Social Security: Chronicle of a Death Foretold?

Thursday, March 17, 2011
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Barbara Kelley
Editor’s Note: The essay below is an excerpt of the Hoover Press book "Social Security: The Unfinished Work" by the author.

Despite a painful corrective action in 1977, Social Security finances remained on an unsustainable course during the following years. The first Social Security trustees’ reports of the 1980s warned Congress that insolvency—and the benefit disruptions that would accompany it—was imminent. Thus, the bipartisan Greenspan Commission was appointed in 1981 to make recommendations to avert this failure. After many false starts, twists, and turns, the commission’s final report ultimately laid the foundation for the law signed by President Reagan in April, 1983.

The 1983 Social Security reforms averted the projected near-term insolvency of Social Security. They gradually increased the Social Security eligibility age, they imposed income taxes upon benefits, they temporarily delayed cost-of-living adjustments, they expanded the program to cover federal employees, and they encompassed a number of other changes to taxes and to benefits. They built in a margin for error, in case their projections were wrong (some of this cushion, it turned out, was in fact needed). They ensured the financially sound operation of Social Security for decades to come. Having said that, the 1983 reforms were not perfect. They failed to place Social Security on a permanently sustainable course and, indeed, the problematic long-term trend line they left in place could be seen as unsustainable as soon as the law was signed.

Social Security is insolvent
Illustration by Barbara Kelley

In 1981-83, policy makers agreed on the immediacy of the Social Security problem. Today, not everyone sees the same problem, in immediacy or in size. The reasons for this have much to do with the nature of the 1983 reforms themselves.

According to the 2010 Social Security trustees’ report, Social Security began to run cash deficits last year. These deficits are starting small but will rapidly grow. By 2020, they will actually be significantly larger, even relative to our larger tax base today, than the annual deficits experienced in the crisis years of 1977 and 1982. Yet many believe that there is no real problem until decades hence, in 2037. Why?

The answer lies in the Social Security Trust Fund, whose large current balance was facilitated by the 1983 reforms.

Let us put aside for a moment a principle established in chapter 1: namely, that even if there is no shortfall for decades, continued delay in legislating is still inadvisable because of the time needed to phase in a tolerably fair solution. Let us instead focus solely on the question of how to measure the size and immediacy of the problem, and on how the Trust Fund figures into that assessment.

Today, many advocates rely upon the balance in the Trust Fund to argue that the Social Security shortfall is decades away. This belief reflects various misperceptions of both the economic and historic significance of the Social Security Trust Fund.

By far, the most widely held misinterpretation of the Trust Fund has to do with the intentions of the negotiators who crafted the 1983 reforms that built it up. Indeed, the pervasiveness of this misconception is the chief reason we have included this detailed Trust Fund discussion within this historical chapter on the 1983 reforms.

The essence of the argument is this: "Maybe it’s true that Social Security Trust Fund surpluses weren’t saved. Maybe it’s unfair to young generations to hand them the bill for redeeming the Trust Fund. But fair or not, there was a societal compact in 1983. We all agreed that baby boomers would overpay their payroll taxes beyond what was then needed, to pre-fund their own future retirement benefits. Maybe it didn’t work out as we planned. But that was the deal. Like it or not, to be fair, we have to carry through on the common understanding. It wouldn’t be right to appreciably change the benefit structure for the baby boomers when for so many years we collected surplus Social Security payroll taxes with the understanding that they would go toward funding future benefits."

This belief is widely held—by the press, by public figures, and even by many widely cited Social Security experts. It’s also completely false.

A typical example of this portrait of Social Security’s history comes from this paper from the National Bureau of Economic Research:

[T]he Greenspan Commission’s plan was for Social Security to depart from pay- as-you-go financing and to partially pre-fund the retirement costs of the baby boom generation. The idea was to offer some relief to the workers in the 2015 to 2050 period in supporting the enormous population forecast for that period. By forcing workers in 1984-2015 to pay higher payroll taxes than required to finance current retirement benefits, the hope was that workers in the 2016-2050 era could pay lower than PAYGO taxes. The trust fund buildup and subsequent drawdown would spread the burden of the retirements of the baby boomers over 65 years, rather than 30 years, and to some degree even out the tax burden faced by different generations of workers.

One can find any number of nearly identical quotes from different sources. This view is held without regard to politics or ideology; sources for it range from advocates of action, to defenders of the status quo, to opponents of personal accounts, to proponents of personal accounts.

Some, like a recent paper from the National Academy of Social Insurance, even approach an implication that the onrushing deficits are not a bug but a benign feature of 1983’s far-seeing plan. ("This is not a crisis. In fact, this is precisely what the 1983 reforms intended to happen.")

It’s unsurprising that so many analysts should reach a similar conclusion. After all, the singular feature of the 1983 reforms is the remarkable pattern of surpluses and subsequent deficits that they engendered. Surely, it is assumed, such an enormously consequential outcome must have been intentional. Why else would the 1983 negotiators have done this, unless they believed that the surpluses in the near-term could be banked in the Trust Fund to finance the deficits in the long term?

Social Security began to run cash deficits last year. Yet many believe that there is no real problem until decades hence, in 2037. Why?

The documentary evidence, however, instead shows that not only has the Trust Fund not been saved, but the framers of the 1983 amendments were laboring under no misconceptions that it would or could be. Neither the Greenspan Commission nor members of Congress realized during their deliberations that the proposed reforms would produce decades of Social Security surpluses, and would not have regarded such a result as desirable or effective pre-funding even if they had known.

First, there is the documentary evidence of the statements of those involved with the Greenspan Commission’s work. Commission Executive Director Robert Myers, in a 1995 interview, asserted that there had been no plan or expectation of building up large Trust Fund surpluses:

Myers: It just developed. It wasn’t planned. Nobody said let’s do it this way. It was just the natural result of saying we’ll fix up the long-range situation in 75 years on the average. We’ll fix it up and we’ll do this in part by having a high tax rate beginning in 1990. When you have a level tax rate and increasing benefit costs, then averaging out higher benefits later you’re bound to build up a fund and you’re bound to use it up.

Q: As we look at it today, some people rationalize the financing basis by saying that it’s a way of partially having the baby boomers pay for their own retirement in advance. You’re telling me now this was not the rationale. Nobody made that argument or adopted that rationale?

Myers: That’s correct. The statement you made is widely quoted, it is widely used, but it just isn’t true. It didn’t happen that way, it was mostly happenstance that the Commission adopted this approach to financing Social Security. The way they thought about it was that in order to achieve long-range balance we have to have this high tax rate in 1990, instead of putting it in steps. We could have fixed it up with a series of steps, lower in 1990, about the same in 2010, higher in 2015, that could have fixed it up just as easily, but there wasn’t time. It was not intentional.

Myers in the same interview goes so far as to describe the Trust Fund build-up essentially as an accidental flaw of the 1983 reforms, and suggests that had the commission had the time and opportunity, it would have fixed the solution to do away with it.

But the Commission never really looked at the long-range situation except wanting to be able to say we recognized it. We’ve raised the retirement age to help solve this problem and so forth. So in hindsight critics can say, "Hey, why didn’t you guys do a more thorough job?" When a house is burning down you can’t always take care of every problem. That was the situation. Obviously in an ideal world we would have done a better job. I would have done a better job, but it would have been silly for me to get up before the Commission in the closing days and say, "Hey look guys. Sure you fixed up the short-range. Sure you recognized the long-range problem but you didn’t really thoroughly study the long-range problem." They couldn’t be bothered with that.

These were not mere recollections well after the fact. Myers’s own appendix to the Greenspan Commission report itself states clearly that the intention of policymakers for several years had been, and remained, to fund Social Security on a pay-as-you-go basis.

Over the years, the original emphasis on building up and maintaining a large fund was reduced. Gradually, the funding basis shifted, in practice, to what might be called a current-cost or pay- as-you- go basis. The intent under such a basis is that income and outgo should be approximately equal each year and that a fund balance should be maintained which will be only large enough to meet cyclical fluctuations both within the year and also over economic cycles which have durations of several years. There is no established rule as to the desirable size of a contingency fund, although the general view is that it should be an amount equal to between 6 and 12 months’ outgo.

The subsequent behavior of key players on the commission is further evidence in support of Myers’s interpretation. A few years later, when Social Security’s mounting annual surpluses had been publicly noted, former Greenspan Commission member Senator Daniel Patrick Moynihan recognized that the attainment of "seventy-five-year solvency" had been to a great degree illusory, predicated as it was on the near-term buildup of annual surpluses that would never be saved. Moynihan thus led a legislative effort to cut the payroll tax in the near term and allow it to rise in the long term, to prevent the federal government from spending the near-term surplus money and thus render solvency a fiction.

The floor debate on the Moynihan bill reflects contemporary views of the situation. Notably, he describes the surpluses even in 1990 as having caught them "unawares."

Moynihan: The trust funds are now rising at approximately $1.5 billion a week, and will shortly be rising at $2 billion, soon $3 billion, then $4 billion a week. They will, in sum, accumulate a surplus of some $3 trillion in the next 30 years. Three trillion dollars is a sizable sum. The stocks of all the companies listed on the New York Stock Exchange would sell for about $3 trillion. This money is coming in. It is the largest revenue stream in the history of public finance. One of the extraordinary facts is that it has come upon us almost unawares, and we have yet to make a decision about how to treat these moneys. (Italics added.)

During this floor debate, Moynihan offered his recollections of the evolving awareness of the surpluses and of his conviction of what to do with them:

Moynihan: In any event, a commission on Social Security reform was established in 1982 and in 1983, again Senator Dole being very active. I was a member of the commission. We put together the Social Security amendments of that year. We proposed them; they were enacted almost without change, very brief . . . for all of the attention, all we did was accelerate rate increases already in place. Then, Mr. President, we began to notice the surplus.

When did we notice the surplus? Well, I do not know that I can say for certain. I think that by 1988 it was getting to be pretty clear, that not only was there a surplus, but also an opportunity. On August 8, 1988, I asked the General Accounting Office for a study of the subject. I might say that prior to that, in the spring, in May 1988, so that some people will understand we are not coming here with some sudden proposition that nobody has heard about, we held hearings in the Subcommittee on Social Security and Family Policy . . .

Robert J. Myers, a man of great distinction, who was chief actuary of the Social Security system, and National Commission on Social Security Reform in 1982 came before us a sad, but truthful man. He said, "Gentlemen, go back to pay-as- you-go financing. Because, gentlemen, you are never going to save the surplus. The old Presbyterian belief, you might say, that temptation is never overcome. The flesh is weak, the spirit notwithstanding. Give it back before it becomes a habit you cannot break."

Future Senate Majority Leader Harry Reid took Moynihan’s side in that 1990 debate. They together mocked the idea that the Social Security Trust Fund was building a meaningful accumulation of reserves, at variance with the Democratic leadership’s later posture that the Trust Fund ensured Social Security’s vitality for several decades into the future:

Mr. Moynihan: There are no reserves. They have all been embezzled. They have been spent.

Mr. Reid. Will the Senator yield?

Mr. Moynihan. Yes.

Mr. Reid. Maybe what we should do in conjunction with the President to really carry this conspiracy to its appropriate end, is rather than having it called the Social Security trust fund, why do we not change it and call it the "Social Security slush fund?"

Mr. Moynihan. Our policy staff, honestly, somehow believe there are reserves. What there are in IOU’s from the Treasury. This money has been spent as general revenue, as the Senator from South Carolina says. I prayed for them with the Democratic Party and I hope the Republicans pray for us as well.

Not only commission members and staff, but the legislators who later crafted the bill to implement the 1983 reforms, shared Myers’s and Moynihan’s understanding. In a May 17, 1983 letter to the Wall Street Journal—notably, after the Social Security amendments had been signed into law—Texas Democrat Jake Pickle, chair of the Social Security Subcommittee of the House Ways and Means Committee, wrote:

[W]e would not want to fund our national retirement program other than on a pay-as-you-go basis. To accumulate now funds to pay all future benefits would require a government reserve in the trillions of dollars—a build up of government investments not likely to be tolerated by the public.

These and other statements document that the crafters of the 1983 reforms not only did not intend to build up a large Trust Fund, but in many cases opposed such an outcome, and believed the public did so as well. Of course, the memories and perspectives of individuals are fallible. But the other documentary evidence tells the same story. The Greenspan Commission did not report a single complete plan to Congress, and thus could not have analyzed the annual cash flows for any such plan. Instead, the commission provided to Congress recommendations for provisions that would close roughly two-thirds of the seventy-five-year solvency gap on average, and left it for Congress to choose among options to fill in the remaining third. Nowhere in the Greenspan Commission report is there a comprehensive plan that is analyzed for its effect on the flow of Trust Fund balances over time.

In its internal deliberations over different policy options, the commission reviewed memoranda describing each provision’s near-term effects under both intermediate and high-cost scenarios and its long-term effects on average under intermediate projections.

The crafters of the 1983 reforms not only did not intend to build up a large Trust Fund, but in many cases opposed such an outcome.

The annual flows of long-term effects are not presented on those memoranda. (Indeed, one of the reasons that the Social Security Office of the Actuary now analyzes individual provisions much more thoroughly, showing annual flows as well as those averaged over time, is precisely to enable legislators to avoid some of the shortcomings of the 1983 analysis.)

The commission’s prudence in ensuring that insolvency would be averted in a worst-case scenario is one of the chief reasons for the subsequent Trust Fund buildup. Reality has arrived at a point somewhere in between their intermediate and worst-case scenarios, which meant that a good deal of the margin for error was later realized in the form of mounting program surpluses. The Congressional Research Service (CRS), in an excellent and comprehensive 1997 paper, explained well the consequences of this prudence:

Various misperceptions of their intent have developed over the years, among them being that Congress wanted to create surpluses to "advance fund" the benefits of post World War II baby boomers. . . . There is, however, little evidence to support the view that the surpluses were intended to pay for the baby boomers’ retirement. The record suggests that the goal was to assure that the system was not threatened by insolvency again, not to advance fund future benefits.

The CRS report goes on to explain that the focus on avoiding insolvency even under the pessimistic scenario continued to guide deliberations of the Senate Finance and House Ways and Means committees when they had assembled final completed packages to evaluate. Like the Greenspan Commission, the committees reviewed estimates for both the intermediate and pessimistic scenarios, and evaluated their work to ensure it would survive the worst-case possibilities in the near term.

Again, quoting from CRS:

To suggest that these balances were intended to finance or to "advance fund" the benefits of the baby boomers and subsequent retirees presumes that the authorizing committees (and the Congress generally) designed the measures specifically to create significant excess income and believed this income would be isolated from the financial operations of the rest of the government such that it would have accumulated as a "nest egg." Neither of the reports from the House Ways and Means and Senate Finance Committees made any reference to such "advance funding."

CRS also goes on to document the failure to analyze the annual flows of the 1983 reforms, relying upon "averaged" effects on the seventy-five year balance:

The discussion in Committee markups revolved around the average 75- year deficit and how much the various options would affect that figure. Hence, there was very little understanding that a period of surpluses would be followed by a period of deficits—or that "actuarial balance" was not achieved on a pay-as-you-go basis.

If this evidence seems overwhelming, none of it is actually the evidence that most firmly clinches the issue. But there is another piece of evidence that irrefutably demonstrates that the crafters of the 1983 amendments never intended to build up a large Trust Fund.

That piece of evidence is this: The crafters of the 1983 reforms did not use an actuarial method that is consistent with solvency as defined using Trust Fund accounting. To the contrary, there is a mathematical inconsistency between the accounting of a large accumulated Trust Fund and the method used in 1983 to calculate actuarial balance.

Today, the Trustees employ a method for determining actuarial balance known as the "level financing" method. This method, in effect, averages out the program’s future surpluses and deficits in a particular way: specifically, it discounts the size of future imbalances by a rate of interest—the rate of interest the Trust Fund is projected to earn.

Using this method ensures consistency between our measures of "actuarial balance" and the size of the Trust Fund. The point at which the actuarial balance goes negative is the point at which the Trust Fund reserves are depleted. These two methods are internally consistent: we project that the Trust Fund will earn a certain rate of interest, and we also discount future deficits by that rate of interest. This method tells us both that the Trust Fund will be positive through 2037 and that the system is in actuarial balance through 2037. This method was not adopted until 1988.

In effect, this method implicitly assumes that the Trust Fund is "real." It treats the Trust Fund as saving that is pre-funding future obligations, without regard for whether it is actually saved. Many analysts, such as this author, thus find fault with the method. Further, it significantly discounts the size of future deficits relative to other federal budgetary conventions. For example, a deficit that would require the workers of 2080 to contribute a further 5 percent of their wages to make up could well be treated, by this method, as a smaller deficit than one that would require a 3 percent payroll tax hike on the workers of 2050. Such a method can tend to distort our picture of the relative tax burdens faced by different generations.

Putting aside these analytical concerns, however, the method adopted in 1988 reflects a critical analytical decision not reached until that year: to align the measure of the Trust Fund balance with the measure of the actuarial balance. By 1988, at the latest, the trustees realized that Trust Fund accounting methodology and the actuarial balance calculation were yielding different results.

What lessons should we remember from the 1983 reforms? First, that reforming Social Security is a daunting political task.

This is not, however, the method that the Greenspan Commission used. The Greenspan Commission used a different method known as the "average cost" method. This method simply averaged out the future surpluses and deficits of Social Security expressed as a percentage of worker wages. This method implicitly assumes that Social Security benefits are paid by taxing the wages of workers at the time those benefits are paid—and not by drawing down the accumulated reserves of a Trust Fund.

There is a mathematical conflict between Trust Fund accounting and the method the Greenspan Commission used. If the Greenspan Commission had compared its projection for actuarial balance over seventy-five years, with the result that would arise from Trust Fund accounting, they would have produced two different answers.

Moreover, as we have previously mentioned, the actuarial calculations of 1983 "did not take into account the trust fund balances at the start of the valuation period." No commission that believed that the Trust Fund was an effective source of advance funding would perform its calculations in disregard of the Trust Fund balance to date.

It is abundantly clear, based on all of this documentary evidence, that neither the Greenspan Commission, nor the Congress as a whole in 1983, intended that the 1983 reforms build up a large Trust Fund, nor did they believe that it was possible to pre-fund future benefits by doing so.

What lessons should we remember from the 1983 reforms?

One is that reforming Social Security is a daunting political task. The 1983 reform effort was narrowly rescued from failure, despite broad bipartisan agreement on the scope and immediacy of Social Security’s problems.

The analytical understanding widely shared in 1983 also contains detailed lessons for us. Reformers in 1983 did not rely on Trust Fund balances to reduce the apparent size of Social Security’s projected future shortfalls. They looked squarely at the coming deficits and fully recognized the relative burden they would place on future worker wages.

The crafters of the 1983 reforms did not intend to build up a large Trust Fund, nor would they have believed that so doing would pre-fund future benefits. They would not have agreed with the statements made by some today that Social Security faces no problems until 2037.

It is also worth remembering that the crafters of the 1983 reforms were determined by an unusual bipartisan process in which participants were often selected by others from across the aisle. The crafters of the 1983 reforms, indeed Congress as a whole, enabled reform via bipartisan resistance to the lobbying pressure of seniors’ advocacy organizations such as AARP. Similar fortitude is required today.

These are among the positive lessons of 1983, but there are cautionary lessons as well. Not everything was done perfectly. The biggest mistake then made was to take only an "averaged" view of the program’s future balance, neglecting to account for the practicability of Social Security’s projected annual operations.

To successfully address Social Security today, we will need to get right what they got right in 1983 (bipartisanship, courage in the face of lobbying pressure, and honest recognition of Social Security’s shortfalls) while avoiding their mistakes. A process today that does any less is unlikely to bear fruit.