copyright (C) 2011 James Michael Brennan, All Rights Reserved