Social Security: Trust Funds, Actuarial Balance, Sustainable Solvency
Social Security arithmetic isn’t hard. Tedious perhaps and with counter-intuitive results but once certain terminological obstacles are swept away not requiring advanced math skills. But oy that terminology! This post proposes to start demolishing those conceptual barriers.
Social Security is considered ‘solvent’ when its ‘Trust Fund’ is in ‘actuarial balance’. The Social Security Trust Fund was created pursuant to the Social Security Amendments of 1939 to hold any excess of dedicated Social Security revenue over cost and serves primarily as a reserve fund. Those excess revenues are held in the form of interest earning Special Treasuries with that interest being included as revenue. When the accumulated principal including retained interest equals 100% of projected NEXT YEAR cost the Trust Fund is considered to be in ‘actuarial balance’. Now since Social Security income and cost project to change each year ‘actuarial balance’ cannot effectively be measured in nominal dollar terms because a year end 2012 balance equal to 100% of 2013 projected cost will generally be something less than 100% of 2014 cost. And this quite aside from any fluctuations in the economy, that is all things being equal a steady-state Social Security system requires a steadily increasing Trust Fund principal balance to be judged in ‘actuarial balance’.
Meaning ‘fixing’ Social Security, making it ‘solvent’, means something more than restoring actuarial balance for the current year, instead it requires having the system project to maintain ‘actuarial balance’ over time. Historically the Trustees of Social Security established two different measures of solvency: ‘short term actuarial balance’ and ‘long term actuarial balance’. ‘Short term’ here means the same 10 year budget window used by the rest of government, if year end principal balance in the SS Trust Funds projects to be 100% or greater (in SS jargon a ‘trust fund ratio of 100 or more’) in EACH of the next 10 years Social Security ‘meets the test for short term actuarial balance’. Similarly if the TF ratio projects to be 100 or more in EACH of the next 75 years Social Security meets the test for ‘long term actuarial balance’. In the last couple decades ‘short term’ and ‘long term’ actuarial balance have been supplemented by two new ways of considering solvency. In 2002 we saw the introduction of ‘Infinite Future Horizon’, that is in principle extending solvency to Heat Death of the Sun. More reasonably for long-term planning purposes is something called ‘sustainable solvency’ which takes into account the predictable increase in structural cost year over year and argues that ‘long term actuarial balance’ should include not just years 1-75, but also the trend for year 76 and after. That is we shouldn’t just fix Social Security for 2012, we should take steps to make sure it won’t fail the test for ‘long term actuarial balance’ come 2013.
Okay having (I hope) adequately defined ‘solvency’, ‘actuarial balance’, ‘trust fund ratio’, ‘Infinite Future Horizon’ and ‘sustainable solvency’ we can develop some implications below the fold.
What would ‘sustainable solvency’ look like? Now given that year 76 total cost will be predictably more than year 75 year total cost even if the current year 75 year model is perfect, it follows that maintaining a trust fund ratio of EXACTLY 100 requires a small increase in Trust Fund balance EACH year. Which is where things start getting odd.
Okay assume we have a Trust Fund with a principal balance equal to 100% of next year’s cost where that principal is held in interest earning Special Treasuries whose interest is in turn counted as income. Further assume that all non-interest SS income for the upcoming year projects to be equal to projected cost. What is the result for the Trust Fund? Well one thing to recognize is that maturing Special Treasuries are not in themselves counted as ‘income’. If the dollars represented by those Treasuries are not needed for current year cost they are simply retained and rolled over into new issues. The second is that interest on the current portfolio IS counted as ‘income’ but if not needed to pay current year cost is itself rolled over into new Special Treasuries. That is under the assumptions of our current scenario, where NON-interest income equals current cost, the result will be retention of 100% of principal augmented by interest converted to new principal in the form of new issues along side those rolled over.
Simple enough but with some odd results. Under our scenario maturing principal is not redeemed for cash, it is simply exchanged for new Special Treasuries with new (typically) 10 year maturities. And a few seconds of thought shows that in a steady state system of ‘sustainable solvency’ they might NEVER need to be redeemed for cash. In fact, and this is a key point, they would all need to be retained and augmented with new principal sufficient to maintain that Trust Fund ratio of 100. Meaning that those Treasuries, though real interest earning obligations of the U.S. government, never actually get paid off.
This tends to throw supporters of Social Security for a loop. Because they often believe that the Trust Funds were established in 1983 as a method of pre-funding Boomer retirement and were ALWAYS expected to be paid down to zero and so be temporary: “Reagan borrowed the money to pay for tax cuts, they NEED to pay it back”. Well actually under ideal circumstances they don’t need to pay it back. They only need to honor the obligation by continuing to pay and/or credit interest on the accumulated principal with the latter being retained to maintain the crucial function of ‘sustainable solvency’ as measured by ‘trust fund ratio’.
And this is where things get hairy, because note I said in reference to interest that it needs to be paid and/or credited. And by ‘credited’ I mean retained in the form of new Special Treasuries sufficient to maintain a trust fund ratio of 100. Which means that portion of interest retained to maintain an overall condition of ‘sustainable solvency’ is never paid off by cash transfers either. In terms understandable to Paulite TeaTards those Special Treasuries used to roll over existing principal and to ‘finance’ retained interest are just ‘fiat money’. Or in terms understandable by the rest of us ‘Interest Earning Obligations backed by Full Faith and Credit of the U.S.’
If this sounds crazy it is probably because Social Security is not now in ‘sustainable solvency’. Although on a combined basis the OASDI Trust Funds do meet the test for ‘short term actuarial balance’ they DO NOT meet the ‘long term’ test and still less either the test for ‘sustainable solvency’ (i.e. year 76 and some years after) or ‘infinite future’ (i.e. year 76 and EVERY year for centuries to come). Under current projections Trust Fund principal will need to be redeemed for cash starting in the 2020s and project to be totally redeemed by the mid 2030s. But given a sensible worker friendly fix that starts by taking the numbers and methodology of the Social Security Reports seriously they don’t need to be.
(After all it is eminently sensible to maintain a prudent reserve and reasonable enough to consider a TF ratio of 100 to be a simple minimum. On the other hand there is a limit beyond which too much reserve actually becomes dangerous (topic for another post). And when I started blogging on this in 2004 it appeared we were on that dangerous ‘over-funded’ path. But the 2007 recession took care of THAT problem with the result that TF ratios are already dropping from their peak even as they still remain right around 350 (three and a half years of reserve). Of course there is no real world problem with those ratios dropping, that is after all what the extra reserve is for, to be tapped as needed. On the other hand simple prudence mandates putting into place a plan to keep them from dropping to levels which would cause the failure of ‘short term actuarial balance’ and even to put them onto a glide path towards ‘long term actuarial balance’ and heck even ‘sustainable solvency’. Which (cough, cough) the Northwest Plan for a Real Social Security Fix does even as it maintains 100% of the current law scheduled benefit. Even as it largely avoids substantial paydown of Trust Fund principal in nominal terms, instead putting Social Security on the path to permanent TF ratios in the 130 range.)
What then would ‘sustainable solvency’ look like from the perspective of the General Fund? Well for one thing the Social Security Trust Fund balance, while still being a very real claim on the future, with a minimum amount of due diligence never actually become itself ‘due’. Not in cash anyway. And interestingly neither will that portion of accrued interest needed to maintain the targeted TF ratio whether that be 100 or 130 or whatever. On the flip side not all interest can simply be credited to the Trust Fund as new Special Treasuries without potentially boosting the TF ratio to a point where worker’s rebel as a prudent ‘reserve’ transmutes into an interest free loan to the General Fund. I mean who is the ‘moocher’ or ‘looter’ in that scenario?
I leave as an exercise for the reader to poke at the numbers and see what part of Trust Fund interest simply gets retained as Special Treasuries (and so not financed from the real economy) to maintain minimum TF ratios as opposed to that portion of that interest that needs to be paid out in benefits to keep that TF ratio below acceptable sustainable maximums, which for the sake of argument we could put at 166. Whatever is the result of the offset due to retained interest is in effect the discount on the cash interest rate and under standard Intermediate Cost assumptions is something like 40% off the nominal rate. But it doesn’t discount to zero, the Trust Fund never becomes (or shouldn’t anyway) a purely free lunch. Pretty cheap for the social utililty and equity Social Security delivers but not cost free. As Chief Actuary of SS Steve Goss explained in a crucially important article in the 70th anniversary edition of the Social Security Bulletin: The Future Financial Status of the Social Security Program (bolding mine)
However, the occurrence of a negative cash flow, when tax revenue alone is insufficient to pay full scheduled benefits, does not necessarily mean that the trust funds are moving toward exhaustion. In fact, in a perfectly pay-as-you-go (PAYGO) financing approach, with the assets in the trust fund maintained consistently at the level of a “contingency reserve” targeted at one year’s cost for the program, the program might well be in a position of having negative cash flow on a permanent basis. This would occur when the interest rate on the trust fund assets is greater than the rate of growth in program cost. In this case, interest on the trust fund assets would be more than enough to grow the assets as fast as program cost, leaving some of the interest available to augment current tax revenue to meet current cost. Under the trustees’ current intermediate assumptions, the long-term average real interest rate is assumed at 2.9 percent, and real growth of OASDI program cost (growth in excess of price inflation) is projected to average about 1.6 percent from 2030 to 2080. Thus, if program modifications are made to maintain a consistent level of trust fund assets in the future, interest on those assets would generally augment current tax income in the payment of scheduled benefits.
That is within stated limits neither the fact nor the timing of Social Security going cash flow negative means a damn thing in the bigger picture. Something some commenters have a hard time grasping.
When the accumulated principal including retained interest equals 100% of projected NEXT YEAR cost the Trust Fund is considered to be in ‘actuarial balance’.
Nice post, but I think the above sentence needs to be expanded.
Okey doke.
The 2012 Report reported actual 2011 income and cost and actual 2011 year end balance. It then compared that 2011 year end balance to projected cost for 2012, and similarly projected 2012 year end balance to 2013 cost and so on for the ten year actuarial window and beyond and expressed them in terms of trust fund ratios:
http://www.ssa.gov/oact/tr/2012/IV_B_LRest.html#455750
Since the number remained above 100 for OAS alone and OASDI combined the Trustees could conclude:
“Income and cost for the OASI Trust Fund represent over 80 percent of the corresponding amounts for the combined OASI and DI Trust Funds. Therefore, based on the strength of the OASI Trust Fund over the next 10 years, the combined OASI and DI Trust Funds would have sufficient assets to pay all scheduled benefits through the end of the short-range period and would satisfy the short-range test of financial adequacy under all three alternative sets of assumptions. Under current law, one trust fund cannot share assets with another trust fund without changes to the Social Security Act.”
No, Social Security math is not hard.
As for projected problems, think rounding error.
Social Security is neither broke nor broken. 🙂 The only reason that people are claiming that it is is to undermine it.
To play Devil’s Advocate for a minute.
There is an argument that Social Security will always be “broken” as long as solvency is measured over fixed periods of time. Because all things being equal keeping Social Security in actuarial balance under Intermediate Cost assumptions requires a payroll equivalent adjustment of 0.06% per year. Now the exact same model which projects that 0.06% projects an increase in Real Wage of 1.1% per year. While probably no one’s lifelong wage profile pegs them squarely in the middle that would have them earning exact 1.1% more after inflation than before year over year forever, you can say that a reasonable expectation is that just over 1 part in 20 of your new real wage would need to be offset by the FICA increases needed to keep the replacement value of your SS check at 40% of that every increasing real wage. Or of course you could settle for a basket of goods in retirement only 10 or 20% better than retirees get today rather than say 30-50% better and so have a better lifestyle in retirement than your own parents even as you steadily fall behind that of your own grandchildren. I mean neither choice is irrational as such.
Still if you pick your terms narrowly enough Social Security will always be broken until or unless you adopt some version of Dale’s Northwest Plan (to which I am a contributer but not entirely an endorser-subject of another post). On the other hand defining a 0.06% of payroll per year gap as “broken” is like equating a paper cut to a compound fracture because in both cases the skin is cut.
Now I have argued for years that “Nothing IS a Plan”. But only because I tend to reject certain rigid assumptions of Intermediate Cost. Given the latter the NW Plan may be politically and practically near optimal.
I give Bruce tremendous credit for really looking at the numbers, but:
“when I started blogging on this in 2004 it appeared we were on that dangerous ‘over-funded’ path. But the 2007 recession took care of THAT problem” is not really admitting how much things have changed.
Bruce convinced me that overfunded was a real potential, but we were wrong. The reality is that the decade long housing bubble (not just the dot-com bubble) pushed extra people into the workforce and so pushed extra money into the TF.
Going forward, sustainable solvency requires increasing revenue because people are living longer. Voters need to understand that the 1983 did not fix everthing forever. They did not quite get the 75 years they were shooting for. Expect continued adjustments and that they will result in paying in more during working years and getting more back during retirement years, and “fixing” SS is no big deal.
Perhaps I will repost later the comment that got eaten – the big deal is how does SS fit within retirement security. SS was never intended to provide all you need, but most people do not save enough more on their own, and we do not do enough to adjust society to fit its own changing needs.
Well I never bought into the whole Roubini/Baker housing bubble theory as a total explanation for the relatively high employment/high real wage economy of the nineties. Nor the Dot-Com bubble either. For one thing neither really explains the relatively restrained inflation of the later Clinton years, odd if all of that was actually being driven by phony liquidity based on housing equity. Also the employment gains and real wages were experienced outside the actual areas of housing construction that IMHO were overrepresented in the Case-Shiller index so relied on by Dean. Not every market was actually that bubblicious so as to warrent the cross the board drying up of mortgage liquidity imposed by the Wall Streeters in late 2006, early 2007.
I was working for a real estate mortgage/property investment/management company when the secondary market dried up in some cases overnight. And though a lot of those mortgagers relied on various types of high fee sub-prime loans relatively few of them were actually subject to CRA or even lending in places like California’s Inland Empire where it seemed to me that the bubble burst started with new construction (not financed via sub-prime or exotic ‘stated/stated’ or ‘neg-am’ loans because not eligible)and then quickly bled over to flipper wannabes and only then to national markets.
That is the liquidity crunch preceded and to some degree percipitated the bubble burst and certainly made it more severe than the fundamentals suggested.
On the other hand Dr. Doom Roubini and my friend and mentor Dean Baker certainly seem vindicated after the fact. I just think they place more blame on homeowners spending equity that turned out to be not as real as expected than was really justified and lay too little blame on the MBS investors who panicked and prevented a more orderly deflation of the bubble than we in fact got.
Then again the whole debacle cost me my job and ultimately my house by working for a guy on the wrong side of that particular bet. Which maybe lets me add ‘cranky’ to ‘crank’ here.
But either way I can’t accept that the housing bubble retroactively justified NAIRU by distorting the employment market to the degree needed. Nor the Dot-Com bubble either. I still think there is a case for a policy driven outcome of sub 5% employment to go with 2% real wage and 3% real GDP. Which together is about 80% of Low Cost.
That is while I am not plumping for ‘over-funded’ I have not given up on ‘fully funded’ (compare 2012 Low Cost to 2004)
Well, I like to keep things simpler than that, but there is one issue here that may occur to some people that I would like to offer some clarification on before it festers.
As outlined by Bruce, as long as the Trust Fund is maintained at a “one full year’s replacement” level, and the money is lent to the government, the government ends up in effect subsidizing about 5% of Social Security costs.
It may actually be less than this if Bruce is right about some fraction of that interest going not to pay benefits but merely to keep the Trust Fund at a level high enough to call it actuarily solvent.
In any case some might object to the government subsidizing SS at all…. if they could bring themselves to admit that the fundamental nature of SS does NOT depend on the government for money.
But in any case the government borrowed the money it is paying interest on. It could stop paying that interest if it just paid back the money.
But if it paid back the money it would have to borrow it from somewhere else and STILL end up paying the interest.
By not repaying it they are effectively borrowing it again, so another year’s interest will become due… and interest on that interest… to the extent it is not paid by actual cash transfer from treasury to SS and ultimately to worker pensions.. is effectively (that is “really”) just borrowing that much more money, so interest on that unpaid interest is the same as any other interest.
Now that I have said that in as confusing a way as possible, I hope I have cleared up the confusion others have offered on the subject.
All you really need to know is what you actually pay for your Social Security and what you will get for your money. What you actually pay is 6%, or 12% if you work for yourself (or have unusual leverage in negotiating wages with your boss), of your wage.
What you get is a guarantee (absent political shenanigans) that when you get too old to work, or want to work, or find a job, you will get a check from the government that will be “enough” to keep you out of the poorhouse… as the ad says, “priceless.”
It has worked out over the past fifty years or so to be an effective rate of return on investment equal to inflation plus about 2% if you end up being a high earner, or inflation plus about 10% if you end up being a low earner… a return most worker can’t touch in “the market.” But it’s the guarantee of “enough” that’s critical. And what you pay for it is nothing in the scheme of things, leaving you with far more money than your parents and grandparents ever had before Social Security.
All of the wonky bits that Bruce and others talk about are fine if you like that sort of thing, but be warned, most of what you hear is anything from utter nonsense to damned lies.
I have Kotlikoff on the line right now telling me NOT to look at anything but Table IV.B.6. Because, you see, that’s the way the SS “debate” works. You pick your favorite fact, or alleged fact, and ignore everything else and free associate from there until you arrive at the conclusion that agrees with your ideology.
Why in the world would anybody focus on the infinite horizon calculations, about which the American Academy of Actuaries, in a letter to the Trustees in 2003, said: …The new measures of the unfunded obligations included in the 2003 report provide little if any useful information about the program’s long-range finances and indeed are likely to mislead anyone lacking technical expertise in the demographic, economic, and actuarial aspects of the program’s finances into believing that the program is in far worse financial condition than is actually indicated. . . . Thus, we believe that including these values in the Trustees Report is unnecessary and is, on balance, a detriment to the Trustees’ charge to provide a meaningful and balanced presentation of the financial status of the program.
Oh, never mind, the Academy answered my question–it’s to mislead people.
Arne – in 1983, what they did would have been right if the income distribution had stayed the same. The cap was adjusted for inflation, but it should have also been adjusted to stay at 90% of wage and salary income.
Another thing to note is that while people are living longer on average, people at the top of the income ladder have seen their lives increase more than at the bottom. Increasing the retirement age may seem reasonable to a professor or pundit, but people who have done hard work all their lives are pretty damn tired by age 65 (or 60, for that matter). I’ve thought of a way to adjust for this, but for now we should just leave the retirement age where it is.
PeakVT
it doesn’t have to be physical work for the average worker to be tired out, burnt out, by 60. try working at a stupid job with a stupid boss in a cubicle all day for forty years.
i am not so anxious to raise the cap. the fact that the better off among us are proportionally more better off than they used to be really has nothing to do with Social Security.
Social Security is NOT supposed to be about your or my idea of “equality.” its supposed to be insurance. and there is a level after which the contribution looks more like welfare than like insurance.
tastes may vary but i think the current level is just about right. as i have tried to point out, the needed tax increase will come gradually, while incomes are rising twenty times as fast, and the people will get their money back in the form of a higher real benefit and a longer life expectancy. There is no need to go after the other guys money just because he has more than he used to.
On the other hand, I am fine with raising his income tax to help pay for the deficit… which has nothing to do with Social Security… that everyone is screaming about.
There are a couple of ways, and circumstances, in which i would think that a modest raise in the cap made sense. But not just to chase some arbitrary number “because its there.”
Dale is exactly right.
Addressing 30+ years of increasing income inequality by tinkering with FICA makes no sense. Unless you have unconsciously bought into the ‘crisis’ narrative as regards Social Security to start with.
To put it another way every bit of new ‘progressivity’ you build into the current payroll tax formula, even the relatively benign move of restoring the incidence to the 90% level from its current 83% just crowds out the possibility of using that tax room for anything else on either the progressive policy agenda or for real (as opposed to Wingnut Faux) deficit hawks paydown of structural debt. Which is just a different way of opening spending room.
Any partial or complete raise in the income cap for FICA and/or extension of the incidence to non-compensation earnings just allows the bad guys to claim they are ‘bailing out’ an ‘unsustainable’ Social Security system.
Don’t buy into what Baker and Weisbrot in 1999 perfectly termed the “Phony Crisis” in their book of the same title. Don’t concede that Social Security faces tremendous challenges such that any other increase/restoration in top rates is ruled out because younger workers and capitalists alike are being forced to bail out “Greedy Boomer Geezers”. For God’s sake don’t do Erskine Bowles and Alan Simpson’s and Peter Peterson’s jobs for them.
Focus. “40 cents a week” “couch change”. We don’t need to divert 12.4% of every capital gain dollar to Social Security or even boost taxes on the 84-90% of income folk. Not for retirement security anyway.
I am a New Dealer. And if you proposed to increase top rates back to FDRs 94% level fine. Or Kennedy’s 70% fine. Hell even Reagan’s initial 50% is better than nothing. I am all for progressive taxation.
Just leave Social Security the Fuck Alone. Because mostly you don’t know the harm you could be doing by screwing around with the structure FDR and Frances Perkins (et al) put in place between 1934 and 1939.
(Can you tell this stuff drives me nuts?)
Thanks Bruce.
you put it better than i did.
just to say it still another way… taking taxes from the rich to give to Social Security which doesn’t need it, would just give the rich the excuse to claim they are paying for Social Security so they ought to be able to impose conditions.. like means testing or raising the retirement age or cutting benefits.
IF you want to tax the rich… raise their income tax. or raise the capital gains tax. or put a tax on stock speculation. use the money for all the good purposes you can think of. even applying it to welfare for those whose SS is not enough.
but leave SS alone. except for letting the people save enough… via the payroll tax… to provide for their own basic retirement. that’s what it’s for.
it is best not to think of the payroll tax as a “tax.” it’s more like an insurance premium. or even “forced savings.” The point is you get it back. When you need it most. Usually a lot more than you put in.
The bad guys like to say you get back lass. But they have their fingers crossed behind their back. They mean you get less “present value.” That is less than you would get if you could put the money in a magic bank that ALWAYS pays 3% more than inflation. and never has a bad day on the stock market.
And because it’s insurance, if you earn less than the “average” over a life time you get more back, sometimes a lot more, than even that magic bank.
and if you can’t think of how you, you being so smart and all, could ever earn “less than average” over a lifetime, you are exactly the reason that SS has to be a “tax,” that is not voluntary. bad things happen to good people. even smart people.
Just to reiterate what Dale has said and repeat myself from the earlier discussion Of Kotlikoff’s musings.
Jul 21, 2012 3:37:00 PM
And what seems to be lost in the comments of both Mr. Kotlikoff and Mr. Krasting is that there is no good alternative to Social Security that is available to the working class in this country. Some municipal workers continue to have decent and safe retirement plans in place. Otherwise what is there as a better alternative? Both IRAs and 401(k) plans have been devastated over the past two decades by the turbulaence of the equities markets and the effect on mutual funds which are the basic investment medium of those retirement plans. The fixes that the two of them have offered up are really only losses of benefits. That’s not a fix. Pay a bit more now and throughout one’s working life to guarantee freedom from poverty and a reasonable retirement age is the best deal that the American worker can be offered.
My points about IRAs and 401(k)s is additionally supported by this information,
Pensions and retirements…
http://www.angrybearblog.com/2012/07/pensions-and-retirements.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+blogspot%2FHzoh+%28Angry+Bear%29&utm_content=Google+Feedfetcher
Our current political/corporate system has allowed personal retirement savings to become a losing proposition over the past two decades. They have decimated employer pension systems. And now they are looking for ways to discredit Social Security. It’s BS in the face of the clearest evidence. If they are allowed to move the working class backwards on Social Security there will be no save retirement system available to anyone other than those who occupy the highest strata of wealth and income. Like guys with over $100M in their IRA.
Webb discusses the importance of interest income to maintain short and long term solvency. But he doesn’t address the flaw in this logic.
Interest rates are near zero. In June, SS invested a wad of money for 15 years at 1.625%. That is below the rate of inflation SS faces, so the return they are getting is negative.
Interest rates will remain at zero for years to come. SS uses a formula based on historical rates. The formula and the Fed’s promised actions mean that SS will suffer low returns on investment for at least another seven years.
Japan has had zero rates for 20 years. It wrecked their SS system.
Webb says it doesn’t matter that SS is cash flow negative. He’s right in that it is of no significance to payments for 2013 and longer.
But it does matter in that the red ink will reduce the size of the TF much faster than anticipated.
I believe that the SSTF will have a balance = 1 year of benefits around 2025. At that time the mandatory cuts of 25% for ALL beneficiaries will have to happen.
That is much faster than anyone is thinking today. This is not some crazy forecast. This is the High Cost analysis. There is every reason to believe that the High Cost is what we will see for the next five years. After that it doesn’t matter.
So yes, I think SS is a “today” issue.
And to pick up on Jack’s point
if we enter a “high cost” scenario, the economy will be in bad straits indeed.
But what are the alternatives for SS? SS is still the best way to pay for “at least enough” for people too old to work. If that costs them more, or us more, than it has in the past… well that sort of thing happens to people from time to time. They tighten their belts and get on with life.
They don’t throw up their hands and say “kill Granny.” Or, which is what Krasting and Peterson seem to want: PREDICT hard times in some remote future and yell “kill granny NOW.”
If the Trust Fund runs out (falls to 100% of required reserve) in 2025, instead of cutting benefits by 25%, we could raise the payroll tax by 2%, or 4% depending on which “most economists” you listen to.
Don’t know about you, but I have been poor, and I still wouldn’t really have missed 4% of my income… not nearly as much as I would miss 25% of a Social Security check if that’s all I had to live on.
Krasting
blogger ate my reply to you. Briefly, the scenario you imagine would require a payroll tax increase of about two tenths of one percent. Less than a dollar a week for each the worker and his boss, in today’s terms.
Briefly… the interest on the TF at 100% of a year’s costs in reserve… would in normal times amount to about 2% of that year’s reserve (talking REAL interest here). But that year’s reserve represents about 12% of the “taxable wage”, so 2% of 12% of taxable wage is what you’d have to make up.
Not what you’d want, but hardly a big deal.
And what happens the bond market if interest rates remain that low for a long time? And whose fault is that?
This comment has been removed by the author.
“So yes, I think SS is a “today” issue.” B. Krasting
Yes, and the today issue is that there are obfuscators like yourself making every effort to confuse the Social Security program numbers. It has been wroking well for the past 85 years.
What private pension plan or IRA/401(k) plan can you name that has done as well by its beneficiaries? Or should I more accurately call those who have been in the system the investors in that system. No Bruce K, social security is not a socialist entitlement. Social Security is, as it has always been, an investor supported and government administered retirement plan with an added disability aspect and death benefit to dependents of the investor. That’s right Bruce, they are investors and they’ve been getting a damned good return on their money. That’s more than JP Morgan, Goldman, Sacks, etc. can offer to their less than multi millionaire clients.
The whole funning thing about IRS’s and 401K’s is that the first lesson taught in highschool math regarding money was that you never invested in the market money that you could not afford to lose.
Yet, this is exactly what we hear promoted and even implemented for those who can’t afford to lose the money.
God are we a sick bunch of bastards.
http://www.socialsecurity.gov/cgi-bin/transactions.cgi
Gosh Krasting is almost right. In fact purchase of Special Issues in June were mostly at 1.375%. Because the purchases at set a rate established ultimately by the excellently efficiently all-knowing market per the EMH. That is the smart boys are betting that inflation over the next 10 years will be such/and or economic conditions will be so chancy that it is sensible and EFFICIENT for FULLY INFORMED to park money at the lower bound.
Now they might be right or wrong, but none of that is the fault of Social Security, rates are what they are. But if they ARE right then presumedly inflation going forward will be similarly contained and as such so will Social Security cost. Because since the demographics are built into the models already the main contingent change in cost is due to the effect of COLA’s. No inflation, no COLA, and needed return on TF assets offset by reduced benefit costs going forward.
Krasting what you are engaged in here is not some guerilla war against Bernanke (as your article suggests) but instead kneecapping every single one of your former colleagues in the bond market who ultimately are responsible for establishing those rates.
Or maybe you are a closet Keynesian or MMT guy and don’t believe in Our St Milton of Friedman.
On the other hand maybe you actually are better equipped to judge the “amount of inflation SS faces” (as if it is different than the inflation the rest of the economy faces) than the totality of the market is.
Me I sum that up as “Krasting: Legend in his Own Mind”.
And I guess I need to rethink that “Social Security arithmetic isn’t hard”. Because I universalized that judgement a little too much.
Well put, Bruce.
may I say, as a general reader, anyone who uses a phrase like “retained interest” or “retained earnings” has lost me, and, I suspect, anyone for whom this article might be useful.
While I applaud your intention, I have to say, reluctantly, that I don’t think it is a success; you are still way to jargony.
I am a scientist (PhD in molecular biology) and I often have to present fairly complex technical material to non scientists.
And it is *really* hard (I think this is why L Summers is highly regarded)
Politely, try rewriting it withoutany of the words you currently use – if you can do that, people like me will read it and understand; if you use words like retained, you have lost us.
Also, I don’t think the whole intro about short medium long infinite solvency is useful; I would get rid of most of that and start off with the solutons
Soccer Dad
to start with the solution:
raise the payroll tax one tenth of one percent each year for twenty years.
that’s forty cents per week for the worker and forty cents per week for the employer.
while wages are expected to go up about eight dollars per week each year.
by the end of that time, we will have either made SS fully “solvent” for the next 75 years, or we will be able to see whether we need to do it again… for another 20 years, or maybe even need to cut the tax to avoid building up too big a Trust Fund.
according to the Trustees Projectios for the last ten years that I have been keeping track that one tenth of one percent per year for twenty years the second time should make Social Security fully solvent for as far as the eye can see from here… what they call “the infinite horizon.”
Of course I do not claim to be able to predict the infinite future or even the next 75 years. but by changing the payroll tax rate by a tenth of a percent at a time you can always adjust the rate to fit the experience and needs of the times.
And again, according to present projections, the ultimate tax rate is very unlikely to ever be more than 2% (each) higher that it is today. And by the time it reaches that point, wages will have doubled, so the worker of the future will have more than twice as much money in his pocket after paying the tax, plus he will have paid for his own longer retirement at a standard of living more than twice as high (in real dollars) as current retirees get today.
I hope this helps. I agree with you about the whole
use of complicating language. I like to think I can explain most things in simple terms and ideas. And if I can’t do it the first time, I am willing to keep trying, as long as the people I am talking to keep trying.
soccer dad I sympathize
On the other hand I can’t think of any simpler way of describing interest income that is received by Social Security and not spent on benefits as opposed to that part of earned interest that is tapped to pay for a portion of those benefits.
Currently Social Security is “cash flow negative” (more jargon I fear) because a PORTION of accrued interest is being paid by Treasury in the form of benefit checks while the rest is being credited to the Trust Funds and then converted to Special Issues (oops jargon).
Personally I would be interested in seeing a molecular biology paper, even one written for the general reader that did not assume some familiarity with scientific concepts and terminology. Or do you actually explain every occurance of words like “genome” or “organic” or for that matter “molecular”. I suspect that much of that terminology is for you much like water to a fish, so necessary to live or explain fishy life yet assumed by fish and biologist alike.
For that matter I don’t think “retained interest” is actually a term of art unlike say “carried interest”. At least it doesn’t seem to be used as I do here (per Wiki it is used to refer to a type of pre-payment penalty, which seems even more jargony than my usage). How else would I describe interest retained by the Trust Fund other than ‘retained interest’? I mean I went to some trouble to define ‘actuarial balance’ and ‘sustainable solvency’ to an audience that by and large is kind of knowledgeable about this topic.
But certainly I, like most folk, can benefit from advice on better usage. Specific advice.
soccer dad
hope you are still around. we are doing this for you.
Bruce is a scholar, and as well as knowing more than i do, expects words to convey meanings. actually they don’t, unless you already “know” the meanings.
so “retained interest.” i guess that what he means here (patience Bruce… i only “guess” because as a scarred veteran i know that not only do people not understand the words i use but that i often don’t understand the words they use) is that
Social Security collects payroll taxes every month and uses the money to pay that months benefits to retired people (who paid their taxes years ago and this is just giving them their money back… actually this concept is a lot more difficult for some people than “retained interest). If there is more money coming in that going out, the difference is used to buy Treasury Bonds. That means it is lent to the government, which always needs to borrow money.
The Bonds pay interest. When Social Security is already collecting more money from the payroll tax than it needs, it does not take the interest in the form of cash (checks). It simply uses the interest to buy more bonds, which themselves earn interest.
I think that what Bruce means by retained interest is just the interest on the bonds that it “rolls over” into buying more bonds. “rolls over” is apparently the term of art that means “it puts the money it gets from interest or cashing the bonds at maturity back into buying more bonds.
let me know if that helps. and Bruce can let me know if I got it right.
this putting “extra” money into government bonds is nothing unusual. All businesses do it. They don’t call the bonds “worthless iou’s” because the government has to collect taxes to pay back the money it borrows.
But the big liars like to call SS’s bonds “worthless iou’s” because they pretend to believe that the government is supposed to have a stack of gold and jewels so it can pay back what it borrows. Or that the government already “owns” the Social Security money, so it is “really” paying itself. The fact is Social Security money is “owned” by the workers who pay the tax on the legal understanding that the money will be used to pay for their retirement.
currently, SS taxes are less than SS benefits, so some of the interest from the bonds is used to pay benefit checks. but most of it is still “retained,” that is used to buy more bonds… which will eventually have to be cashed to pay for the boomer retirement. that’s why the tax rate was set higher than needed for “pay as you go” back in 1983… so that the boomers could “prepay” that part of their future benefits that would be needed because their large numbers would require that SS pay out more than it would be able to collect from the smaller numbers of workers in the generation following them on a strict pay as you basis without raising the payroll tax on that following generation.
in other words, everything was done in a strictly rational and fair and businesslike way. Only the Big Liars twist every fact, every word, in a way to make it look unfair, unsustainable, worthless, “ponzi.”
the payroll tax will need to be raised again… very gradually… to pay for the longer life expectancy of the generations following the boomers.
it turns out that even when the tax collected is exactly as much as is needed, maintaining a Trust Fund reserve will mean that some money is used ot buy bonds… lent to the government. The interest on that money will be used to pay for part of benefits… and thus holding the tax rate a little lower than it would otherwise be. and some of it will just be rolled over … buying more bonds to keep in the Trust Fund so that the Fund grows along with the size of SS.. which will grow along with the population and the growing incomes of the workers.
sure hope soccer dad reads all this.
this putting “extra” money into government bonds is nothing unusual. All businesses do it. They don’t call the bonds “worthless iou’s” because the government has to collect taxes to pay back the money it borrows.
But the big liars like to call SS’s bonds “worthless iou’s” because they pretend to believe that the government is supposed to have a stack of gold and jewels so it can pay back what it borrows. Or that the government already “owns” the Social Security money, so it is “really” paying itself. The fact is Social Security money is “owned” by the workers who pay the tax on the legal understanding that the money will be used to pay for their retirement.
currently, SS taxes are less than SS benefits, so some of the interest from the bonds is used to pay benefit checks. but most of it is still “retained,” that is used to buy more bonds… which will eventually have to be cashed to pay for the boomer retirement. that’s why the tax rate was set higher than needed for “pay as you go” back in 1983… so that the boomers could “prepay” that part of their future benefits that would be needed because their large numbers would require that SS pay out more than it would be able to collect from the smaller numbers of workers in the generation following them on a strict pay as you basis without raising the payroll tax on that following generation.
in other words, everything was done in a strictly rational and fair and businesslike way. Only the Big Liars twist every fact, every word, in a way to make it look unfair, unsustainable, worthless, “ponzi.”
the payroll tax will need to be raised again… very gradually… to pay for the longer life expectancy of the generations following the boomers.
it turns out that even when the tax collected is exactly as much as is needed, maintaining a Trust Fund reserve will mean that some money is used ot buy bonds… lent to the government. The interest on that money will be used to pay for part of benefits… and thus holding the tax rate a little lower than it would otherwise be. and some of it will just be rolled over … buying more bonds to keep in the Trust Fund so that the Fund grows along with the size of SS.. which will grow along with the population and the growing incomes of the workers.
sure hope soccer dad reads all this.
This is a great post but it brings up a few technical questions as well as a political question. Today, is “doing nothing” the plan or is something akin to the NWPlan the plan? Dale writes, “the payroll tax will need to be rasied again.” Which is it, do nothing or raise the tax/premium? I haven’t looked at the Trustees Report in some time but if I recall correctly the last four or five years have been closer to HC assumptions than IC assumptions. Is that an accurate characterization? I guess I should check those assumptions again. Also off the top of your head(s) are some of the assumptions weighted more heavily than others?
In terms of politics why in the world would you guys think that a payroll tax increase would be advanced by the current political leadership? It seems to me that even the Members who aren’t generally tax averse are talking about “reforming entitlements” instead of “increasing revenue”. As a matter of fact we’ve actually seen a policy of decreasing the funding for this program. What is your opinion of the political ramifications of a call for a payroll tax increase?
little john
i have no hope whatsoever that the politicians will call for either “doing nothing” or raising the payroll tax the tiny amount that would fix the “problem.”
the game is rigged. the fix is in. but i keep hoping someone who is better at reaching the people thani am will take up the cause… point out to voters that they can keep their social security forever if they just raise their own tax about one tenth of one percent per year until the demographic (and economic) picture stabilizes.
unless that is done, the people who have been trying to destroy SS for seventy years will finally succeed. i don’t know that Obama and the Democrats are in on the fix. I think they have just been fooled by all the high end “non partisan experts”… who are paid by Peterson, when they are not just repeat-the-common-wisdom fools.
as for “do nothing.” Bruce and Professor Rosser have pointed out that doing nothing is better than any of the plans on the table (except the Northwest plan, and CBO Options two and three, which no one has ever heard of.)
with do nothing, the worst that happens is a sudden shock in 2033 or so when benefits have to be cut about 25%. this would still be a benefit about 20% greater in real value than todays, because benefits are calculated based on the average wage which is rising as the economy grows… or is supposed to grow.
they don’t say, but i say, that if that were to happen Congress would find that it could easily raise the tax the needed 2% at that time to return the benefit level to the historical replacement rate.
or the Northwest plan could be adopted now or soon, to write into law a provision to raise the tax one tenth of one percent whenever the Trustees report actual “short term actuarial insolvency.” or they could enact into law either CBO option two… raise the tax each year one tenth of one percent, or Option three… raise the tax each year one half of one tenth of one percent.
all of these accomplish the same thing, are cheap and easy. the differences are merely matters of style and timing. BUT YOU NEVER HEAR ABOUT THEM. except here, of course.
off the top of my head i could not say if some assumptions are weighted more heavily than others. i used to think the Trustees were honest. some of the recent changes in assumptions have caused me to doubt that. but in any case it doesn’t matter. the assumptions just go into the predictions. the predictions don’t matter. certainly not the long range predictions. what matters is that there is no reason to think SS can’t pay for itself forever… that is the workers pay for their own retirement in advance by paying for current retirees today. it’s a simple, elegant, system and no one gets hurt.
and there is NO other way to guarantee you will have “enough” to retire on when you get too old to work.
Those are insightful comments. Thanks.
What Dale said.
Plus a post upcoming. Set to a jingle. Be back soon.
(Siteowner Dan has been encouraging me to post. To which I can only warn “Beware what you wish for”. Silence may not be golden, on the other hand in recent months it has been ‘Webb free'”)
What a pack of wonkers. Why on earth would anyone of sound mind agree to put even a miniscule amount more into the SS trust fund, to be “borrowed” by the Gov’t and replaced with paper promises?! The fix is simple extend the age and means test qualifications – I’ll let the wonks work out the details.
Fact is the financial path we are currently on is not sustainable … if our big spending friends in Washington cannot meet their obligations the gov’t paper becomes worthless and the trust fund is gone, plain and simple. And when interest rates go through the roof after this administration finishes trying to print their way out of their current problems, which interest rates will very soon (QE3 etc), this Country will be far less solvent than it is today and if not directed responsibly will be on its way to bancruptcy.