EVERYTHING YOU NEED TO KNOW ABOUT SOCIAL SECURITY BUT ARE AFRAID TO ASK – PART 3
How did Social Security get into this predicament? Should we be worried?
You may wonder how the government got into this fix. The evolution of the Social Security Trust Fund’s investment policies as described by the Social Security Administration during the Trust’s first five decades provides clues to the answer:
Over time the Social Security Trust Funds have included a mix of marketable and non-marketable Treasury securities. Over the years, the proportion has shifted heavily in favor of special obligation bonds as the main asset held by the Social Security Trust Funds. Before 1960, the Treasury's policy was to invest primarily in marketable securities, although this policy was not always followed. Since 1960, the policy has been to invest principally in special obligation bonds, unless the Managing Trustee of the funds (i.e., the Secretary of the Treasury) determines that investment in marketable securities would be "in the public interest." In fact, since 1980 no marketable securities have been added to the Trust Funds.
The Johnson Administration: The shift to non-marketable, special obligation bonds began in earnest with the introduction of the “unified budget” concept by the Johnson Administration in 1968, beginning with the 1969 budget. President Johnson wanted to underwrite the Vietnam War and Great Society concurrently – the so-called, “guns and butter” agenda – without raising taxes. This dual increase in spending without commensurate increases in revenues necessarily produced sharp increases in federal deficits. Worried about political attacks by Republican deficit hawks, the president sought to find a way to underwrite his guns and butter agenda without tax increases and shrink the headline number reported for the deficit. Following the recommendations of a presidential commission formed expressly for that purpose, the president adopted the “unified budget,” whereby substantial surpluses of the Social Security Trust Fund and the recently created Medicare/Medicaid Trust Funds were merged (“consolidated”) for accounting purposes with the deficits of the General Fund, making the reported deficit seem smaller than it would be otherwise. Worse yet, surplus cash then flowing into the Trust Fund intended for future payments to beneficiaries, was spent to pay for the war and other current government expenses (as it turns out, by the Nixon Administration following Johnson’s decision not to run for re-election). (See: Table 13.1—Cash Income, Outgo, and Balances of the Social Security and Medicare Trust Funds: 1936–2027)
The Reagan Administration: By the 1980s, Social Security Trust Fund revenues were no longer able to reliably cover benefits paid out. The Reagan Administration, alarmed by Trust Fund deficits, promptly did what administrations generally do when about to embark on unpopular yet necessary policy changes: it formed a presidential commission. In this case, Social Security Reform Commission in 1981, chaired by Alan Greenspan (before becoming Fed chairman). In 1983 the Commission dutifully recommended a hefty increase in Social Security tax rates and gradual extension of the time to retire from age 62 to 66 by 2015 (since further extended to 67). These measures, duly implemented by the Social Security Reform Act of 1983, produced immediate annual surpluses originally intended to be set aside in marketable government bonds purchased by the Trust Fund on the open market to provide cash to fill in the deficits anticipated when the unusually large cohort of the Vietnam Generation (aka Baby Boomers) began retiring in 2010. In effect, the increased taxes levied heavily on the Vietnam Generation were intended for them to provide for their own retirement. However, like President Johnson before him, President Reagan promptly siphoned the Trust Fund surpluses into the General Fund to pay for the Administration's doubling of military spending and tax cuts for rich Republican donors. Once again, the Social Security Trust Fund was stuffed with non-marketable, special obligation bonds, kicking the can down the road, unconscionably shifting the burden of the deficits for the Vietnam Generation’s Social Security outlays to younger generations. Now that they have come to power and becoming aware of this injustice perpetrated by the World War II generation, they are struggling with the consequences and angry – probably at the wrong generation.
The Budget Enforcement Act of 1990 did away with this accounting gimmickry (“legerdemain”?) by separating the government’s various trust funds and the Post Office as “off budget” from the General Fund’s “on budget,” but kept the practice of siphoning Trust Fund surpluses into the General Fund to pay current government expenses. Moreover, to preserve the pretense that the special obligation bonds are real assets, the Treasury pays interest on them into the Trust Funds, promptly swept back into the General Fund in exchange for yet more special obligation bonds.
IT’S A GENERATIONAL THING: The Social Security program is essentially a Ponzi scheme (defined as returns distributed to early participants are paid with capital contributions from later participants) layered with the deception that the early participants, in this case the Vietnam Generation, set money aside in the Trust to cover deficits occurring when they retire years later. I repeat: the Vietnam Generation’s entire surplus contributions were spent by the World War II Generation on their current government needs, leaving younger generations with the obligation to provide for the deficits created by the Vietnam Generation’s retirement beginning in 2010. Whether Gen X, Millennials, Gen Z will agree to continue doing so remains an open question, further complicating the Trust Fund’s future.
This injustice is not the Vietnam Generation’s fault, rather the blame lies with World War II’s “Greatest Generation” which oversaw the creation, implementation, and embedding of this deceptive practice as national policy. It began with Johnson and continued with Nixon, Ford, Carter, and, especially, Reagan, who added Reaganomics -- tax cuts for the rich, deregulation and ballooning military spending -- to the fiscal formula. G.H.W. Bush (4I), who made a stab at righting his predecessor’s wrongs by raising the top tax bracket from Reagan’s 28 percent to 31 percent, despite a “read-my-lips-no-new-taxes” promise, was unceremoniously dumped in his bid for a second term.
Bill Clinton (Vietnam Generation) made a worthy effort to reverse the earlier generation’s self-serving policies by raising taxes on the rich and cutting military expenditures (the “Peace Dividend” following the end of the Cold War in 1991). Reducing the deficits with further spending cuts, Clinton also signed the Personal Responsibility and Work Opportunity Reconciliation Act of 1966, “drafted by Rep. John Kasich (R-Ohio) in a GOP-controlled Congress, the act ended welfare as an entitlement program; required recipients to begin working [no later than two years after beginning to receive benefits]; placed a lifetime limit of five years on benefits paid by federal funds; sought to encourage two-parent families and to discourage out-of-wedlock births; enhanced enforcement of child support, and required state professional and occupational licenses to be withheld from undocumented immigrants.” (Politico) The Achilles heel of the so-called “Welfare-to-Work program would be exposed during subsequent major downturns in the economy, the Great Recession of 2008 and the Pandemic recession of 2020, when few jobs were available to the unemployed on welfare to meet the work requirement, causing millions to fall through the faulty welfare safety net.
The combined effect of these measures produced budget surpluses during Clinton’s final 4 years in office, temporarily assuaging the generational injustices perpetrated by previous administrations’ adoption of Reaganomics and “unified budgeting.”
However, Republican George W. Bush (43) (also Vietnam Generation) promptly reverted to Reaganomics and the unified budget policies instituted by the World War II Generation, as well as the Johnsonian policy of engaging in long, pointless, unwinnable wars of choice. These policies caused the economy to crumble into “The Great Recession” during the final months of his administration. (Click here and here.)
Left to clean up the mess bequeathed by the younger Bush, Obama was forced to continue the unified budget policy, which by 2010 had reversed its budgetary effects by recording Trust Fund deficits instead of surpluses.
Source: Peter G. Peterson Foundation. The graph is dated but nonetheless provides the best applicable representation I could find of the past, present, and future of the Social Security deficits.
Thereafter, the General Fund, already burdened with debt by the “Greatest Generation” elite’s underpayment of income taxes, would bear the further burden of paying back the $2.7 trillion previously drained from the Trust Fund to maintain payments promised retirees through 2035, then predicted to be followed by the even greater burden of filling in the Trust Funds deficits thereafter (see graph above). As stated earlier, younger generations’ willingness and ability to redeem the Trust Fund’s stash of non-marketable special obligation bonds cannot be taken for granted, nor can present and future Social Security retirees count on receiving checks at the current level. Social Security reform is once more in the air. There is no free lunch. Tick, tick, tick.
Many mainstream commentators seem untroubled by the perilous financial state of the Trust Fund, dependent as it is on the willingness of a divided and contentious Congress to either a) increase taxes and/or cut discretionary spending or b) increase the national debt and incur the added interest expense required to sustain distributions at present levels. The remaining alternative of cutting benefits for current and/or future beneficiaries seems equally fraught with political reticence. (See Part IV for further discussion of these issues.)
A recent article by Nobel prizewinning economist, Paul Krugman, illustrates the rather shocking lack of concern about these issues among responsible members of the press. His opinion piece, “How Not to Panic About Social Security -- No it’s not going bankrupt” (N.Y. Times Feb. 28, 2023) sought to dispel “some common misconceptions about the program, mostly on the right but to some extent on the left.” (That would be me.)
To my amazement, rather than dispel misconceptions, the article perpetuated several, beginning with the tag line, “No it’s not going bankrupt.” If by bankrupt we mean insufficient assets to cover debts, the Trust Fund is already bankrupt, as previously explained, since current and projected Trust liabilities exceed revenues and the so-called assets (special obligation bonds, i.e. monies the government owes itself) necessary to cover future Trust deficits are not really assets, any more than a personal IOU deposited in one’s 401k qualifies as an asset. If by bankrupt we mean insolvent, unable to meet just claims, the Trust Fund is not yet bankrupt, since it continues to meet just claims, but may be unable to continue doing so if a) House Republicans stick to their refusal to raise the national debt limit (see Part 1) or b) a divided Congress cannot agree to raise taxes and/or cut discretionary spending by amounts sufficient to permit the General Fund to underwrite Trust Fund deficits as far as the eye can see, or c) the government either cannot borrow or can do so only at exorbitant rates of interest due to lender resistance not only to the recurring stalemates in Washington but also in the event of significant downgrading of U.S. government creditworthiness and/or devaluation of the dollar (see Part 2). Given the highly uncertain, conditional prospects for the Trust to continue meeting just claims, any auditor worth their salt would issue a qualified opinion as to the solvency of the Fund.
Another Krugman misconception:
I often get mail from people claiming that this makes Social Security a Ponzi scheme. But it isn’t. It’s just a government program supported by a dedicated tax, which is fairly common — for example, that’s how we pay for roads and bridges, which are funded by gas taxes. . .[Social Security] always operated mainly on a pay-as-you-go basis, with today’s payroll taxes paying for today’s retiree benefits, not tomorrow’s.
The fact that Social Security is “just a government program supported by a dedicated tax” is irrelevant to what makes a Ponzi scheme a Ponzi scheme, namely, as previously stated, “returns distributed to early participants are paid with capital contributions from later participants.” Krugman’s statement “today’s payroll taxes [pay] for today’s retiree benefits” fails to mention that today’s payroll taxes are paid by later participants (younger generations), and today’s retiree benefits are paid to earlier participants (older generations), thus meeting the definition of a Ponzi scheme. Ironically, if today’s payroll taxes paid for tomorrow’s retiree benefits, (i.e. each generation pays for its own retirement benefits) it would not be a Ponzi scheme.
Don’t get me wrong, in describing Social Security as a Ponzi scheme I do not mean to denigrate its purpose and objectives. It’s a worthy, essential program. However, the way it’s structured creates a problem. It works only to the extent that each generation pays for their parents’ retirement with the assurance that their children will do the same for them. As the elderly population is living longer and the younger generations are having fewer children, the pool of retirees drawing pensions is growing faster than the pool of workers to support them, the rising per-capita burden creating generational friction we now see unfolding in Congress. Every Ponzi scheme falls apart when the stream of new money dwindles and the organizer cannot keep up the payments to earlier investors.
As previously described, what I object to the most, and apparently Krugman and most other commentators don’t understand, is the generational injustice of the WW-II generation spending surpluses the Vietnam Generation generated after the Reagan hike in payroll taxes beginning in 1985. These surpluses should have been set aside between 1985 and 2010 to underwrite predictable deficits (given the Vietnam Generation’s unusually large size) when they retired, without the need for additional borrowing. However, (this is crucial and bears repeating) these surpluses weren’t set aside (by purchasing bonds on the open market), but instead were spent on then-current government operations, under the “unified budget concept.” Consequently, younger generations must bear an additional $2.7 trillion burden (the amount of the aforesaid surpluses) to fill the deficits occasioned by the Vietnam Generation’s retirement beginning in 2010 through 2035. Spending the surpluses rather than setting them aside is equivalent to Charles Ponzi siphoning off the excess of new money over and above the required distributions to the early investors. The WW-II generation hid this deception by issuing non-marketable “special obligation bonds” to the trust, which are nothing more than a $2.7 trillion tax bill handed to Gen X through Gen Z to underwrite the deficits for the Boomers’ retirement.
Now the tax bill is coming due, you’re seeing Congress squirm, with Republicans proposing draconian spending cuts and Democrats proposing tax increases to be borne by younger generations. If the two parties can’t agree on a strategy, the only viable alternative short of default, is to print money, and that leads to inflation, which even Modern Monetary Theory gurus can’t deny. (MMT requires that newly “printed” money be spent on capital investment to increase productivity, not living expenses for seniors.) There is no free lunch.
I wrote privately to Prof. Krugman, for whom I have tremendous respect, two days after the publication of his commentary. Not having received a response, I think it appropriate to regard my letter as “open.” I did not bother to include the paragraphs, regarding bankruptcy and Ponzi scheme, largely a matter of semantics, but instead concentrated on the central issue of the Trust Fund’s solvency:
Professor Krugman,
As one of your steadfast subscribers, I was taken aback by the reassuring tone of your recent piece on Social Security. While there’s much to recommend it – demographic disparities, brief historical notes, funding alternatives – I fear that you have left a profound misimpression regarding the soundness of the Social Security Trust Fund’s finances. I refer specifically to your comments regarding the implementation of the Greenspan Commission’s 1983 recommendations, by suggesting that Trust Fund surpluses, accumulated between the mid-1980s and 2010 by raising payroll tax rates and extending the retirement age, secured the Fund’s solvency until 2035. Far from it.
It would have done so if the Administrators had set surplus funds aside in marketable government bonds purchased on the open market, to be cashed in as needed when the Fund experienced deficits as the unusually large cohort of Baby Boomers began retiring in 2010. However, Congress thought otherwise, and, under the “unified budget” concept, promptly spent the surpluses on current government operations, leaving nothing in the Fund other than the government’s promise to repay from the General Fund as needed, the cumulative surpluses withdrawn from the Trust Fund now totaling $2.7 trillion.
Such promises must necessarily be regarded as highly uncertain at best and unlikely at worst in this day and age of unending $1-$2 trillion General Fund deficits and smaller, yet significant Trust Fund deficits; Republican refusal to raise taxes on corporations and rich Republican donors, eager to dismantle the New Deal and Great Society; and threats by nihilistic House Republicans (many of whom approve of the violent overthrow of the government, for whom default represents a viable alternative) refusing to raise the debt ceiling without draconian cuts in discretionary social spending (resisted by Democrats), ignoring the catastrophic specter of a government shutdown and default.
We must face the reality that the Trust Fund has been fundamentally insolvent ever since it began running deficits around 2010, entirely dependent upon a dysfunctional House of Representatives (now apparently run by Marjorie Taylor Greene taking telephoned orders from Donald Trump) to make up Trust Fund deficits by piling yet more debt on top of a national debt already exceeding that of World War II as a percentage of GDP. If that’s not reason enough to panic, I don’t know what is.
I have uploaded 2 blog posts of a series of 4 titled “Everything You Need To Know About Social Security But Were Afraid To Ask” written, I must confess, with you in mind, in the hope that our common academic background (Dartmouth ‘62 and Stanford ‘69) and my experience (25 years writing contrarian subscription newsletters and public speaking on the intersections of economics, finance, and politics -- plus 1 book) provides me with sufficient credibility for you to read them.
If you think well of the idea, candidly I encourage you to subscribe to my blog as a valued resource. I have more to contribute to the discourse.
With respect and esteem,
David L. Smith
www.davidlsmith.com
david@davidlsmith.com
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EVERYTHING YOU NEED TO KNOW ABOUT SOCIAL SECURITY BUT ARE AFRAID TO ASK – PART 3
David,
I just read all three of your current essays on the state of Social Security. I can't claim to understand them, not entirely, but they have enhanced my overall understanding. E.g. I think I can now accurately define a Ponzi Scheme -- a small accomplishment but nonetheless a step forward. Dorothy and I will be joining you and Elizabeth on the Lewis & Clark '62 Cruise to the Sea and look forward to at least a few discussions over the dinner table on related topics -- not so many as to detract from the scenery of the Great Northwest, but enough to advance my understanding and perhaps that of others around the table.
In the meantime, my wishes for all our good health, and for the reality being instantiated that "no one is above the law."
With appreciation,
Frank
Excellent articles that present and articulate the real problems of the way our Social Security system has been degraded. I look forward to David Smith’s discussion of how our country can solve the frightening dilemma of a failing system.