Researching Social Security

I have been researching social security (and Medicare). Below are some of the articles I intend to blog about in greater detail later this week.

(I will also explain why I am looking into Social Security (and Medicare) tomorrow)

The Washington Post reports that Social Security could be next to need a bailout.

(emphasis mine) [my comment]

Social Security could be next to need a bailout
By Allan Sloan
Tuesday, February 2, 2010; A13

Don't look now. But even as the bank bailout is winding down, another huge bailout is starting, this time for the Social Security system.

A report from the Congressional Budget Office shows that for the first time in 25 years, Social Security is taking in less in taxes than it is spending on benefits.

Instead of helping to finance the rest of the government, as it has done for decades, our nation's biggest social program needs help from the Treasury to keep benefit checks from bouncing -- in other words, a taxpayer bailout.

No one has officially announced that Social Security will be cash-negative this year.
But you can figure it out for yourself [I did a year ago], as I did, by comparing two numbers in the recent federal budget update that the nonpartisan CBO issued last week.

The first number is $120 billion, the interest that Social Security will earn on its trust fund in fiscal 2010 (see page 74 of the CBO report). The second is $92 billion, the overall Social Security surplus for fiscal 2010 (see page 116).

This means that without the interest income, Social Security will be $28 billion in the hole this fiscal year, which ends Sept. 30.

Why disregard the interest? Because as people like me have said repeatedly over the years, the interest, which consists of Treasury IOUs that the Social Security trust fund gets on its holdings of government securities, doesn't provide Social Security with any cash that it can use to pay its bills. The interest is merely an accounting entry with no economic significance.

Social Security hasn't been cash-negative since the early 1980s, when it came so close to running out of money that it was making plans to stop sending out benefit checks. That led to the famous Greenspan Commission report, which recommended trimming benefits and raising taxes, which Congress did. Those actions produced hefty cash surpluses, which until this year have helped finance the rest of the government.

But even then, it was clear the surpluses would be temporary. Now, years earlier than projected, Social Security is adding to the government's borrowing needs, even though the program still shows a surplus on paper.

If you go to the aforementioned pages in the CBO update and consult the tables on them, you see that the budget office projects smaller cash deficits (about $19 billion annually) for fiscal 2011 and 2012. Then the program approaches break-even for a while before the deficits resume.

Social Security currently provides more than half the income for a majority of retirees. Given the declines in stock prices and home values that have whacked millions of people, the program seems likely to become more important in the future as a source of retirement income, rather than less important.

It would have been a lot simpler to fix the system years ago,
when we could have used Social Security's cash surpluses to buy non-Treasury securities, such as such as government-backed mortgage bonds or high-grade corporates that would have helped cover future cash shortfalls. Now it's too late.

Even though an economic recovery might produce some small, fleeting cash surpluses, Social Security's days of being flush are over.

To be sure -- three of the most dangerous words in journalism -- the current Social Security cash deficits aren't all that big, given that Social Security is a $700 billion program this year, and that the government expects to borrow about $1.5 trillion in fiscal 2010 to cover its other obligations, about the same as it borrowed in fiscal 2009.

But this year's Social Security cash shortfall is a watershed event. Until this year, Social Security was a problem for the future. Now it's a problem for the present.

Social Security (United States)

U.S. Social Security is a social insurance program funded through dedicated payroll taxes called Federal Insurance Contributions Act (FICA). ... By dollars paid, the U.S. Social Security program is the largest government program in the world and the single greatest expenditure in the federal budget, with 20.8% for social security, compared to 20.5% for discretionary defense and 20.1% for Medicare/Medicaid. Social Security is currently the largest social insurance program in the U.S., constituting 37% of government expenditure and 7% of the gross domestic product and is currently estimated to keep roughly 40% of all Americans age 65 or older out of poverty. The Social Security Administration is headquartered in Woodlawn, Maryland, just to the west of Baltimore.

A limited form of the Social Security program began as a measure to implement "social insurance" during the Great Depression of the 1930s, when poverty rates among senior citizens exceeded 50%.
Provisions of the Act

The Act is formally cited as the Social Security Act, ch. 531, 49 Stat. 620, now codified as 42 U.S.C. ch.7. The Act provided benefits to retirees and the unemployed, and a lump-sum benefit at death. Payments to current retirees were (and continue to be) financed by a payroll tax on current workers' wages, half directly as a payroll tax and half paid by the employer.


Ida May Fuller, the first recipient Implementation
[***Key info***]

The first monthly payment was issued on January 31, 1940 to Ida May Fuller of Ludlow, Vermont. In 1937, 1938 and 1939 she paid a total of $24.75 into the Social Security System. Her first check was for $22.54. After her second check, Fuller already had received more than she contributed over the three-year period. She lived to be 100 and collected a total of $22,888.92.

[See this? This best illustrate the true nature of "social security".]


1939 Amendments

Economic concerns

One reason for the proposed changes in 1939 was a growing concern over the impact that the reserves created by the 1935 act were having on the economy. The Recession of 1937 was blamed on the government, tied to the abrupt decrease in government spending and the $2 billion that had been collected in Social Security taxes. Benefits became available in 1940 instead of 1942 and changes to the benefit formula increased the amount of benefits available to all recipients in the early years of Social Security. These two policies combined to shrink the size of the reserves. The original Act had conceived of the program as paying benefits out of a large reserve. This Act shifted the conception of Social Security into the pay-as-you-go system.

Amendments of the 1950s

After years of debates about the inclusion of domestic labor, household employees working at least two days a week for the same person were added in 1950, along with nonprofit workers and the self-employed. Hotel workers, laundry workers, all agricultural workers, and state and local government employees were added in 1954.

In 1956, the tax rate was raised to 4.0% (2.0% for the employer, 2.0% for the employee) and disability benefits were added. Also in 1956, women were allowed to retire at 62 with benefits reduced by 25%. Widows of covered workers were allowed to retire at 62 without the reduction in benefits.

Amendments of the 1960s

In 1961, retirement at age 62 was extended to men, and the tax rate was increased to 6.0%.

In 1962, the changing role of the female worker was acknowledged when benefits of covered women could be collected by dependent husbands, widowers, and children. These individuals, however, had to be able to prove their dependency.

Medicare was added in 1965 by the Social Security Act of 1965, part of President Lyndon B. Johnson's "Great Society" program. Social Security was changed to withdraw funds from the independent "Trust Fund" and put it into the General Fund for additional congressional revenue.

In 1965, the age at which widows could begin collecting benefits was reduced to 60.
Widowers were not included in this change. When divorce, rather than death, became the major cause of marriages ending, divorcées were added to the list of recipients. Divorcées over the age of 65 who had been married for at least 20 years, remained unmarried, and could demonstrate dependency on their ex-husbands received benefits.

The government adopted a unified budget in the Johnson administration in 1968. This change resulted in a single measure of the fiscal status of the government, based on the sum of all government activity. The surplus in Social Security trust funds offsets the total debt, making it appear much smaller than it otherwise would.

Amendments of the 1970s

1972 Amendments

In June 1972, both houses of the United States Congress approved by overwhelming majorities 20% increases in benefits for 27.8 million Americans. The average payment per month rose from $133 to $166. The bill also set up a cost-of-living adjustment (COLA) to take effect in 1975.
This adjustment would be made on a yearly basis if the Consumer Price Index increased by 3% or more. This addition was an attempt to index benefits to inflation so that benefits would rise automatically. If inflation was 5%, the goal was to automatically increase benefits by 5% so their real value didn't decline. A technical error in the formula caused these adjustments to overcompensate for inflation, a technical mistake which has been called double-indexing. The COLAs actually caused benefits to increase at twice the rate of inflation.

In October 1972, a $5 billion piece of Social Security legislation was enacted which expanded the Social Security program. For example, minimum monthly benefits of individuals employed in low income positions for at least 30 years were raised. Increases were also made to the pensions of 3.8 million widows and dependent widowers.

These amendments also established the Supplemental Security Income (SSI). Immigrants who had never paid into the system became eligible for SSI benefits when they reached age 65. SSI is not a Social Security benefit, but a welfare program, because the elderly and disabled poor are entitled to SSI regardless of work history. Likewise, SSI is not an entitlement, because there is no right to SSI payments.

The negative financial outlook

Throughout the 1950s and 1960s, during the phase-in period of Social Security, Congress was able to grant generous benefit increases because the system had perpetual short-run surpluses. Congressional amendments to Social Security took place in even numbered years (election years) because the bills were politically popular, but by the late 1970s, this era was over. For the next three decades, projections of Social Security's finances would show large, long-term deficits, and in the early 1980s, the program flirted with immediate insolvency. From this point on, amendments to Social Security would take place in odd numbered years (years that were not election years) because Social Security reform now meant tax increases and benefit reductions. Social Security became known as the "Third Rail of American Politics." Touching it meant political death.

Several effects came together in the years following the 1972 amendments which rapidly changed the outlook on Social Security's long-term financial picture from positive to problematic. By the 1970s, the phase-in period, during which workers were paying taxes but few were collecting benefits, was largely over, and the ratio of elderly population to the working population was increasing.
These developments brought questions about the capacity of the long term financial structure based on a pay-as-you-go program.

During the Carter administration, the economy suffered double-digit inflation, coupled with very high interest rates, oil and energy crises, high unemployment and slow economic growth. Productivity growth in the United States had declined to an average annual rate of 1%, compared to 3.2% during the 1960s. There was also a growing federal budget deficit which increased to $66 billion.
The 1970s are described as a period of stagflation, meaning economic stagnation coupled with price inflation, as well as higher interest rates. Price inflation (a rise in the general level of prices) creates uncertainty in budgeting and planning and makes labor strikes for pay raises more likely.

These underlying negative trends were exacerbated by a colossal mathematical error made in the 1972 amendments establishing the COLAs. The mathematical error which overcompensated for inflation was particularly detrimental given the double-digi t inflation of this period, and the error led to benefit increases that were nowhere near financially sustainable.

The high inflation, double-indexing, and lower than expected wage growth was financial disaster for Social Security.

1977 Amendments

To combat the declining financial outlook, in 1977 Congress passed and Carter signed legislation fixing the double-indexing mistake. This amendment also altered the tax formulas to raise more money, increasing withholding from 2% to 6.15%. With these changes, President Carter remarked, "Now this legislation will guarantee that from 1980 to the year 2030, the Social Security funds will be sound." This turned out not to be the case. The financial picture declined almost immediately and by the early 1980s, the system was again in crisis.

Amendments of the 1980s

After the 1977 amendments, the economic assumptions surrounding Social Security projections continued to be overly optimistic as the program moved toward a crisis. For example, COLAs were attached to increases in the CPI. This meant that they changed with prices, instead of wages. Before the 1970s, wage measurements exceeded changes in price. In the 1970s, however, this reversed and real wages decreased. This meant that FICA revenues could not keep up with the increasing benefits that were being given out. Continued high unemployment levels also lowered the amount of Social Security tax that could be collected. These two developments were decreasing the Social Security Trust Fund reserves. In 1982, projections indicated that the Social Security Trust Fund would run out of money by 1983, and there was talk of the system being unable to pay benefits. The National Commission on Social Security Reform, chaired by Alan Greenspan, was created to address the crisis.

The 1983 Amendments

The National Commission on Social Security Reform (NCSSR), chaired by Alan Greenspan, was empaneled to investigate the long-run solvency of Social Security [Another area where Greenspan failed]. ... The NCSSR recommended enacting a six-month delay in the COLA and changing the tax-rate schedules for the years between 1984 and 1990. It also proposed an income tax on the Social Security benefits of higher-income individuals. ... These changes were important for generating revenue in the short term.

Also of concern was the long-term prospect for Social Security because of demographic considerations. Of particular concern was the issue of what would happen when people born during the post-World War II baby boom retired. The NCSSR made several recommendations for addressing the issue. Under the 1983 amendments to Social Security, signed into law by President Ronald Reagan, a previously-enacted increase in the payroll tax rate was accelerated, additional employees were added to the system, the full-benefit retirement age was slowly increased, and up to one-half of the value of the Social Security benefit was made potentially taxable income.

The 1983 Amendments and the Social Security Trust Fund

The 1983 Amendments also included a provision to exclude the Social Security Trust Fund from the unified budget (In political jargon, it was proposed to be taken "off-budget." Yet today Social Security is treated like all the other trust funds of the Unified Budget. It is a political way of using a cash budget instead of the more appropriate accrual budget, for all the budgets in the U.S. government. It is a way of disguising total debt. (Source: Webb, Roy, (1991). "The Stealth Budget: Unfunded Liabilities of the Federal Government," Economic Review (Federal Reserve Bank of Richmond), 77,2 May/June.) This provision also provided for the exemption of Social Security and portions of the Medicare trust funds from any general budget cuts beginning in 1993. This change was one way of trying to protect Social Security funds for the future.

As a result of these changes, particularly the tax increases, the Social Security system began to generate a large short-term surplus of funds, intended to cover the added retirement costs of the "baby boomers." Congress invested these surpluses into special series, non-marketable U.S. Treasury securities held by the Social Security Trust Fund. Under the law, the government bonds held by Social Security are backed by the full faith and credit of the U.S. government [which means they are worthless]. Because the government had adopted the unified budget during the Johnson administration, this surplus offsets the total fiscal debt, making it look much smaller. There has been significant disagreement over whether the Social Security Trust Fund has been saved [it wasn't], or has been used to finance other government programs and other tax cuts [correct answer].

Criticism of the program

Claim that it discriminates against the poor and middle-class

Critics, such as libertarian Nobel Laureate economist Milton Friedman, say that Social Security redistributes wealth from the poor to the wealthy. Workers must pay 12.4%, including a 6.2% employer contribution, on their wages below the Social Security Wage Base ($102,000 in 2008), but no tax on income in excess of this amount. Therefore, high earners pay a lower percentage of their total income because of the income caps; because of this, payroll taxes are often viewed as being regressive. Furthermore, wealthier individuals generally have higher life expectancies and thus may expect to receive larger benefits for a longer period than poorer taxpayers. A single individual who dies before age 62, who is more likely to be poor, receives no retirement benefits despite his years of paying Social Security tax. On the other hand, an individual who lives to age 100, who is more likely to be wealthy, is guaranteed payments that are more than he paid into the system.

Claim that it is a pyramid or Ponzi scheme

Economist Thomas Sowell argues in his books and columns that Social Security is a pyramid scheme [Agreed]. For example, in "Social Security: The Enron That Politicians Have In the Closet", he writes:

Social Security has been a pyramid scheme from the beginning. Those who paid in first received money from those who paid in second — and so on, generation after generation. This was great so long as the small generation when Social Security began was being supported by larger generations resulting from the baby boom.

But, like all pyramid schemes, the whol e thing is in big trouble once the pyramid stops growing. When the baby boomers retire, that will be the moment of truth — or of more artful lies. Just like Enron.

Contrast with private pensions

Although Social Security is sometimes compared to private pensions, this is an improper comparison since Social Security is social insurance and not a retirement plan. The payment of disability benefits also distinguishes Social Security from most private pensions. In other ways the two systems are fundamentally different as well. A private pension fund accumulates the money paid into it, eventually using those reserves to pay pensions to the workers who contributed to the fund; and a private system is not universal. Social Security cannot "prefund" by investing in marketable assets such as equities, because federal law prohibits it from investing in assets other than those backed by the U.S. government. As a result, its investments to date have been limited to "special" non-negotiable securities issued by the U.S. Treasury, although some argue that debt issued by the Federal National Mortgage Association and other quasi-governmental organizations could meet legal standards. Social Security cannot by law invest in private equities, although some other countries (such as Canada) and some states permit their pension funds to invest in private equities. As a universal system, Social Security operates as a pipeline, through which current tax receipts from workers are used to pay current benefits to retirees, survivors, and the disabled. There is an excess of taxes withheld over benefits paid, and by law this excess is invested in Treasury securities (not in private equities) as described above.

Social Security Trust Fund

The Social Security Trust Fund is the means by which the federal government of the United States accounts for excess paid-in contributions from workers and employers to the Social Security system that are not required to fund current benefit payments to retirees, survivors, and the disabled or to pay administrative expenses.

History of the Social Security Trust Fund

The Social Security system is primarily a pay-as-you-go system, meaning that payments to current retirees come from current payments into the system. In the early 1980s, however, the financial projections of the Social Security Administration indicated near-term revenue from payroll taxes would not be sufficient to fully fund near-term benefits (thus raising the possibility of benefit cuts). The federal government appointed the National Commission on Social Security Reform, headed by Alan Greenspan (who had not yet been named Chairman of the Federal Reserve), to investigate what changes to federal law were necessary to shore up the fiscal health of the Social Security program. In addition to recommending tax increases to alleviate the short-term funding problem, the Greenspan Commission projected that the system would be solvent for the entirety of its 75-year forecast period. The changes to federal law enacted in 1983 pursuant to the recommendations of the Greenspan Commission increased the Social Security payroll tax so that revenues derived from the tax would exceed the amounts needed to fully fund current benefits, thus causing a reserve to accumulate, which could be drawn upon when necessary. The resulting surplus is accounted for in the Social Security Trust Fund.
As of the end of calendar year 2008, the accumulated surplus stood at just over $2.4 trillion. Projections are that current receipts will continue to exceed expenditures until 2017 (according to Charles Blahous, Special Assistant to the President for Economic Policy). Thereafter, there will be a shortfall that will be made up by withdrawals from the Trust Fund, although the Trust Fund will continue to show net growth until 2025 because of the interest generated by its bonds. The Trust Fund will gradually be drawn upon to cover the difference between tax receipts and benefit payments. It will be completely depleted by 2042 (according to the Social Security Administration) or 2052 (according to the Congressional Budget Office). ...

Recent Attention to the Social Security Trust Fund

On February 2, 2005, President George W. Bush made Social Security a prominent theme of his State of the Union Address. One consequence was increased public attention to the nature of the Social Security Trust Fund. Unlike a typical private pension plan, the Social Security Trust Fund does not hold any marketable assets to secure workers' paid-in contributions. Instead, it holds non-negotiable United States Treasury bonds and U.S. securities backed "by the full faith and credit of the government". The Office of Management and Budget has described the distinction as follows:

These balances are available to finance future benefit payments and other Trust Fund expenditures — but only in a bookkeeping sense.... They do not consist of real economic assets that can be drawn down in the future to fund benefits. Instead, they are claims on the Treasury that, when redeemed, will have to be financed by raising taxes, borrowing from the public, or reducing benefits or other expenditures. The existence of large Trust Fund balances, therefore, does not, by itself, have any impact on the Government's ability to pay benefits. (from FY 2000 Budget, Analytical Perspectives, p. 337)

The week after his State of the Union speech, Bush downplayed the importance of the Trust Fund:

Some in our country think that Social Security is a trust fund -- in other words, there's a pile of money being accumulated. That's just simply not true. The money -- payroll taxes going into the Social Security are spent. They're spent on benefits and they're spent on government programs. There is no trust. [Amazingly, I agree with Bush on this]

These comments were criticized as "lay the groundwork for defaulting on almost two trillion dollars worth of US Treasury bonds".

... The Social Security trustees recognize that the greatest risk faced by Social Security is not that the US Treasury will default on the bonds held by the Social Security trust funds, but that the Social Security program has consistently promised benefits that it could never afford to pay in the long run, and therefore at some point in the future Congress will be forced to either lower benefits or raise FICA taxes.

Some people believe that this is a myth, claiming that there is nothing of value in the Old Age and Survivors Insurance Trust Fund (OASI) other than government IOUs, which means our government must tax or borrow money from the citizens to pay social security payments in 2017 [now]. They will go so far as to cite sources, such as the 100 pages plus pamphlet from the American Institute for Economic Research.

In truth, those so-called IOU's are interest bearing US Treasury bonds (although, indeed, redemption of these bonds will require the government to pay these funds out of its current tax revenues or further increases of the national debt).

An Economic Perspective on the Structure of the Social Security Trust Fund

From an economic standpoint, the question of whether the trust fund is fact or fiction comes down to whether the trust fund contributes to national savings or not. If $1 of Social Security taxes increases national savings by $1, the trust fund is real. If $1 of Social Security taxes increases national savings by $0, the trust fund is not real. A substantial body of economic research argues that the trust funds have led to only a small to modest increase in national savings and that the bulk of the trust fund has been spent.

The following two scenarios help illustrate the concept. Depending on which scenario is right, Social Security is either an accounting fiction or represents real economic savings.

Scenario 1 (Trust Fund is an accounting fiction): [the reality]
1980: $1 payroll tax collected in 1980
1980: $1 lent by Social Security to the federal government
1980: Federal government increases spending on government programs by $1
2020: Federal government raises taxes by $1 plus interest to repay the loan to Social Security
2020: $1 plus interest transferred from Federal Government to Social Security.

Scenario 2 (Trust Fund represents real economic savings): [wishful thinking]
1980: $1 payroll tax collected in 1980
1980: $1 lent by Social Security to the federal government
1980: Federal government increases spending on government programs by $0
2020: Federal government raises taxes by $0 to repay the loan to Social Security. Any tax increases that occur in 2020 would have happened anyway without Social Security.
2020: $1 plus interest transferred from Federal Government to Social Security.

Social Security debate (United States)

Retirees and others who receive Social Security benefits have become an important bloc of voters in the United States.
Indeed, Social Security has been called "the third rail of American politics" — meaning that any politician sparking fears about cuts in benefits by touching the program endangers his or her political career. The New York Times wrote in January 2009 that Social Security and Medicare "have proved almost sacrosanct in political terms, even as they threaten to grow so large as to be unsustainable in the long run."

Other concerns about Social Security

Critics of the system, such as Nobel Laureate economist Milton Friedman, have said that Social Security redistributes wealth from the poor to the wealthy. Workers must pay 12.4%, including a 6.2% employer contribution, on their wages below the Social Security Wage Base ($102,000 in 2008), but no tax on income in excess of this amount. Therefore, high earners pay a lower percentage of their total income, resulting in a regressive tax. Others would argue the tax is a flat tax. The benefit paid to each worker is also calculated using the wage base on which the tax was paid. Changing the system to tax all earnings without increasing the benefit wage base would result in the system being a progressive tax.


The effects of the gift to the first generation

It has been argued that the first generation of social security participants have, in effect, received a large gift, because they received far more benefits than they paid into the system. ... [See key info on Ida May Fuller above]

As such, the gift to the first generation is necessarily borne by subsequent generations. In this pay-as-you-go system, current workers are paying the benefits of the previous generation, instead of investing for their own retirement, and therefore, attempts at privatizing [or eliminating] Social Security could result in workers having to pay twice: once to fund the benefits of current retirees, and a second time to fund their own retirement.

Criticism of Social Security as a pyramid or Ponzi scheme

Libertarians commonly criticize Social Security's pay-as-you-go funding as being closer to an illegal Ponzi scheme — where investors are paid off out of the funds collected from more investors, instead of out of profits from business activity — than it is to a trust fund.
Michael Kinsley has also described Social Security in this way. William G. Shipman of the Cato Institute argues:

In common usage a trust fund is an estate of money and securities held in trust for its beneficiaries. The Social Security Trust Fund is quite different. It is an accounting of the difference between tax and benefit flows. When taxes exceed benefits, the federal government lends itself the excess in return for an interest-paying bond, an IOU that it issues to itself. The government then spends its new funds on unrelated projects such as bridge repairs, defense, or food stamps. The funds are not invested for the benefit of present or future retirees.

This criticism is not new. In his 1936 presidential campaign, Republican Alf Landon called the trust fund "a cruel hoax". The Republican platform that year stated, "The so-called reserve fund estimated at forty-seven billion dollars for old age insurance is no reserve at all, because the fund will contain nothing but the Government's promise to pay, while the taxes collected in the guise of premiums will be wasted by the Government in reckless and extravagant political schemes." Defenders of pay-as-you-go respond that the system is a Ponzi scheme only if the United States intends to repudiate its debts [This is argument is PURE STUPIDITY! How many people INTEND to go bankrupt?].

Why is Social Security Called the Third Rail of American Politics?
Efforts to reform Social Security perceived as deadly to political careers
By Sharon O'Brien, Guide

It was former U.S. House Speaker Thomas "Tip" O'Neill who first called Social Security the "third rail of America n politics," and O'Neill did as much as anyone to make Social Security a deadly political issue.

How Did Social Security Become the Third Rail of American Politics?

Social Security had become a difficult political issue long before the early 1980s when Tip O'Neill designated it the third rail of American politics. When Barry Goldwater lost the presidency to Lyndon Johnson in 1964, for example, many observers believed the loss was due in part to voter perception that Goldwater wanted to dismantle Social Security.

Established in 1935, Social Security quickly became what its creators initially envisioned: a "comprehensive package of protection" against the "hazards and vicissitudes of life."
Before long, millions of Americans were depending on Social Security benefits, as they still do today, and they weren't going to give them up without a fight.

Reagan Effort to Reform Social Security Inspired "Third Rail" Metaphor

When Ronald Reagan ran for president in 1980, he campaigned on a pledge to preserve Social Security, even though he had supported Goldwater's position 16 years earlier and had argued in favor of making Social Security voluntary. Early in his presidency, Reagan resisted Social Security proposals that he believed would require him to go back on his campaign promise.

But many government officials—including Budget Director David Stockman and Health and Human Services Secretary Richard Schweiker—continued to struggle with the runaway costs of Social Security coupled with rising budget deficits.
Several Social Security programs were facing immediate funding shortfalls at the time, and officials needed to find some way to save $75 billion over five years.

Reagan Plan for Social Security Sparked Unexpected Controversy

Stockman argued for severe and immediate cuts, Schweiker proposed more modest adjustments. At a meeting with the president in May 1981, they and other presidential advisors outlined a plan that would save $80 billion by reducing aid to students who were children of retired workers, cutting disability payments by tightening eligibility requirements, and reducing early retirement benefits that would cut the monthly check for low-income retirees by a third.

Reagan's advisors assured him that Congress would pass the measure with few objections. They were wrong.

Some members of Congress saw the call for immediate cuts in benefits as America reneging on its promises, and O'Neill fanned those sparks into flame in an effort to claim a Democratic win for the American people.

Speaking at a news conference, O/Neill said:
"For the first time since 1935 people would suffer because they trusted in the Social Security system." When a reporter asked O/Neill if Reagan had made a political mistake in trying to overhaul Social Security, O'Neill said: "I'm not talking about politics. I'm talking about decency. It is a rotten thing to do. It is a despicable thing." [Thomas O'Neill should rot in hell]

Second Attempt at Social Security Reform Achieved Temporary Success

The measure was quickly voted down, but a few months later Reagan agreed to the formation of a bipartisan commission to examine Social Security and appointed economist Alan Greenspan as chairman. The commission proposed a mix of benefit reductions and tax increases that become law in 1983. Those changes included extending the retirement age to 67 and requiring people who were self-employed to pay the full Social Security tax instead of the 75 percent they had paid previously.

These changes provided some relief for the troubled system, but only temporarily. Two years later, rising budget deficits sent elected officials back to the table for another attempt to lower the cost of Social Security.
In 1985, a proposal to freeze the annual cost-of-living adjustment for Social Security beneficiaries narrowly passed the GOP-controlled Senate and failed in the House. In the next election, the American voters ousted the Republicans and gave Democrats control of the Senate. Many political observers tied that shift in power to voter anger over the Republican attempt to reduce Social Security payments.

Voters Send Politicians a Strong Message

As a result of the 1986 elections, politicians got the message loud and clear that Social Security was sacred to the American people and tinkering with it—no matter how noble the intentions—was tantamount to political suicide.

That didn't really change until George W. Bush ran for president in 2000, when the Republicans changed their strategy by embracing the idea of "privatizing" Social Security and trying to sell Americans on the vision of getting more money by combining lower guaranteed payments with self-directed investment accounts. This shift led many conservative pundits to declare that Social Security was no longer the third rail of American politics, yet over the next few years privatization failed to move forward and Social Security was still facing a bleak future.

Social Security continues to pose serious financial and political dilemmas for the American people—in part because
it has become standard procedure for the federal government to "borrow" millions of dollars every year from the Social Security trust fund to help provide more money for discretionary spending. And those dilemmas are [going to be resolved in a very nasty way over the next two years] almost certain to continue for several more decades.

Social Security Remains the Third Rail of American Politics

As baby boomers start to retire in record numbers, politicians will be caught between an enormous population of voters who are relying on Social Security to help finance their retirement and another large group of voters that will not want to accept higher taxes to help pay for it.

As the political pressure builds for Social Security reform to preserve benefits without raising taxes significantly, the third rail of American politics is sure to start throwing off sparks once again.

Social Security:
A Social Securit y Reserve Fund? Don't Bet Your Retirement on It
By John F. Cogan

Proposals now in Congress call for the creation of a large reserve fund to keep the Social Security system solvent. A reserve fund? Could Congress be trusted not to spend it?
Hoover fellow John F. Cogan has his doubts.


Congress has before it more than two dozen proposals for reforming Social Security. Many proposals follow the same approach: calling for the creation of a large reserve fund within the federal budget. Such a fund is necessary, proponents argue, to keep Social Security solvent when the baby boom generation retires. The implicit assumption behind Social Security, of course, is that individual citizens won't save the necessary funds for retirement. But can elected officials be expected to exercise the discipline required to build and maintain a Social Security reserve? Or will their efforts yield to inevitable pressures to expand benefits?

Social Security's sixty-year legislative history offers a clear assessment of this approach: It doesn't work.


The original Social Security Act of 1935 contained a financing plan to build a substantial reserve. President Franklin Roosevelt knew that the program's future costs would rise, and he sought to defray some of this burden. Creating a large reserve during the program's early years seemed a sensible approach. But in congressional debates over the plan, many members raised warnings about the dangers of a reserve. "Does anybody believe that such a large sum of money accumulated for any purpose could be preserved intact?" asked Senator Daniel Hastings (R.-Del.). "Does anybody doubt that it would be subjected to all kinds of demands?"

Indeed, within four years, the large-reserve policy collapsed under an avalanche of criticism and increasing pressure for expanding benefits. Some argued that surplus payroll tax revenue was being used to expand the federal government's activities. Arthur Linton, a key adviser to the Roosevelt administration, insightfully noted that "[the] politician had but scant appreciation . . . of the necessity of forgoing the expenditure of current revenue in favor of investing it to benefit voters of the more or less distant future."

Others argued that even if Congress did have the discipline not to spend the reserve, it was nonetheless wrong to rely on regressive taxes to build it. Abraham Epstein, another administration adviser and the author of two influential books on Social Security, noted that "even if it were . . . possible to reduce the National Debt, no more antisocial means of accomplishing this could be imagined than through a tax on work directly or indirectly—a tax hard to bear and repressive of employment." Critics also noted that Germany and Britain, two pioneers in the establishment of social security programs, had abandoned attempts to maintain significant reserves.

Meanwhile, the growing reserve attracted advocates who lobbied for expanding eligibility and benefits. By 1939 the reserve that had seemed such a good idea four years earlier had become a political liability. Congress responded by enacting legislation to dissipate the reserve. The new law raised benefits, delivered them a year earlier than the original law had planned, and added survivors and dependents of eligible workers to the rolls.


Throughout the history of Social Security, whenever there has been a large reserve, Congress has invariably spent it.


The 1940s wartime economy generated a series of apparent Social Security surpluses. By 1950 the trust fund balance had grown to a level large enough to finance benefits fully for the next decade. But this balance existed only on paper. The war's cost had also driven up the national debt, which had registered a fivefold increase during the 1940s. One reason was that the federal government had used surplus payroll taxes to finance the war effort, so as to limit increases in other taxes. Because of this, the trust fund was given credit for debt reduction that had never occurred.

Nevertheless, the large apparent reserve generated spending pressures that manifested themselves every two years. Social Security presented members of Congress with a new means of publicly financing their reelection campaigns. In each election year from 1950 through 1960, Congress raised benefits or expanded eligibility. Each time, except one, the liberalization was scheduled to take effect within a month of the general election. The benefit increases were large; the Social Security Amendments of 1950—1954 more than doubled the typical recipient's benefits.

During the 1960s, the U.S. economy entered a decade-long period of strong economic growth, which fueled large increases in payroll tax revenue. Forecasts of the trust fund's near-term growth during 1965—1973 were consistently the largest in the program's history. Instead of holding the surplus, Congress expanded benefits. In just these nine years, Congress enacted seven across-the-board increases that raised benefits by 83 percent, a third more than inflation. This period of extravagance ended with a 20 percent across-the-board benefit increase that first appeared in Social Security checks five weeks before the 1972 election.

Some observers believe that the coming retirement of the baby boom generation has made elected officials more financially responsible. Don't bet on it. Social Security's demographic problem is nothing new. Knowledge of large projected increases in the size of the beneficiary population has never deterred elected officials from spending surplus Social Security funds. In the 1930s, the projected thirty-year growth in the elderly population, relative to the total population, was even larger than it is today. Yet political pressures spurred the federal government to spend the reserve by adding new categories of beneficiaries and increasing the level of benefits. In early 1950, Social Security actuaries estimated that the number of beneficiaries per worker would rise by 170 percent in the ensuing thirty years, compared with today's thirty-year estimate of only 70 percent. Yet in 1950 alone, the federal government granted a 77 percent increase in benefits for current and future retirees.


Observers often point to the absence of legislation expanding benefits during the late 1970s and 1980s as evidence that elected officials won't spend the surplus. But the more likely reason benefits didn't expand during those years is that the trust fund balances were persistently low. In fact, recent behavior suggests that today's elected officials are no more capable of restraint than their predecessors. In 1992, a prior decade of strong economic growth had raised the trust fund balance to an amount that could finance one year's worth of benefits. Two years later, Congress voted to lower the Social Security payroll tax and raise the disability insurance payroll tax by equal amounts. This had the practical effect of diverting Social Security revenue that had been earmarked for future recipients to current recipients of disability benefits. The diversion, which continues today, has already drained $50 billion from the Social Security trust fund.

The lesson of Social Security's history should be clear: Unless elected officials suddenly stop behaving the way they have for the past sixty years, any attempt to ensure Social Security's solvency by building a large trust fund reserve will likely fail. As former congressman Andrew Jacobs (D.-Ind.) put it: "It'll be like walking through a bad neighborhood with a diamond ring." The pursuit of such a reserve will ultimately lead to program expansions, either in Social Security or elsewhere. It will raise the burden of government borne by both current and future generations of taxpayers.

In addition to some workers opting not to participate in DC pensions, saving rates are considerably low among people of all ages and income levels (Korczyk, 1998; Mitchell, 1996; 2000). Numerous studies have documented people's lack of financial preparedness for later life needs. Data from the Health and Retirement Survey13 (HRS) reveal that almost one third of people ages 51-61 had not started to plan for retirement, and many have very few financial resources (Lusardi, 1999). While over half of households had less than $6,000 in financial wealth (includes money in checking and saving accounts, stocks, bonds, and other financial assets minus short-term debt), one-quarter of households had less than $30,000 in total net worth (includes financial wealth, IRAs/Keoghs, housing equity, and other assets) (Lusardi, 1999). According to Mitchell (1996), HRS respondents are heading into retirement with only approximately $100,000-$110,000 in resources (includes pensions, financial wealth, and other assets and sources of income). This amount is quite small considering individuals are spending up to one-fourth or even one-third of their lives in retirement.

Retirement planning research is also critical because, in the next decade, the large cohort of Baby Boomers (born 1946-1964) will begin to exit the labor force. As the youngest Boomers reach age 65 in 2030, the size of the older population in the U.S. is expected to double from 35 to 69 million people, an increase from 13% to 20% of the total population
(Cutler & Hendricks, 2001). Policymakers, gerontologists, and the public have expressed concern about the impact large demographic change will have on society and individuals. In particular, many experts have questioned whether the Social Security Trust Fund will be able to pay promised benefits to the large number of Baby Boomers entering retirement, as well as future younger cohorts of retirees (Gale, 1999; Myers, 1999).

Finally, contradictory trends in labor force participation behaviors raise questions about the feasibility of retirement at current modal ages for future cohorts. The amount of time people spend in the labor force has been decreasing since the early 1980s. People have, on average, been devoting more time to their education, so their entrance into the labor market is delayed (Settersten, Rumbaut & Furstenberg, in press). In addition, as highlighted earlier in this chapter, the trend toward early retirement (Costa, 1998; Burtless, 1999) compresses time spent in the labor force. Life expectancy has been steadily increasing (Burtless, 1999), so people are now spending up to one-third of their lives in retirement. This has important implications for retirement income. While people are in need of retirement income for a larger number of years, they are spending fewer years in the labor force. This means people are contributing to retirement fund programs (e.g., Social Security, pensions plans, and IRAs) for a smaller number of years, which has negative implications for both individuals' total assets and the funds available to state programs to make promised payments. As an example, while there were approximately 16.7 workers for every Social Security beneficiary in 1950, today there are currently only around 4 workers (Frostin, 1999). Declining numbers of workers are predicted in the future, and they will have to support the swelling number of retirees.

The Accounting Cycle
The Biggest Accounting Fraud: Social Security
By: J. Edward Ketz

January 2005 — If the President and members of Congress and those responsible for the management of the federal government were CEOs and CFOs and directors of business enterprises, they might be in prison today.

I wince when I hear them discuss budget deficits and budget surpluses and the future of Social Security. Maybe they don't know what they are talking about, which is bad enough given their enormous responsibilities. But then again, maybe they do understand, in which case they are as guilty of accounting fraud as Skilling and Lay.

The president has started a campaign to allow the partial privatization of Social Security. Republicans view this as a way to save Social Security and to allow average persons to earn more than the pathetic return on their Social Security investments. Democrats lately have countered that there is no crisis, citing the Congressional Budget Office's claim that funds will exist until 2052. As is typical, whenever the two parties debate an issue, they are both wrong.

The key to comprehending the subject is to conceptualize Social Security as one of the government's special purpose entities (SPE). Ever since the passage of the unified budget act during the Nixon administration, the government has had the privilege of looting the Social Security funds by transferring the money into the general fund, from which Congress can spend on whatever pork projects they wish. This ingenious way of raising taxes without explicit legislation has allowed the president and the Congress the use of an extra $2 trillion over the years.

Unfortunately, the funds are as depleted as one of Adelphia's SPEs. John Rigas might even h ave learned his scheme from Washington! Recall one of the tricks employed in the Adelphia scandal. Rigas set up an SPE that borrowed money from outside investors. In turn, the SPE lent money to Adelphia and held receivables from Adelphia. Of course, the corporation did not consolidate the SPE with its operations, so outsiders did not appreciate the existence of the SPE's liabilities. On the other hand, Adelphia did not bother to recognize its debts to the SPE, arguing that they are off-balance sheet items. The scheme came tumbling down when the investors discovered that the SPE was sitting on a lot of worthless receivables.

Under unified budgeting, Social Security works the same way, with American laborers serving as the investors. The workers transfer some funds in the form of Social Security taxes to the social security fund. The Social Security fund takes this cash and gives it to Congress to disburse as it chooses. And Congress refuses to combine these activities with the general fund, treating it as an off-balance sheet liability. Some day this scheme will come crashing down.

The Congressional Budget Office and Democrats make the mistake of believing that Social Security has $2 trillion of assets without examining and realizing that these assets predominately consist of receivables from the general fund. These receivables aren't collectible unless additional taxes are imposed on the populace. (As an aside, what type of return would an investor enjoy if he or she had to ante up the cost of the investment not once but twice?)

Republicans led by Bush make the mistake that privatization solves the problem [Agreed]. Emphatically, it does not. It will still require about $2 trillion to clean up this accounting scandal whether or not privatization occurs. This amount will continue to climb until Congress repeals the unified budget act. (What is attractive about privatization is that it will force Congress' hand since the cash from Social Security is no longer available for its members to loot. Also a plus is that it will start the evolution from an unsound defined benefit plan to a sound defined contribution plan.)

In short, Congress must repeal the unified budget act to prevent further looting of Social Security and to report budget deficits correctly. The second step is to find a way of fairly generating $2 trillion over the next few years to pay back the American workers. I suggest removing the cap on Social Security taxes so that those earning over $87,500 can chip in and help. I would also define stock options as compensation to make sure those who receive corporate stock options do their share to save Social Security.

My reaction: I will write reaction when I publish full entry tomorrow.

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3 Responses to Researching Social Security

  1. Jimmy says:

    Hello Eric,

    you would like this article:

    China inflation scamble now official, worlds second largest economy prepares cold war. Zerohedge

    Looks like your prediction would be right...



  2. Sebastian says:

    Since you live in Russia now, how is social security there? Is it better or worse than in the Soviet Union?

  3. dood says:

    How dare this taxpayer funded institution ask the taxpayers for a bailout! Taxpayers should have exercised foresight, but instead they will just coming running to the taxpayer for help. (For the sarcastically challenged, my point is that the corporate bailout is a poor analogy for what is happening here)

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