Is Social Security Really Running Short?

This post is adapted from my Knowledge@Wharton posting on their website.

The U.S. Social Security system is a pay-as-you-go system: that is, payroll taxes collected from today’s workers mostly go to pay today’s retirees. But as our population ages, fewer young workers are paying into the system relative to rising numbers of ever-longer-lived retirees drawing benefits. So the reality is that the American Social Security system faces insolvency – that is to say, it cannot afford to pay all the benefits it has promised.

Yes, It REALLY Is a Big Shortfall

As a nation, scheduled benefits under our Social Security program exceed system revenues by $25.8 trillion, according to the 2015 Social Security Trustees Report. This is the so-called “perpetuity” calculation which includes current and future revenues, along with current and future benefits payable. The projected size of this giant black hole looming ahead varies a bit from year to year, but not in a good way – in fact it was up from the year before, when the unfunded obligation was projected at (only!) $24.9 trillion. Moreover future prospects are dismal, since benefit payments have exceeded the program’s income from payroll taxes since 2010, and this is unlikely to turn around for the foreseeable future.

 The giant black hole comes to $25.8 trillion.

What Does All This Mean For Me?

The Trustees Report also stated that the long-term system shortfall can be eliminated with an immediate and permanent payroll tax hike of 33 percent (from 12.4 to about 16.5 percent). Or benefits would have to be cut immediately and forever for all current and future recipients by 23.4 percent. In other words, we’re all going to have to pay in much more or get much lower benefits, forever (or both, most likely). As it will be costly to fix, we need to get to work fixing it right away so as to avoid much worse.

How Far Ahead Can We Realistically Project?

Some who want us to think that the system is doing fine say ‘move on, there’s nothing to see here, folks!’ Where do they get that idea? The main reason is that they have different – and very short-sighted – measures of the system’s finances. For instance, one narrow perspective would use a 10-year horizon and simply ignore whatever might happen thereafter. But that clearly makes no sense for a retirement system intended to cover workers though their golden years. After all, many of us will still be around a decade from now!

Another suggestion would be to simply stop doing Social Security projections beyond 75 years (and in fact some of the Trustees’ tables do just that). But this builds a dangerous bias into our thinking. Why should those charged with managing the nation's retirement system ignore our children and grandchildren? After all, demographers tell us that children born today can expect to live to 100, and the child has already been born who will live to 200. Halting projections at 75 years and acting as though we can simply ignore anyone still around after that date is awfully short-sighted. Moreover, a 75-year projection is fundamentally biased because it counts all the taxes that workers will pay into Social Security over the next 75 year, but it ignores benefits those workers will be owed in the 76th year and afterward.

  Why should Social Security projections stop at 75 years? That would ignore our children and grandchildren.

Here’s another way to think about it: the Social Security actuaries break down the “infinite horizon” funding deficit between past and present Social Security participants, and those Americans who will participate in the future. Past and present participants account for the full $26 trillion infinite horizon funding shortfall! So the figures aren’t based on a far-away and uncertain future. They are based on the fact that past and current Social Security participants have been promised far more in benefits than they will pay in taxes over their lifetimes.

A different way of measuring the Social Security underfunding problem is to compute the cash flow needed to fill the annual shortfall and compare it to some enormous denominator. For instance, smoothed over time, the underfunding comes to 3.9 percent of payroll or 1.3 percent of GDP. Setting aside the question of whether smoothing could actually work, we cannot underestimate how difficult it would be to enact such tax increases. The Social Security Public Trustees have warned: “To appreciate these dangers, consider that under the Trustees’ current projections, annual Social Security costs will be more than 25 percent higher than income by 2034…[E]ven the total elimination of Social Security benefits for those newly eligible in 2034 would be insufficient to restore short-term financial balance. Similarly, a payroll tax increase of the magnitude needed to maintain scheduled benefits would have a profound adverse impact on the economy and employment.” [emphasis added]. And if that were not grim enough, we must recall that Social Security underfunding is not the only cost increase facing the nation, since expenditures on Medicare, Medicaid, and many other government programs are sure to rise with population aging.

But Isn’t This All Very Uncertain?

Of course, anyone outside of a fortuneteller’s booth knows that uncertainty grows into the future, and the longer-term are the forecasts, the more uncertain they are. But this cannot mean that we simply ignore the effect of current policy -- or lack thereof! – on Social Security’s future path. A more responsible approach would be to continue doing long-run system projections every year, allowing for a range around possible outcomes, so that we can foresee and act on looming problems ahead of time. 

Uncertainty is no reason to delay Social Security reform.

In other words, uncertainty is no reason to delay Social Security reform. Instead, it’s a reason to enact reform sooner as an insurance policy against outcomes that easily could be even worse than the Trustees project.

Get To Work Fixing Social Security Now

For years I have been arguing that we need to act now to avoid Social Security insolvency from becoming an intractable problem. Reasonable people agree, including the Committee for a Responsible Federal Budget who points out that we must “act quickly to put Social Security on a path toward solvency. As time goes on, it will be more difficult to secure the Social Security programs for current and future generations with thoughtful changes instead of abrupt benefit cuts or tax increases.” Our representatives, the Social Security Public Trustees, are also in agreement. Less than a year ago they warned: “Continued inaction going forward to the point where the combined trust funds near depletion would…likely preclude any plausible opportunity to maintain Social Security’s historical financing structure.” [emphasis added]

Push Presidential Candidates To Spell Out Their Reforms

Uncertainty does not mean we should sit on our hands and do nothing. Instead, to reduce the chance of large benefit cuts and tax increases, we should push all Presidential candidates to tell us now exactly how each one intends to return Social Security to solvency. A proposal of my own is described here.

 Olivia S. Mitchell served on the 2001 US President’s Commission to Strengthen Social Security and the 2014-1015 Chilean Pension Reform Commission. Having lived and worked around the world, she is a professor of Business Economics/Policy and Insurance/Risk Management at the Wharton School of the University of Pennsylvania, where she focuses on pensions, household finance, retirement, and risk management. Tweet her @OS_Mitchell