By Mark J. Warshawsky

This post is the third in a series of four posts on Social Security reform written to complement “Reforming Social Security” in the spring 2022 issue of National Affairs. You can view the first two posts here and here, as well as a Social Security reform slide deck.

The traditional focus of the media and many policymakers when considering Social Security’s finances is the projected exhaustion date of the program’s combined trust funds. Last year’s trustees’ report put that date as 2034 (a year earlier than the 2020 report) — a decline mainly owing to the negative economic impact of the pandemic. Of course, we also draw closer to depletion as time passes, even if the exhaustion date were to remain stationary, and no program reform action were to be taken. It is not wrong to pay attention to that date because it is a final forcing mechanism to correct the program’s many faults and problems, financial and otherwise, as all sources of income, including the redemption of bonds in the trust funds, come up short against the rapidly increasing costs of the program. By law, in 2034, only 78 percent of benefits could be paid. But this trust fund focus is incomplete and even misleading because it misses the damage already done that has been subtracting from the federal government’s fiscal position now and in the near future.

As shown in Figure 1, since 2010, Social Security has paid
more in benefits than it has collected in payroll and benefit taxes, that is,
non-interest income, worsening federal government finances. That negative gap
has grown since 2010 to almost 2 percent of taxable payroll in 2020, and is
projected to get even larger to almost 3.5 percent of taxable payroll at 2034,
the exhaustion date. The hole would be further dug to 5 percent of taxable
payroll (see Figure 2) if, despite the law, there were to be no changes to
scheduled benefits. Since 2010, the federal budget has been supporting Social
Security through the payment of interest on the bonds held by the trust funds
and, projected to begin in 2021, the steady redemption of those bonds. This is
clearly shown in Figure 3, where the orange bars show the increase in federal
public debt used to finance interest payments and then a bump-up with the redemption
of trust funds’ bonds as they shrink to depletion. This process translates to an
increase in public debt of 15 percent of GDP by 2034, further increasing to
over 20 percent of GDP, as interest has to be paid on that debt, at almost 1
percent of GDP annually (see Figure 4), even if benefits are capped at the
income legally available to the program.

Figure 3 – Publicly Held Debt Owing to OASDI – In trillions of dollars

Figure 4 – Debt Financing of OASDI – Percent of GDP

Stated another way, our delay in reforming Social Security, which President George W. Bush squarely put on the public agenda nearly two decades ago, has already substantially harmed the public finances of this country and will continue to do so until the program is finally reformed. In these days of multi-trillion-dollar budget deficits, these Social Security gaps, once thought of as large, may seem to be minor, but the degradation to the public fiscal position is cumulative. It could be catastrophic if there were to be a major war, another pandemic, or a big rise in interest rates, possibilities once disregarded but unfortunately no longer to be dismissed from sober consideration.

The post Social Security reform, part III: Bad and deteriorating finances appeared first on American Enterprise Institute – AEI.