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August 1, 1998

The Congressional Response to Social Security Surpluses, 1935-1994

Summary

Congress has before it more than two dozen proposals for reforming Social Security. Many proposals call for the creation of a large reserve fund within the federal budget. This fund is necessary, proponents argue, to keep the Social Security program solvent when the baby boom generation retires and begins to draw its benefits.

This essay presents a historical examination of the federal government's policy toward Social Security reserves. The historical review casts doubt on the viability of sustaining a large reserve policy. From time to time throughout the program's history, policy decisions, wartime economic conditions, and business-cycle expansions have created large reserves or projections thereof. Those reserves have generated pressures for greater spending. Congress has invariably responded by raising benefits or expanding eligibility.

These results contain an important implication for Social Security reform. Unless a method can be found for altering congressional behavior from its sixty-year norm, any attempt to ensure Social Security's solvency by building a large trust fund reserve will likely prove futile. A large reserve will lead to higher spending. In doing so, it will add to the burden of government borne by both current and future generations of taxpayers.


Essay

Part 1

"It'll be like walking through a bad neighborhood with a diamond ring."
—Former Congressman Andy Jacobs (D-Ind.) in response to a query about building Social Security reserves1

INTRODUCTION

Social Security is financially insolvent.2 Although annual Social Security trust fund receipts currently exceed expenditures, this situation will be reversed when the baby boomers begin retiring. In 2012, the fund will begin to draw on its accounting reserves. By the year 2032, the program will have exhausted these reserves and be unable to pay benefits.3 The degree of underfunding is severe. The present value of promised benefits exceeds the present value of future revenues to the fund by $11 trillion, $40,000 per United States resident.4

The Social Security reform debate is dominated by two basic approaches. One favors keeping the current program structure largely intact. Financial solvency would be achieved by reforms that reduce benefits and raise payroll taxes. The other favors phasing out all or part of the existing federal program and replacing it with a program to enhance private savings.

Successfully implementing either approach would require building a sizable reserve to defray future costs. The first approach requires the federal government to build and maintain a large reserve, which, according to recent estimates, would total more than $14 trillion.5 The second approach requires millions of individuals to build personal reserves in private mutual funds or other investments.

This essay presents a historical examination of the federal government's policy toward Social Security reserves and casts doubt on the viability of sustaining a large reserve policy. From time to time throughout the program's history, policy decisions, wartime economic conditions, and business-cycle expansions have created large reserves or projections thereof. Those reserves have generated pressures for greater spending. Congress has invariably responded by raising benefits or expanding eligibility.

The original Social Security Act of 1935 contained an explicit policy of building a large reserve. Within four years, the reserve policy collapsed under a firestorm of criticism from both conservatives and liberals. Its collapse led to the program's first liberalization, one that occurred even before the first benefits were paid. Next, a large reserve built up during World War II led to a series of benefit increases immediately following the war. The across-the-board benefit hikes from 1950 to 1954 alone raised benefits by over 100 percent. Large surpluses generated by strong economic growth during the 1960s led to another round of expansions. Benefits were raised 83 percent between 1965 and 1972. Surpluses in recent years led to legislation in 1994, which diverted Social Security revenue to the disability insurance program. To date, more than $50 billion in revenue has been diverted. In 1996, legislation raised benefits for working elderly persons.

This historical record is supported by a statistical analysis that quantifies the historical relationship between legislative changes in benefits and the trust fund's financial status. The larger the reserve and its projected short-term growth, the larger the legislative expansion. The analysis also shows that the program's long-term financial status has had little impact on congressional action to expand or contract benefits. Finally, the statistical analysis finds little support for the contention that recent Congresses have been more successful than their predecessors at practicing self-restraint in the face of surpluses.

Those results contain an important implication for Social Security reform. Unless a method can be found for altering congressional behavior from its sixty-year norm, any attempt to ensure Social Security's solvency by building a large trust fund reserve will likely prove futile. A large reserve will lead to higher spending. In doing so, it will add to the burden of government borne by both current and future generations of taxpayers.

LEGISLATIVEHISTORY

The Social Security Act of 1935

During the development of the original Social Security plan in 1934-35, there was widespread recognition that the program's future costs would be higher than its initial costs. The number of elderly persons was expected to more than double relative to the total population during the ensuing fifty years.6 Also, under the program's basic design, the larger an individual's payroll tax contributions, the greater the benefits the person would receive. An individual who began contributing to the program in 1937 and retired in 1942 would receive benefits based on only five years of contributions. A similar person who retired in 1962 would receive benefits based on twenty-five years of contributions.

The issue of how to finance these rising payments received paramount attention throughout the Social Security Act's development. President Franklin Roosevelt articulated one key financing principle: that the program be self-financing "in the sense that funds for the payment of insurance benefits should not come from the proceeds of general taxation."7 The self-financing requirement could be accomplished either by a "pay-as-you-go" financing policy or by building a reserve.

Under the Roosevelt administration's reserve policy, tax rates would be initially set to raise revenue in excess of the amount required to finance initial benefits. Excess revenue would be used to build a reserve. Interest earned by "investing" the reserve would be used to partially finance future benefits. The investment would be in the form of reducing the outstanding national debt held by the public. The lower national debt would lower interest payments. The savings in interest payments would be credited to the Social Security program. The portion of Social Security benefits financed by the reserve, therefore, would not represent an additional tax burden on future generations but would be offset by the reduced burden of financing the national debt.8

Thus, the Roosevelt administration never intended that the reserve would hold assets. Rather, it would be solely an accounting device to record the amount by which surplus payroll tax revenues reduced the national debt and interest payments on that debt. The reserve would provide a proper accounting only if surplus payroll tax revenue did not lead to any increase in governmental spending or reduction in taxes and no general fund revenues contributed to the reserve.

Under the pay-as-you-go policy, tax rates would be set to raise only the amount of revenue required to finance that year's benefit payments. As benefits rose over time, taxes would rise pari pasu.

Proponents of the pay-as-you-go approach argued against the reserve on the grounds that it would cause fiscally irresponsible behavior. Congress would use the surplus revenue to reduce the federal budget deficit instead of reducing federal government spending or increasing federal taxation. Worse, attempts to create a reserve would lead Congress to liberalize Social Security benefits or expand other federal government programs. As Senator Daniel Hastings (D-Del.) asked, "Does anybody believe that such a large sum of money accumulated for any purpose could be preserved intact? Does anybody doubt that it would be subjected to all kinds of demands?"9 In either case, the national debt would not be lowered by the amount of the surplus, if at all, and the reserve would itself become an added tax burden for both current and future generations.

In August 1935, Congress passed the Social Security program.10 The new law imposed initial taxes in excess of benefits and established a policy of building a sizable reserve. The Senate Finance Committee estimated that the reserve would reach the extraordinary sum of $47 billion by 1980, an amount more than 50 percent larger than the national debt in 1935.11

The reserve policy did not last long. Within four years, the policy collapsed under an avalanche of criticism from all sides of the political spectrum. The story of the reserve policy's demise is instructive to the current debate.

The debate was carried on first in professional journals and then in popular magazines. The debate in professional journals was careful and restrained. The debate in popular magazines was often vitriolic and unrestrained.12 The two leading critics, Arthur Linton, vice president of the American Society of Actuaries, and Abraham Epstein, executive director of the American Society for Social Security, argued that the large reserve would produce unwarranted benefit expansions.13 According to Epstein, Congress would bend to "political pressure for benefits larger than socially necessary and beyond the country's capacity to sustain."14 Both critics pointed out that successfully maintaining a large reserve was contrary to experience abroad. Germany and Great Britain had abandoned initial attempts to build surpluses and operated their programs on a pay-as-you-go basis.15 Epstein also expressed the view that even if Congress practiced self-denial and used surplus payroll tax revenue to reduce the national debt, such a policy would be unfairly regressive. In the absence of surplus payroll tax revenue, the debt would be reduced by progressive income taxes.16

The debate became part of the 1936 general elections when the Republican Party adopted a plank in its platform calling for the reserve's abolition.17 Throughout 1937 and 1938, the debate grew increasingly public and the rhetoric became increasingly hostile. Articles calling for abandoning the reserve appeared in Harpers, the New Republic, the American Mercury, BusinessWeek, Time, and Newsweek magazines. The reserve was called almost every imaginable name: a "solemn and cruel farce," a "hoax," and a scheme of "hollowness and humbuggery."18

In 1939, the Roosevelt administration reversed its position and supported abandoning the large reserve policy. Later that year, Congress moved to dissipate the surplus. The 1939 law raised benefits, moved forward the date at which benefit payments would begin, and established new benefits for survivors and dependents. It also delayed until 1943 a previously scheduled payroll tax increase.

Under the new financing policy, only a "contingency reserve" equal to "three times the highest annual expenditure anticipated in the ensuing five-year period" would be maintained.19 Under this new policy, Social Security financing consisted of two elements: (1) the contingency reserve (the short-term component) and (2) that the program be self-sufficient (the long-run component). The self-sufficiency policy would later be formalized to require that the long-run actuarial balance--the difference between the present value of income and outgo--be close to zero.

The 1939 amendments also established a trust fund for the Social Security program. In practice, the trust fund had no effect on the amount or manner in which taxes were collected, no effect on the disposition of payroll taxes once they entered the Treasury, and no impact on the size or distribution of benefits. The Social Security trust fund was like no other private retirement fund. It held no assets, except debt obligations that were issued by another government fund. The interest rate earned was statutorily set and independent of the uses to which the funds were put. The trust fund was just a reserve by another name--a labeling device designed to provide political protection against the charge that the funds were being misspent.

The War Years

The effort expended to fight World War II had a dramatic impact on Social Security's finances. High employment and delays in retirement produced large annual trust fund surpluses. By 1942, the surpluses had created a reserve that was five times the highest annual expenditure during the next five years. The previously scheduled payroll tax increase, effective in 1943, became the focal point of debate over the reserve. The Roosevelt administration favored allowing the increase to take effect. The president wanted to finance at least half of the war's cost with current taxes.20 This goal could be met either by permitting the scheduled payroll tax increase to occur or by raising other taxes by an equal amount. The total amount of tax revenue, the amount of federal borrowing, and the national debt would be the same under both options. Yet if the payroll tax increase were chosen, the Social Security trust fund reserve would rise. The higher reserve would reflect a national debt reduction that had in fact not occurred. The debate was resolved when Congress enacted legislation delaying the payroll tax increase for one year.

The debate over the payroll tax hike was replayed with minor variations throughout the remaining war years. Thus, the payroll tax increase originally scheduled to take effect in 1939 was delayed in 1943, 1944, and 1946.

The Post-World War II Years

The size of legislatively enacted changes in Social Security benefits and the trust fund's short-term financial status for 1950-73 are presented in table 1. The percent change in benefits is a long-run measure of the impact of legislatively enacted changes in benefits. The reserve ratio is the amount of money in the trust fund at the beginning of the year relative to expenditures from the fund during the year. The three-year reserve ratio growth is the percent change in the reserve ratio that was projected at the beginning of the year.

The first of the postwar expansions came in 1950. The wartime policy of delaying the payroll tax increase had not been sufficient to prevent the reserve from rising. By 1950, the reserve had grown to $11 billion--enough to fully finance benefits for the next decade. Moreover, projected revenues were running well ahead of projected expenditures, adding two to three billion dollars each year to the reserve. Without any change in taxes or benefits, the reserve would grow to more than $20 billion by the mid-1950s--an amount sufficient to finance the next two decades of benefits.21

These surpluses fueled three large legislative expansions during the early 1950s. Legislation enacted in 1950, 1952, and 1954 doubled monthly benefits for current and future recipients and added millions of new beneficiaries. The 1950 amendments, the most expansive in the program's history, immediately doubled the program's expenditures. The 1950 legislation raised benefits by an average of 77 percent.22 The 1952 amendments increased average benefits by another 12.5 percent, and the 1954 amendments raised benefits by 13 percent.23 In each case, the higher benefits were paid starting in October of the year, one month before the year's general elections.24

The long-run financial outlook apparently played a small role in restraining the benefit increases. A growing elderly population and the program's natural maturation guaranteed that expenditures would rise throughout the century.25 Reflecting these factors, estimates published just before the legislation in 1950 and 1954 showed a negative long-run actuarial balance.

The Decade of Modest Growth: 1955-64

By the mid-1950s, the days of large and rising reserves were over. The projected short-run growth in the reserve ratio became consistently negative from the mid-1950s to the early 1960s (see table 1). Those negative projections, representing a dramatic reversal from the recent past, were largely borne out. The trust fund ran its first annual deficit in 1958, and deficits occurred in three of next four years.

During the period from 1955 to 1964, Social Security amendments were enacted in 1956, 1958, 1960, and 1961. Reflecting the trust fund's short-term financial difficulties, the size of these legislative expansions was modest.26 Benefit levels were raised only once, in 1958, and by only 7 percent. In 1956, women were permitted to collect early retirement benefits at age sixty-two. The same benefit was extended to men in 1961. The 1960 and 1961 amendments reduced the length of time a person was required to work in covered employment before becoming eligible.27

The largest of the four amendments (7.5 percent in 1958) was smaller than the smallest benefit increase in the first half of the 1950s (9 percent in 1952). On average, the amendments raised outlays by only 3.7 percent, far less than the amendments of the early 1950s.28

The Second Growth Period: 1965-73

Following a recession in the early 1960s, the U.S. economy entered into a decade-long period of strong economic growth. This growth, coupled with a sharp increase in the number of women entering the workforce, fueled large increases in Social Security payroll tax revenue. By the mid-1960s, those increases were reflected in the fund's actual and projected financial status. In early 1965, the reserve ratio was projected to increase for the first time in nearly a decade. Forecasts of the reserve ratio's three-year growth made during 1967-73 were consistently the largest in the post-World War II era. Each year's forecast called for the reserve to rise within three years to well over the amount needed to pay the next year's benefits.

Expectations of large surpluses had a powerful impact on legislation. During the eight-year period 1965-73, seven across-the-board increases were enacted. Benefits were raised by 7 percent in 1965, by 13 percent in March 1968, by 15 percent in April 1970, by 10 percent in March 1971, and by 20 percent in October 1972. Two benefit increases totaling 11 percent were enacted in 1973. The cumulative impact of these increases was to raise benefits across the board by 83 percent. In addition, special benefits to widows, children, divorced spouses of primary workers, and the working elderly were significantly expanded.

The process that led to the 1972 increase warrants special mention because it illustrates the importance of a large reserve in an electoral setting.29 In early 1972, the reserve totaled $34 billion, only enough to finance one year's worth of benefits. But because of projected strong economic growth, the reserve ratio was forecast to increase by more than 50 percent during the ensuing three years--the fastest growth in the post-World War II era.

During 1971, the House had passed a 5 percent increase in benefits and the Senate Finance Committee had responded with a 10 percent increase. A stalemate over welfare reform prevented either increase from being enacted. Edmund Muskie opened the 1972 presidential election season with a call for an across-the-board 15 percent increase. Within weeks, his bid was raised, first by presidential candidate Wilbur Mills to 20 percent, then by candidate Hubert Humphrey to 25 percent. President Nixon opposed these increases as exorbitant until July, when Congress sent him legislation raising benefits by 20 percent effective in October, just before the general elections. The president not only signed the bill into law but also claimed credit for it.30>

By the end of 1972, Congress came to realize that its record at practicing self-restraint in the midst of surpluses was dismal. Every Congress during the years 1949-73 except one had enacted an expansion in benefits. Seven of the twelve Congresses had enacted increases during congressional election years. Although compensating recipients for inflation was often the rationale for benefit hikes, the increases went far beyond inflation. By 1972, benefits had been raised by 68 percent more than the amount necessary to compensate for the inflation that had occurred since 1940.31

That realization led to the enactment of automatic cost-of-living allowances (COLAs). The annual adjustments would begin in 1975 and would be received in the first month of the year.

The decline in the reserve relative to the size of the program led Congress to alter the short-run policy target. From 1950 to 1960, the reserve declined from fourteen to one year's worth of benefits. Throughout the 1960s, it remained at one year's worth of benefits as legislative expansions prevented growth. The 1939 contingency reserve policy had been violated every year since the mid-1950s and was formally abandoned in 1970. The new policy was designed to match earlier congressional behavior and called for a reserve equal to one year's outlays.32

The Period of Retrenchment: 1977-83

In 1974, the U.S. economy began to deteriorate and along with it Social Security's rosy forecast. The combination of high inflation and high unemployment, recently enacted large benefit increases, and an error in the 1972 law establishing automatic COLAs significantly worsened the trust fund's financial condition. (The error overindexed initial benefits for new recipients.)33 By early 1975, the reserve had fallen to seven months of benefits and would be exhausted by 1982.

Congress responded in 1977 with major increases in payroll taxes and, for the first time in the program's history, some reductions in benefits. On the benefits side, the major change was to correct the indexing flaw.

The 1977 amendments solved both the near-term and the long-term financial problem but only temporarily.34 In the ensuing four years, rapid inflation produced additional expenditures and rising unemployment generated little revenue growth. By early 1981, the reserve had fallen to two months' worth of benefits and was projected to be exhausted in two years. President Ronald Reagan and Congress created a bipartisan commission chaired by Alan Greenspan to recommend a solution to the financing problem. The commission issued its recommendations in January 1983, and Congress enacted most of them in March 1983.

The 1983 amendments, like the 1977 amendments, raised taxes significantly and modestly reduced future benefit increases. Most benefit reductions were designed to solve the short-term financing problem. To partially address the long-term financial problem, however, the retirement age was gradually increased beginning in the year 2001.35

Developments since 1983

Following the 1983 amendments, no significant Social Security legislation was enacted for the next ten years. The absence of legislation is not surprising. The trust fund's short-run financial status throughout those years was poor. The trust fund balance remained below six months of benefits during the 1980s (see table 2).36

When the reserve ratio eventually rose above unity during the early 1990s, the legislative response was a familiar one. By early 1994, the reserve had risen to fifteen months' worth of benefits. In historical perspective, both the reserve ratio and its projected growth were high. The last time the reserve held fifteen months' worth of benefit payments was in 1963, and the 20 percent projected growth was the highest since the early 1970s. However, the program's long-term financial problem still loomed large. At the beginning of 1996, the long-term actuarial imbalance was as large as it had been in 1981.

In 1994, Congress voted to divert surplus revenue from the Social Security trust fund to the disability insurance program, which was in financial trouble because of a large rise in the number of recipients in preceding years. Rather than reform the program's eligibility rules, Congress raised the disability insurance tax rate and lowered the Social Security tax rate by identical amounts. By the end of 1998, the cumulative amount of revenue diverted from Social Security will reach $50 billion, one-tenth of the reserve. In 1996, Congress increased benefits paid to working elderly persons.

Part 2

SUMMARY OF THE STATISTICAL ANALYSIS

Regression analysis has been used to assess the extent to which legislatively enacted changes in benefits have been driven by the trust fund's short-run and long-run financial status at the time of legislation. The results using observations on legislative changes during the years 1950-73 are reported in the appendix and are more elaborately described in Cogan (1998).37

The regression provides strong statistical evidence that the program's short-run financial status drove the magnitude of legislative changes in Social Security, at least over the years before the introduction of automatic COLAs. Both the reserve ratio and its projected three-year growth rate are statistically significant (at the 95 percent confidence level). Similarly, all regressions indicate that the program's long-run financial status appears to have played little or no role. The coefficient on the long-run actuarial balance does not approach statistical significance.

Changes in Congressional Behavior since 1983

The results in my analysis rely heavily on legislative actions that took place in the past. It is possible that recent Congresses have become more sensitive to the program's long-run financial problem since the 1970s and early 1980s. Unfortunately, the absence of legislatively enacted changes in benefits since automatic COLAs were introduced (only three since 1975) makes it impossible to confidently infer much about the determinants of legislative behavior regarding Social Security in recent years.

Nevertheless, a tentative assessment is possible. The regression estimates reflect congressional behavior during an era when Congress was driven by short-term considerations and had little regard for the long-term problem. If recent Congresses have become more cognizant of the program's long-run financial problems, we would expect the regression to overpredict the magnitude of recent benefit increases.

For a comparison of predicted and actual increases for each Congress between 1986 and 1996, see table 3. Until 1996, there was no legislation enacting increases in benefits. For these years, actual increases are the COLAs received by beneficiaries during each Congress. Although the predicted benefit increases exceed the actuals from 1986 to 1992, thereafter the reverse is true. None of the differences approaches statistical significance. Hence there is little reason to believe that recent Congresses have behaved any differently than their predecessors in the 1950s through the 1970s.

CONCLUSIONS

According to a recent actuarial analysis, Social Security's long-run imbalance is 2.19 percent of the program`s payroll tax base, an amount equal to about 20 percent of the existing tax rate. This fact has led some policy analysts to conclude that the program's financial problems can be solved without altering the program's basic structure. A combination of tax increases and benefit reductions that total 20 percent of the program's tax base, if enacted soon, can ensure solvency. This reasoning implicitly assumes that Congress is capable of building and maintaining a surplus in the trust fund.

The analysis presented in this essay challenges that assumption. Throughout the program's history, the existence of a surplus or a projected future surplus has generated pressures for additional spending. Congress has invariably responded by raising Social Security benefits or expanding eligibility. As a result, surpluses have been dissipated and projected surpluses have rarely materialized. My statistical analysis has found no evidence to support the contention that congressional behavior has changed in recent years.

Tables and Appendix

TABLE 1


SOCIAL SECURITY BENEFIT INCREASES, 1950-73

Year Percent Change in Benefits Reserve Ratio Three-Year Reserve Ratio Growth
1950 92.3 14.4 8.9
1952 9.4 7.2 5.4
1954 18.0 5.5 -3.5
1956 3.1 3.9 -15.8
1958 7.3 2.9 -27.3
1960 0.7 1.8 -14.2
1961 2.9 1.6 -20.6
1965 10.4 1.2 7.4
1967 14.8 1.0 53.9
1969 15.0 1.0 56.6
1971 9.9 0.9 38.2
1972 20.0 0.9 51.6
1973 11.0 0.7 -0.9

TABLE 2


SOCIAL SECURITY'S SHORT- RUN FINANCIAL STATUS 1986-96

Year Reserve Ratio Reserve Ratio Three-Year Growth
1986 0.20 93.1
1988 0.31 166.6
1990 0.68 88.6
1992 1.03 39.8
1994 1.29 33.6
1996 1.48 22.4

TABLE 3


PREDICTED VS. ACTUAL BENEFIT INCREASES, 1986-96
(IN PERCENT)

Year Actual Predicted Standard Error Prediction
1986 4.4% 11.2% 7.4%
1988 8.4% 21.1% 13.1%
1990 10.4% 12.4% 8.6%
1992 6.8% 3.6% 6.9%
1994 5.5% 1.1% 8.1%
1996 5.3% -1.7% 8.8%

APPENDIX


REGRESSION ESTIMATES:
SOCIAL SECURITY BENEFIT INCREASES, 1950-73

Variable Coefficient T-Statistic
Reserve ratio 0.023 6.2
Reserve growth 0.135 2.2
Actuarial balance 0.047 1.2
Inflation 0.464 3.6
Constant -0.007 -0.6
Autocorrelation -0.54 -6.2
R2 = 0.94
F-Stat = 46.3

NOTES

1 Lee Smith, "Trim That Social Security Surplus," Fortune magazine, August 29, 1989.

2 Throughout this essay, the term Social Security applies to the Old-Age and Survivors Insurance Program. The term's origin dates back to 1935, when the House Ways and Means Committee adopted it to distinguish its bill from the Roosevelt administration's proposal (Witte 1962).

3 Board of Trustees, 1998.

4 Martin Feldstein, "The Missing Piece in Social Security Analysis," American Economic Review, May 1996, p. 1.

5 Advisory Council (1995), p. 196.

6 The long-term demographic projections at the time depicted a more severe problem than today's projections. The 1935 projections estimated that the percentage of the population age sixty-five and older would increase to 12.6 percent in 1990 from 5.4 percent in 1930 (Committee on Economic Security 1935, 141). Under current projections, the percentage is expected to rise in sixty years to 20.8 percent from its 1990 level of 12.3 percent.

7 Committee on Ways and Means, Message of the President (1935), p. 14.

8 Henry Morgenthau made this point in testimony before the Ways and Means Committee. According to Morgenthau: "The reserve would be used to progressively replace the outstanding public debt with the new liability . . . for old-age annuities. To the extent that the receipts from the old-age annuity taxes are used to buy out present and future holders of Government obligations, that part of the tax revenues that is now paid out to private bond holders will be available for old-age annuity benefits." (Committee on Ways and Means, Statement of Henry Morgenthau, 1935, 899.) The interest rate payable on the reserve would be statutorily set at 3 percent.

9Congressional Record 1935, 9419.

10 The president's original proposal failed to meet his self-financing principle. Instead, the plan called for unspecified general fund revenues to be used to finance benefits beginning in 1965 (Witte, Testimony before Ways and Means Committee, 1935). The plan to impose a large unfunded liability on future generations was not well received in Congress. During Ways and Means Committee hearings, Representative Carl Vinson (D-Ky.) stated his concerns in mild terms: "In the minds of some of us here is whether or not this Congress can consider passing the buck to the people in 1965 to 1980" (Committee on Ways and Means, 1935, 1014). Administration officials went back to the drawing boards, and two weeks later the secretary of the Treasury, Henry Morgenthau, appeared before the Ways and Means Committee to offer a revised financing plan. The revised proposal met the self-financing requirement. The payroll tax would be set at a higher level and would generate a sizable reserve. Interest from the reserve plus payroll tax revenues would be sufficient to cover the program's projected expenditures (Committee on Ways and Means, Statement of Henry Morgenthau, 1935, 899).

11 The public debt at the end of 1935 stood at $28 billion (Department of the Treasury 1980, 62).

12 For a sample of the debate in professional journals, see the exchange between Willcox (1937) and Brown (1937).

13 Linton had served as an adviser to the Roosevelt administration on Social Security, and Epstein had authored two influential books on the program.

14 Abraham Epstein, Insecurity: A Challenge to America (New York: Random House, 1938), p. 806. Similarly, Linton attacked the reserve as the program's "most dangerous feature." Attempts to build a reserve would "lead either to a dangerous liberalization of the benefits or to a program of unsound governmental spending" (Albert Linton, "Old-Age Security for Everybody," Atlantic Monthly 157 ;ob1936;cb).

15 Epstein used the Roosevelt administration's projections to demonstrate his point. The government would finance the payment of benefits in the year 1980 by using $2.3 billion of payroll taxes paid that year and $1.3 billion of interest earned on investments of prior surplus payroll taxes. Where would the federal government come up with the $1.3 billion but "from other levies on practically the same people just as if the reserves had never existed" (Abraham Epstein, "Away from Social Security," New Republic, January 4, 1939).

16 According to Epstein, "even if it were wise and possible to reduce the national debt, no more antisocial means of accomplishing this could be imagined than through a tax on works--directly or indirectly--a tax hard to bear and repressive of employment" (Epstein, Insecurity, p. 807).

17 The Republican Party platform (1936).

18 John Flynn, in an article for the February 1939 issue of Harpers magazine entitled "The Social Security Reserve Swindle," called the reserve "a swindle and a solemn and cruel farce." Former Treasury secretary Ogden Mills, in the December 1937 issue of the American Mercury labeled the reserve a "hoax." The editors of the American Mercury labeled the reserve a "gigantic slush fund" and a scheme of "hollowness and humbuggery" (December 1937, p. 390).

19 House Report 728 (76-1), p. 15.

20 Morgenthau, Morgenthau Diaries, December 30, 1941, p. 2. President Roosevelt supported the tax hike. But his official rationale steered clear of the war-financing argument. In his public statement, he warned that unless the increase was allowed to take effect "claims for benefits . . . may be jeopardized" (Newsweek, October 26, 1942, p. 60).

21 In early 1952, the reserve stood at $15 billion, seven times the amount required to finance that year's benefits. In early 1954, the reserve remained at $15 billion,

22 The increase was accompanied by an expansion in payroll taxes and coverage. The expansion in coverage, which added 9 million workers to the payroll tax rolls, became effective in 1952. The 1950 amendments covered certain farmworkers, domestic service workers, and self-employed persons. It also provided optional coverage for state and local government workers who were not covered under an existing retirement program and employees of nonprofit organizations. The level of earnings to which the tax applied was raised by 20 percent, to $3,600 from $3,000. These revenue-raising measures provided the fuel for further benefit expansions during the next two election years. For a discussion of the dynamics of coverage expansions and benefit increases, see Derthick (1979).

23 The 1954 amendments extended coverage to additional farm- and domestic workers, certain professional groups and provided optional coverage to state and local government workers who were also covered by an existing retirement program (Waldman 1961, 4). These extensions were estimated to add an additional 7.5 million. They raised the proportion of workers covered from just over 50 percent of all workers in 1950 to 75 percent in 1956 (Waldman 1961, 7).

24 Commission on the Social Security "Notch" Issue, page 53.

25 According to projections at the time, in forty years the size of the elderly population was expected to nearly double relative to the size of the working-age population. In 1948, there were eight working-age persons for every person age sixty-five and older. By 1990, there would be only 4.4 working-age persons for every person age sixty-five and older (Committee on Ways and Means, Actuarial Cost Estimate for Expanded Coverage and Liberalized Benefits Proposed for the Old-Age and Survivors Insurance System by H.R. 6000, 1949).

26 After the 1956 amendments, program coverage was nearly universal. About 90 percent of all workers paid payroll taxes (Waldman 1961, 7). This imposed another constraint on legislative liberalizations. Previously, Congress had been able to finance higher benefits on a short-term basis by expanding coverage (i.e., requiring new groups of workers and their employers to pay payroll taxes). After 1956, increases in payroll tax rates and the wage base of workers already eligible for benefits were the principal means of obtaining additional revenues.

27 The timing of legislation generally followed its earlier election-year pattern. Women became eligible for early retirement benefits in November 1956. The reduced work requirement for eligibility became effective in November 1960 and added 250,000 persons to the beneficiary roles. The 7 percent benefit increase legislated in 1958 broke the earlier pattern of granting the increase just before a general election. The increase was effective in February 1959.

28 In 1963 and 1964, the trust fund's near-term financial outlook, coupled with efforts to enact a new Medicare program, prevented the 88th Congress from enacting an expansion in Social Security. In 1964, both the House and the Senate passed a 5 percent increase in benefits. But the Senate bill included the Medicare program. A majority in the House opposed the Medicare program. Hence the bill died in conference and along with it the 5 percent increase. As a result, the 88th Congress became the first to fail to pass a legislative expansion in Social Security since the end of World War II.

29 The account is taken from a remarkably informative book on the impact of elections on economic policies (see Tufte 1979).

30 The president authorized a note from the Social Security Administration to accompany the October benefit checks. The note gave full credit for the increase to "a new statute enacted by Congress and signed into law by President Richard Nixon."

31 Commission on the Social Security "Notch" Issue, Final Report, p. 53.

32 Robert J. Meyers, Social Security, p. 146.

33 Commission on the Social Security "Notch" Issue, Final Report on the Social Security "Notch" Issue, p. 6.

34 Benefit reductions accounted for only a small part of the improved outlook: 10 percent in the first three years and 30 percent over the long run.

35 Over the period 1983-89, benefit reductions accounted for only 25 percent of the total benefit and tax changes. Over the long run, benefit reductions accounted for only 16 percent of the improved actuarial status.

36 Conventional wisdom holds that the dearth of Social Security legislation since 1973 results from the establishment of automatic COLAs. Ensuring that benefits kept pace with inflation had been the primary purpose of legislative action during the 1950s and 1960s. The ad hoc inflation-compensating discretionary benefit increases during the 1950s and 1960s provided a vehicle for further programmatic liberalizations. The automatic COLAs eliminated the vehicle. The poor status of the fund is a compelling reason for the lack of legislative activity.

37 Two variables were used to measure the program's short-term financial condition: the reserve ratio and the reserve ratio's projected three-year growth. The program's long-run actuarial balance measures the program's long-term financial status. Also included as a control variable is the amount of inflation that has occurred since the most recent prior increase in Social Security benefits (Commission on the Social Security "Notch" Issue, p. 53). All variables are computed by the Social Security actuaries.

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The comments of Terry Anderson, David Brady, John Ferejohn, Arlene Holen, Daniel Kessler, David Koitz, Edward Lazear, and Andre Vanier are gratefully acknowledged. Matthew Berger, Michelle Jewett, and Fern Mechlowitz provided valuable research assistance. A special thanks is due to Betty Lom, library specialist at the Stanford University Jonsson Library of Government Documents, for unearthing numerous hard-to-find Social Security documents.