The President's Commission to Strengthen Social Security just issued an interim report, laying out the rationale for reforming our nation's largest government program. Predictably, Democrats responded that no changes were necessary, because there is plenty of money in the Social Security "trust fund" to pay benefits for decades to come.
It has been said many times, but is worth repeating, that the Social Security trust fund bears no resemblance to a private sector trust fund. Its "assets" consist of nothing but nonmarketable Treasury securities -- essentially IOU's, promises by the federal government to fund Social Security from general revenues when Social Security payroll taxes are no longer sufficient to pay current Social Security benefits. That date is now estimated to be the year 2016, according to the latest report of the Social Security trustees.
The "trust fund" is really more analogous to what is called budget authority, which is just legal permission for the government to spend money on something. By law, the government cannot spend money on anything unless there is legislation allowing such money to be spent. The Social Security trust fund merely allows the federal government to pay Social Security benefits until the point at which the fund is exhausted.
Around the year 2038, it is expected that the OASDI trust fund will have a zero balance. That simply means that the federal government will not have the legal authority to send out Social Security checks. It does not mean that the federal government will lack the cash to pay benefits. It is nothing more than a technical budgeting problem that Congress could fix in a few hours, should nothing be done to reform Social Security before that date.
It would be far better for everyone if the whole notion of a Social Security trust fund were dispensed with. It just confuses the question of what should be done to make Social Security viable for all current and future beneficiaries, without doing anything to actually preserve its benefits.
The truth is that the Social Security trust fund is a purely political device, not something inherent or necessary to the functioning of Social Security. Indeed, the original Social Security legislation of 1935 contained no provision for a trust fund. That was not created until 1939, solely to cement the program in place so solidly that it could never be changed.
In Arthur Schlesinger's history of the New Deal, he quotes Franklin D. Roosevelt explaining the rationale for the trust fund. "We put those payroll contributions there (in the trust fund) so as to give the contributors a legal, moral, and political right to collect their pensions and their unemployment benefits," Roosevelt said. "With those taxes in there, no damn politician can ever scrap my Social Security program."
It certainly served Roosevelt's intention well, as we continue to see today. But the trust fund concept also led to higher Social Security taxes than would likely have been the case without it. That is because workers were deluded into thinking Social Security taxes really weren't "taxes," but "contributions" to their Social Security pension account, akin to a 401(k) deduction from their paycheck. In her history of Social Security, Martha Derthick quotes a senior Social Security official saying:
"It can scarcely be contested that earmarking of payroll taxes for OASDI reduced resistance to the imposition of taxes on low-income earners, made feasible tax increases at times when they might not otherwise have been made and has given trust fund programs a privileged position semi-detached from the remainder of government. Institutionalists foresaw these advantages as means to graft the new programs into the social fabric."
This is exactly what economic theory predicts. The purpose of "earmarking" specific revenues to specific programs is precisely to keep both revenues and spending higher than would be the case without earmarking. In other words, if Social Security had been financed out of general revenues all along, total federal taxes and spending would likely be much lower than they are today.
But we cannot turn back the clock. We have a mature Social Security system today, with millions of beneficiaries and overwhelming political support. To make any changes at all -- except, perhaps, raising benefits -- will be incredibly difficult, politically, unless there is an even greater potential payoff. That payoff, essentially, is lower taxes in the future. Regardless of whether there is one penny or trillions of dollars in the Social Security trust fund, taxes must rise to pay promised benefits.
According to Social Security's actuaries, its "cost rate" -- basically the tax rate -- will almost double in future years without action, from less than 9 percent to almost 17 percent. Fundamentally, preventing this massive tax increase is the main reason to reform Social Security.
That is why the president's commission is on the right track, and its critics are not.
Chart data: Social Security Cost Rate (percent of payroll)
Year ---- Percent
2000 ---- 9.04
2001 ---- 9.04
2002 ---- 8.94
2003 ---- 8.91
2004 ---- 8.91
2005 ---- 8.92
2006 ---- 8.95
2007 ---- 9.02
2008 ---- 9.11
2009 ---- 9.25
2010 ---- 9.42
2015 ---- 10.69
2020 ---- 12.39
2025 ---- 13.82
2030 ---- 14.91
2035 ---- 15.42
2040 ---- 15.37
2045 ---- 15.24
2050 ---- 15.29
2055 ---- 15.56
2060 ---- 15.94
2065 ---- 16.26
2070 ---- 16.55
2075 ---- 16.82
Source: 2001 Social Security Trustees Report