MyDD :: The Social Security Trust Fund

The Social Security Trust Fund

by Gary Boatwright, Sat Jan 01, 2005 at 03:24:22 PM EST

This is a continuation of my diary on The Diamond-Orszag Plan to reform Social Security. Now that I've finished reading and digesting their book, I have an important concept to share. Diamond and Orszag work at the Brookings institute; Kevin Drum and Josh Marshall don't. The problems facing Social Security is far more complex than Drum and Marshall would lead us to believe.

Brad DeLong explains what kind of bonds are in the trust fund:

Trust fund assets are invested in government bonds: Social Security trust fund assets, currently worth over $1.5 trillion, are invested in special, non-tradable government bonds. Each year the U.S. Treasury issues these government bonds, up to the amount of the Social Security trust fund surplus, to be added to the account. The bonds earn an interest rate comparable to the market interest rate for tradable government bonds. During 2003, the effective annual interest rate earned on all bonds held by the trust funds was roughly 6.0%.

Diamond & Orszag elaborate on the trust fund:

The Social Security trust fund currently holds $1.5 trillion in special purpose Treasury securities. ... [I]t is important not to conflate two issues. The first is whether the bonds held by the trust fund represent assets to the Social Security system; the second is whether the trust fund has caused the publicly held debt to be lower than it otherwise would be.

The answer to the first question is unambiguous; the bonds held by the trust fund are an asset to the Social Security system because they earn interest income and, when the time comes, can be redeemed to pay benefits. The fact that these bonds are "paper" assets does not in any way reduce their value. All pension funds hold paper IOUs; so would the individual accounts that some reformers favor. The value of any paper asset depends on the willingness of someone to honor it. The bonds held by the trust fund are, if anything, more secure than other paper assets, given their U.S. government backing.

The second issue is by how much the accumulation of the trust fund assets has reduced the publicly held debt. This is precisely the same as asking to what extent the Social Security surpluses have generated offsetting increases in non-Social Security deficits ... To the extent that Social Security surpluses have resulted in smaller unified budget deficits that would otherwise have been the case, the trust fund accumulation has reduced publicly held debt and contributed to national saving.

Diamond & Orszag then explain that when Congress increased the payroll taxes paid by wage earners in 1983, with Alan Greenspan's encouragement, they could also have just decided to issue additional bonds, with no increase in payroll tax revenue. They have Appendixes in the back of their book that discuss this and other issues. Here is a Trust Fund Chart that compares current assets in the trust fund with projected assests under the Diamond-Orszag Alternative. Back to the trust fund and the 2018 "crisis":

It is projected that, in 2018, Social Security tax revenue (which does not include the interest earned by the trust fund on the bonds it holds) will fall short of projected benefits and administrative costs. Because of the reserves it will have accumulated by 2018, however, the trust fund will be able to pay full scheduled benefits until 2042. ... In particular, the argument that the trust fund does not affect the government's ability to pay Social Security benefits in the future assumes that the Social Security surpluses have not increased national saving at all. ...

In one quite uninteresting sense, the argument is factually accurate: unless it simply prints money, the government finances all of its activities through increasing taxes, cutting spending forother purposes, or borrowing. But that is not a particularly interesting insight. ... In other words, to the extent the Social Security surpluses did contribute something to reducing overall budget deficits, they have reduced interest costs and increased the government's ability to borrow, and so made it easier for the government to operate.

**JollyBuddah editors note: I don't understand why the interest on the bonds is not counted

Programs that are financed through dedicated taxes are considered to be off-budget. Social Security with its FICA tax and Trust Fund is the largest off-budget program. In exchange for the privilege of using the excess FICA payments for general operating expenses, the Treasury Department issues special S.S. bonds to the S.S. trust fund. The treasury bonds in the trust fund are just like the treasury bonds purchased by foreign countries to finance Bush's budget deficit. Starting in 2018 FICA payments will no longer cover the benefits owed to retirees. That means the U.S. government will have to begin honoring the treasury bonds held in the trust fund. Payments on the trust fund treasury bonds will be identical to the interest payments on our national debt.

The last couple of years FICA payments have been about $165 billion per year greater than the benefits due to retirees. In effect, FICA payments have been going into the general fund and the U.S. Treasury has been placing these "I.O.U." treasury bonds in the S.S. trust fund. Bush's actual deficit this year was actually close to $600 billion, but through this creative accounting gimmick, the budget deficit went on the books at a little over $400 billion.

We are currently paying a little over $300 billion per year in interest on the national debt, with U.S. treasury bonds issued the same way the treasury bonds in the trust fund are issued. Both types of treasury bonds are backed by the full faith and credit of the U.S. government. Beginning in 2018, the U.S. government will be required to start redeeming the S.S. trust fund bonds, just like they currently are required to pay the interest on treasury bonds held by foreign countries every year. The benefit of the S.S. treasury bonds being non-tradeable makes them safer for the United States than regular treasury bonds. Countries holding regular U.S. treasury notes can convert them to euros on the open market at any time.

One partial solution to this problem would be Al Gore's lock box. Over the next ten years FICA payments will be close to one trillion dollars greater than the benefits S.S. pays out. If these excess FICA payments taken out of the budget with a "lock box" accounting mechanism, our budget deficit would immediately rise by that same amount. The current S.S. accounting procedure is dishonest and masks the immediacy of our combined current account deficit problem, which also includes our trade deficit. The "lock box" accounting method for would be more honest and more in keeping with generally accepted accounting practices.

This is the basis for conservative arguments that S.S. trust fund bonds don't have any value because we will just be paying the debt to ourselves. One comparison I've seen is that it would be like loaning your spouse money for a car. When your spouse makes payments on the car it doesn't contribute anything to the family budget. A better comparison would be making a loan to one of your children or a parent, but the distinction is trivial. Either the spouse or the child is capable of earning additional income and repaying the debt to the family budget. Diamond & Gorszag compare two people who want to buy a car. One has been building up a savings account, one has not. When they actually decided to buy their car, each of them will have the same choices in how they purchase the car. Would you like to pay for that with cash, check or credit?

What conservatives are attempting to accomplish is essentially defaulting on the promise to honor the bonds in the trust fund. Bush and the GOPers have been using the $165 billion dollar S.S. surplus to hide the true cost of corporate welfare and tax cuts for the rich. Beginning in 2018 the payments to the S.S. trust fund will be officially brought on budget. Because the government will no longer be able to ignore the "off budget" costs of borrowing FICA payments for "general operating expenses", those payments will act as a restraint on new government programs as well as a restraint on corporate welfare, pork barrel spending and tax cuts for the rich.

In addition, since our good President Bush is probably as concerned about his legacy as any other vainglorious politician, his economic advisors have probably pointed out that he will still be alive when the shit starts hitting the fan in 2018. By that point it will be absolutely impossible to ignore the "current account deficit" we are building up. (It is my understanding that the phrase "current account deficit" includes our budget deficit, trade deficit and payments for interest on the national debt. Sometimes the phrase is also used in a manner that includes the "unfunded liabilities" of both Social Security and Medicare. I am not clear on which usage is more accurate.)

President Clinton was pursuing an honorable course by using the surplus Social Security payments to pay down the national debt, thereby making the approaching shortfall in tax revenue versus spending much more manageable. Clinton's course was reducing both the total budget deficit and the annual interest payments on our national debt. Al Gore was advocating honest accounting practices when he proposed a "lock box" accounting method to clearly identify actual expenses and revenues.

Our fiscally irresponsible President Bush has gone the other direction and made the inevitable burden more severe. By increasing the budget deficit with tax cuts, corporate welfare, pork barrel spending and increasing the unfunded liabilities of Medicare, the approaching "crisis of 2018" will be far more difficult and require far greater restraint on the entire budget. It will almost certainly be impossible to avoid raising taxes to pay our accumulated debts.

The short story is that if Bush is still alive in 2018, he will not only be reviled by 48% of the population, he will be universally reviled by everybody except his immediate family; not only for passing on our account deficit problem to future generations, but also for making the problem exponentially worse.

That's the general idea of the trust fund. This diary covered three pages of one chapter in Diamond & Orszag's book. I think my description and analysis is reasonably accurate. Since I am not Brad DeLong it could also be somewhat innaccurate in some of the details.

Tags: (all tags)

Permalink :: 11 Comments :: Post a Comment

Easily fixed (none / 0)

All the dry facts aside, all that seems to be needed is one basic adjustment. The payroll tax should be raised to $200K, and in addition, the first $20K should be untaxed-- a tax-cut for all, and it funds social security properly.

by Jerome Armstrong on Sat Jan 01, 2005 at 03:34:24 PM EST

Re: Easily fixed (none / 0)

I corrected the link in my diary to the Diamond-Orszag plan so it links to their 50 page summary. I may be giving them too much credit, but I highly recommend reading the summary of their book. It is an extremely concise and thorough presentation of the arguments in their book. Their book basically adds more meat and charts and footnotes and Appendixes.

by Gary Boatwright on Sat Jan 01, 2005 at 04:14:29 PM EST
[ Parent ]

The "2018 crisis" has some validity (none / 0)

It is not a genuine crisis, but it will start to pinch government spending. Diamond & Orszag propose phasing in a small increase in FICA payments to 7.09% by the employee and the employer by 2055. They also would increase the payroll cap to $111,000 and add a 3% tax on all income above the cap.

I completely agree not taxing the first $20k is a great idea. After reading Diamond & Orszag's book, considering their analysis and examining their solution, I don't think it's quite that easy. One unpredictable problem that they are trying to protect against is inflation. We don't know what inflation is going to be over the next ten, twenty or forty years, but its definitely going to be above 2% if we have reasonable growth.

Diamond & Orszag also provide additional insurance payments for the disabled, young survivors and widows/widowers. Their reform is genuine reform on several levels. In addition to making Social Security more progressive in several ways, they increase the level of insurance available to all Americans.

The early complaints from the CATO types, drawn from the recent CBO analysis, seems to be that their plan results in an $85 billion deficit in thirty or forty years. It also supposedly reduces growth in the GDP by .7% in twenty years and 1.8% or something in fifty years. Those are pretty weak complaints considering the alternative of privatization.

I confess I don't know the answer to how much reform Social Security needs or the best way to do it. After reading their book, I have the niggling suspicion that Drum and Marshall are being a little too optomistic in their forecasts and analysis. What I am convinced of is that Diamond & Orszag's plan is far superior to Bush's stealth plan.

A big advantage I see is purely political. GOPers have convinced a large majority of the American public that Social Security is going bankrupt. As far as I can tell, the MSM is more attached to the "crisis" theory than the "no crisis" theory. It will be much more difficult for Bush and the GOPers to attack the Diamond-Orszag Alternative that it is to generate hysteria about the "Social Security crisis."

I've actually changed my opinion on the Dems silence on Social Security. I initially thought it would be better to get something like the Diamond-Orszag plan out early to frame the issue of what genuine reform and improvement looks like. The other strategy is sitting on your hands and giving the GOPers enough rope to hang themselves in 2006. Social Security is still the "third rail". That's why Bush is still pushing a stealth plan.

All I'm trying to do is present what I thought was a very persuasive case for genuine progressive reform. I did it to the best of my ability and welcome any criticism or enlightenment.

by Gary Boatwright on Sat Jan 01, 2005 at 03:57:41 PM EST

Re: The "2018 crisis" has some validity (none / 0)

Even Orszag says it's overblown:

Peter R. Orszag, a Brookings Institution economist who heads the Pew Charitable Trusts' bipartisan Retirement Security Project, countered that there are less drastic ways to cover the cost of trust fund redemptions than Bush is contemplating. The White House could consider rolling back its tax cuts, the size of which, he said, dwarf Social Security's funding deficit. Over 75 years, the president's tax cuts will cost the Treasury $11 trillion, nearly triple Social Security's gap during that time.

"I do think they are trying to create an artificial sense of crisis," Orszag said.

by Jerome Armstrong on Sat Jan 01, 2005 at 10:00:44 PM EST
[ Parent ]

Re: The "2018 crisis" has some validity (none / 0)

Overblown and hyped to the max. That is not the same thing as saying it is not a problem at all. I'm not trying to be a CATO chicken little here, just present a realistic assessment of the Diamond-Orszag reform. It is genuine reform that strengthens Social Security literally forever.

I looked at their argument carefully and at what was going to happen in 2022. In 2022, according to an Appendix chart in D&O's book, Social Security payments will not exceed benefits. The most immmediate impact is that annual budget deficits will not be masked by surplus Social Security payments. That's not a big problem. The surplus is going to be gradually decreasing up until that point anyway.

I had to turn to the Appendix to answer this question. They have a chart that has the endorsement of Social Security actuaries. According to their chart Social Security is still running a $77 billion annual surplus. After 2022 is starts running a deficit.

Under current law and current forecasts, the trust fund climbs to slightly under $4 trillion in 2022 and slowly runs down to -0- in 2042. Under D&O's plan the surplus climbs to $5 trillion in 2023 and stays there until 2035. After 2035 it decreases very slowly to a little over $3 trillion in 2078, when the chart stops.

There is no crisis. However, the trust fund does eventually run out in the relative short term and does run down to -0- without some adjustments. Diamond & Orszag's proposal makes Social Security bulletproof as far as the eye can see.

It looks to me like the Diamond-Orszag Alternative is a genuine opportunity for real honest to god reform. Of course that assumes the Democratic party is capable of a poltical astuteness they have failed to demonstrate in recent memory. I suspect that Bush's stealth privatization program is part of a plan to pass their approach the same way they did the Medicare Prescription Drug bill; a late night negotiating session between Republicans in the House and the Senate and a vote on a final bill that nobody has read several hours later.

However the politcal strategy plays out, it is important for us to be aware that there is a genuine reform proposal at our fingertips. What is very important, is the knowledge that the unfunded liability problem with Social Security can be corrected, with minor progressive adjustments that kick in over a long period of time. How that option is utilized and how it is presented to the American people by the MSM is above my pay grade.

by Gary Boatwright on Sun Jan 02, 2005 at 12:32:35 AM EST
[ Parent ]

"Under--- current forecasts" (none / 0)

This is what drives me crazy. "Current forecasts" called for 2.7% productivity growth in 2004. It just didn't. Real numbers have entered the picture. Like 4.0% growth.

I read through an analyis of Diamond-Orszag and agree that all things being equal, like the Intermediate Cost alternative having some relation to reality, it is not a bad plan. It suggests incremental increases to payroll tax rather than some drastic shock. This is good.

What is not good is basing policy decisions on an economic model which predicted 2.7% growth for 2004 and 1.8% growth for 2005. Didn't happen. Not going to happen. And yet otherwise sensible people who I hugely respect (that would be you JB) put the following in declarative terms, with not even a nod to the numbers that show this as hopelessly pessimistic:
"the trust fund climbs to slightly under $4 trillion in 2022 and slowly runs down to -0- in 2042. Under D&O's plan the surplus climbs to $5 trillion in 2023 and stays there until 2035. After 2035 it decreases very slowly to a little over $3 trillion in 2078, when the chart stops."

That chart is no longer valid. It relies on numbers way below actual economic performance. Numbers that seemed needlessly pessimistic when released on March 30, 2004 with the Annual Report of the Trustees, numbers that have been left in the dust by something I call "reality". Diamond and Orszag did yeoman work, but every number needs to be recalibrated based on a model which feeds 4.0% 2004 growth into the front door.

"Current forecasts" that are nine months old and totally misrepresent the actual weather pattern are just about useless when it comes to scheduling your next picnic. And yet that is exactly what you are doing here.

Plug in 4.0% growth for 2004. Accept Bush Administration forecasts of 3.5% growth for 2005. Then give me outcomes. Otherwise we are fighting with one hand tied behind our back. Because when I say "It isn't broke" I don't mean "It isn't broke until mid-century", I mean "shove real numbers in the front end of your model and you will see that it really isn't broke".

2004 Social Security Report: Economic Assumptions under the Three Alternatives
Trust Fund Ratios under the Three Alternatives

Why are we even playing on these people's court? We should own this issue. The economy simply did not grow at the puny 2.7% rate that underlies every single number you are reporting here. And given that this model is very sensitive to movements in early year numbers, someone needs to be deploying a spreadsheet (not me: by training I am a medievalist - with a specialty in 9th century Wales for God's sake).

by Bruce Webb on Sun Jan 02, 2005 at 06:04:01 AM EST
[ Parent ]

2000 Report (none / 0)

The last time the Social Security Report showed a big move in the shortfall dates was the 2000 Report. Take the Economic Projections for 2000 and compare them to those for 1999. Look at the predicted 2000 (2.6%) from the latter, compare it to the 4.0% of reality and then notice its effect on Trust Fund Exhaustion:
EPI: Changes in Projections . A full three year shoveback.

And we just repeated that, 4.0% real vs 2.6% predicted. 2042 will get pushed back. And given that the OPTIMISTIC number for 2005 growth is just 2.1% we can expect a similar shoveback in the 2006 Report. If we can just keep those guys hands off.

by Bruce Webb on Sun Jan 02, 2005 at 10:05:48 AM EST
[ Parent ]

Re: "Under--- current forecasts" (none / 0)

Diamond & Orszag are not playing in Bush's court. As a general assumption if Tech Central doesn't like an idea, then Bushco probably doesn't like it. The CBO Analysis is above my pay grade, but it has a lot of interesting charts and we will be hearing more about it in the future.

No matter which forecasts you use, Social Security benefits will exceed Social Security receipts at some time in the future and the current trust fund will eventually run out of money. That's the wedge that anti-Social Security forces will use. They will be spending $100 million to hammer that message home.

The Diamond-Orszag Alternative is genuine reform. It is far superior to privatization. If the choice is simply between privatization or the Social Security status quo we will probably lose the media battle. The Diamond-Orszag Alternative is the monkey wrench we can throw into the works of the right-wing privatization machine.

by Gary Boatwright on Sun Jan 02, 2005 at 12:23:35 PM EST
[ Parent ]

Honor the Bonds (none / 0)

The effect is about the same as paying off some substantial part of the National Debt. Historically, this has been hard to do, though we have done it before in the 19th century.

In the observation "The benefit of the S.S. treasury bonds being non-tradeable makes them safer for the United States than regular treasury bonds. Countries holding regular U.S. treasury notes can convert them to euros on the open market at any time." it is important to emphasize what was correctly said. The holders can go to the open market at any time, and trade the bonds for Euros, gold Dinars, or pork belly futures. After the trade, someone else owns the bonds, and we owe the money to someone else. However, the bonds are not callable. The owners cannot go to the US Treasury and demand Euros now for their US bonds, because US bonds are not callable for the most part. (Also, they mostly pay in dollars, though iirc a few of them do pay in Euros.)

by phillies on Sun Jan 02, 2005 at 01:14:06 AM EST

Thank-you for the clarification (none / 0)

That's precisely why I added my caveat about not being Brad DeLong in my last sentence. I am not an economist and am wading in over my head here. I rely heavily on DeLong and Krugman. What I was trying to inartfully point out is that treasury bonds that are traded on the open market add more volatility to the market. I do know that at the weekly treasury auction the value and the rate of treasury bonds and notes are inversely proportional. One risk to the value of bonds is that foreign countries like Japan and China could decide to stop supporting our deficit spending by buying our debt every week.

I don't know how likely that possibility is, but it could happen if we don't start exercising some fiscal restraint. Brad DeLong discusses The Endgame for the U.S. Current Account Deficit with Calpundit in this interview. His conclusion is instructive:

My bet is that interest rates spike for a little while in response to the dollar collapse, and that the U.S. undergoes a small recession, but that within a couple of years the macroeconomy stabilizes and unemployment never goes very high.

The real disaster scenarios for the U.S. economy are further out: they come when politicians try to tell the baby boomers that the combination of the tax cuts of the 2000s and the failure to address entitlement spending growth means that they don't get their Medicare, their Medicaid, and their Social Security.

That's what I was trying to point out. There is a macro-economic connection between our current account deficit and Social Security. The interaction of all these intervals is above my pay grade. To some degree everybody is just guessing. I trust DeLong and Krugman's guesses more than most. It seems likely that the reason Social Security bonds are nontradeable is to promote stability in the market.

by Gary Boatwright on Sun Jan 02, 2005 at 01:47:25 AM EST
[ Parent ]

I think Americans are cheating ourselves in denial (none / 0)

The fact is, working Americans are in serious denial. Lets face it, we can not trust the elite to do anything for us. That includes keeping any or all promises. In fact, lets face it, the chance of them ever doing that is less than zero.

The money we have paid or will pay into Social Security - and most other 'investments' is probably all gone for good, and with the way the economy will probably go, most of us will be without jobs and without a safety net of any kind in the future.

We will be eating out of their garbage cans.

In fact, we probably should face reality on government too. Clearly, people exist to feed government, and not the other way around.

It's all a big lie.

We work for them, they don't work for us. We are their food too. Lets stop buying into this 'democracy' ILLUSION and get used to being stray dogs in the junkyard of the universe...

Seriously..

by ultraworld on Sun Jan 02, 2005 at 06:31:53 PM EST

You are not logged in.

In order to post a comment, you must be logged in. If you have a member account, please log in to comment.

If not, you can make an account right here. It's quick and free.