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Budget Myth No. 3

Myth: “Social Security is, of course, the real problem.

Until 2011-2012, the Social Security trust funds never borrowed a dime.  The Social Security pension system is in good financial condition compared to the budget known officially as “the federal funds budget”–that is spending and revenues apart form revenues dedicated to trust funds and a corresponding amount of expenses.

No one has ever seriously argued that debt should be used to fund Social Security pensions.   That would make no sense, because Social Security was designed to be a form of form of savings–paying today for the right to receive a basic pension sometime in the future.

Between the Social Security Act of 1935 and the Social Security Act Amendments of 1950 federal leaders debated whether to maintain a large trust fund reserve to keep the system in long run actuarial balance.   Today people  may be surprised to learn that most Democrats supported a reserve for actuarial balance and some Republicans argued for a “pay as you go” system.   In 1950 they compromised with a hybrid system:  tax rates would be set at a level creating only a modest reserve.  But those estimated reserves were understated, because the actuaries were asked to assume that wages and salaries–and therefore payroll revenues–would not rise with future rises in worker productivity.

That system created an adequate cushion until Congress, with almost no dissent, indexed benefits for inflation in 1972, shortly before inflation increased faster than payrolls.   By 1983, the trust funds  were depleted, and the Reagan administration and congressional leaders in both parties rescued the system by enacting reforms.   They raised the payroll tax and applied income taxation to benefits of retirees with other source of income.   Contrary to widespread belief, in 1983 federal leaders also accurately predicted the impact of the retirement of the Baby Boom generation, and responded by creating a reserve for their pensions and gradually extended the age at which beneficiaries could receive a full pension.   (The pension system does have some unfunded liabilities down the line, because the 1983 reforms indexed the wage base to increases in average rather than median incomes.   Congress and Social Security experts did not anticipate that the incomes of workers in the top 10 percent  would rise so much faster than the other 90 percent.)

Myths about Social Security have become common in the twenty-first century.  Republicans publicized two myths and Democrats publicized another. 

  •   First, when challenged by Al Gore,  Governor George W. Bush claimed that he had no intention of using Social Security reserve to fund his tax cuts, while resisting efforts to remove Social Security–which was then building reserves for Baby Boomers–from the overall federal budget.  After his election, the Bush  administration subtracted increasing amounts borrowed from the trust funds when reporting the level of deficit spending.
  • Second, when attempting to persuade Congress to convert Social Security into a system of government-guaranteed private accounts, President George W. Bush claimed that the trust fund did not exist and dramatized this point by visiting an accounting office where there was no cash reserve.   The trust fund investments, however, did exist in the form of  legally binding ledger entries showing investment in Treasury obligatons;  that is the same manner in which other investors hold most US bonds.  From its inception the trust fund has invested funds in the safest possible security, Treasury obligations, in order to avoid the loss of interest on cash reserves.  Investment of trust fund reserves does not in the least alter the Treasury’s obligation to pay.  The Social Security trust fund is no more or less secure than other holders of Treasury debt.
  • Third, Democrats  insisted on a reduction in payroll tax contributions in 2011-2012, in an effort to stimulate the economy.   While it is technically true that the Treasury credited the trust fund with an amount equal to those lost revenues, it  had to borrow more money in order to make those payments.  So, in substance if not form, the US borrowed for the Social Security system.

There are things that must be fixed to retain a self-sustaining Social Security pension system.  The adjustments needed to bring the system into long run actuarial balance, however, are minor in comparison to reforms needed to fund Medicare, national security, and debt service without incurring  debt.