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Social Security card
The Social Security system, the Federal government’s most popular program, was designed in the 1930s to insure against old age poverty, or as President Roosevelt said, “... the hazards and vicissitudes of life.” Now the program foresees financial vicissitudes of its own. In its latest annual report, the Social Security Administration warns that one of the program’s key sources of revenue—sale of bonds from the Social Security Trust Fund to the Treasury—will run out of bonds in 2032.
This has led to banner headlines about the system going broke and false analogies to business insolvency. To Senator Ron Johnson, this report proves that “Social Security is a Ponzi scheme” and its pending “insolvency” is just another example of “democrat (sic) socialist programs bankrupting the country.”
Before the problems facing Social Security can be understood and before remedies can be formulated, this Trust Fund must be better understood.
Follow the Money
As designed in 1935, the chief source of revenue for Social Security is a designated “contribution”—the payroll tax on earned income. This financing system was to be “pay-as-you-go”: workers would pay this tax to finance the Social Security benefits of retirees, expecting that when they retire younger workers would do the same for them. FDR wanted it that way “... so as to give the contributors a legal, moral, and political right to collect their pensions ... no damn politician can ever scrap my social security program.”
Follow the Bonds
The system’s designers recognized that recessions and expansions in the economy might interfere with steady payments. They established a small trust fund with the limited role of balancing scheduled benefits with payroll tax revenue. During years of economic expansion, the payroll tax would generate a surplus of cash—more than required to meet scheduled benefits—and years of economic recession posed the danger that the payroll tax would not generate enough cash. The Trust Fund was designed to smooth this pattern: surplus cash would be used to buy special-issue Treasury bonds while shortfalls would be offset by sales of bonds back to the Treasury in exchange for needed cash. So, the buying and selling of those bonds back-and-forth between Social Security and the Treasury would serve as a stabilizing factor so that scheduled benefits would be paid in full and on time.
Then Came the Boomers
Of course, the plan implemented in 1935 did not account for a post-World War II baby boom of 77 million people born between 1946 and 1964, followed by an 18-year baby bust of 47 million people (known as Generation X). This boom-and-bust pattern of birth rates predetermined a financial strain on workers when the baby boomers began to collect retirement benefits financed by the much smaller number of workers.
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In 1985, to ease that predictable strain on future workers, President Reagan raised the payroll tax rate on earnings while boomers still had roughly 30 years of work-life left. This forced boomers to save part of their own future retirement benefits in addition to their obligation to support retirees from preceding generations. This hike in the payroll tax rate would create an annual revenue surplus during the boomers’ remaining work-lives, cash to be invested in special issue treasury bonds.
Later, during the boomer retirement years the system would sell enough bonds back to Treasury in exchange for sufficient cash added to the payroll tax revenue to meet scheduled benefit payments. Consequently, the payroll tax rate paid by workers would be lower than if the tax were the sole source of revenue. For example, in a typical year during the decade of the 2030s the scheduled cash from bond sales was projected to pay for about 25% of the scheduled retiree benefits while the payroll tax paid by workers would pay the other 75%.
Essential Element: Cash was to be Invested
The cash sent back to the Treasury was not intended to pile up in a vault but instead to be put to work by adding to investment in the economic growth of the country. For example, the cash could be used to invest in pro-growth productive assets, particularly infrastructure, which includes public physical assets like streets, roads, bridges, harbors, airports, school buildings other public buildings, rights of way for utilities. Based on the best computer projections of the time, which factored in such investment and growth, the payroll tax rates were adjusted so that the trust fund bonds would run out in 2060, long after the boomer retirement bulge had worked its way through the system.
But events intervened to divert cash from investment. These diversions included cuts in general taxes; increased defense costs due to the Iraq and Afghanistan wars; the multi-trillion-dollar response to the economic downturn of 2008-09 and the multi-trillion dollar response to the pandemic–induced economic downturn of 2020. As a result, economic growth was slower than projected. In turn, the payroll tax revenue was less than anticipated, which required the Social Security Administration to cash in bonds faster than anticipated to meet scheduled benefits. Consequently, instead of running out in 2060 when all but a few boomers will be gone, the bonds are now projected to run out in 2032 when over half of the boomers will still be very much alive and collecting retirement benefits.
Without the cash from bond sales, the currently projected payroll tax revenue will pay for only about 75% of scheduled benefits; but it is doubtful that the voters will accept a 25% cut in benefits. Tax revenue from outside the system will be required to maintain full benefits. That does not mean that the Social Security System is insolvent, i.e., without resources to draw upon to pay its bills. Social Security is no more insolvent than the Defense Department or anything else the voter-taxpayers wish to continue.
