Saturday, October 02, 2010

The Truth about's Social Security "Myths"

I have taken a special interest in the future of Social Security, in part because I worked for the Social Security Administration for 38 ½ years before retiring on January 2, 2009. So, when I ran across an article on the website (not a site I frequently visit, but occasionally I like to spy on the enemy) entitled Top Five Social Security Myths, I read it carefully, thought about it, realized that it is mostly nonsense, and decided to explain to readers of this blog (both of them) why it is mostly nonsense. I encourage you to read the same thing I read buy opening the article in a new window or tab on your browser and follow along.

The first alleged myth is "Social Security is going broke." The article state that by 2023, Social Security will have a $4.3 trillion surplus and can pay schedule benefits with no changes and after 2037, will be still be able to pay 75% of scheduled benefits. The trust fund deserves its own discussion, which I will get to shortly, buy think about that business about being able to pay 75% of scheduled benefits. That is meeting 75% of an obligation. Would any of the people that you have to make regular payments to, like your utility companies or your the financial institution that holds your mortgage (if you own your home) or your landlord (if you rent) be happy if you told them that you cannot make the full amount of your payments in the future but you can make 75% of them? Of course not, and anyone who expects to receive Social Security benefits after 2037 would not be very happy either. If being headed in the direction being able to pay only 75% of what it obligated to pay is not going broke, then what is?

The second alleged myth is "We have to raise the retirement age because people are living longer." The article says that this is a myth because the reason life expectancy is going up is because many fewer people die as children than they did 70 years ago. The article makes reference to a June 2010 study by the Center for Economic and Policy Research entitled Social Security and the Age of Retirement. I read the study. It does indeed make a very good case that most of the increase in life expectancy in the United States over the last several decades has been because of decreased death rates of people who have not reached retirement age. However, some of the increase is because on average people of retirement age are living longer, which is a case made by the the bipartisan Social Security Advisory Board in its September 2008 report, Working for Retirement Security, in which a case is made that to improve income security of older Americans, they should be encouraged to lengthen the number of years in which they work. also points out that higher income workers live longer on average than lower income workers and so raising the retirement age discriminates against people with lower income. Raising the retirement age is not the only way to address the solvency of Social Security and it may not be the best way, but it is one option.

The third alleged myth is "Benefit cuts are the only way to fix Social Security." First the article says that Social Security does not need to be fixed, which is nonsense. Then they suggest that a better way to strengthen Social Security is to raise the maximum income from which payroll taxes are assessed. For 2010, no taxes are assessed from the employer or employee for earned income in excess of $106,800. Raising the cap would indeed increase revenue. It would also increase the eventual Social Security benefits of those high income workers because the amount of Social Security benefits is computed based on a formula that considers average income. However, the formula is weighted to favor lower income workers, so raising the cap may raise more than enough revenue than needed to pay the higher income workers their Social Security benefits once they retire. I'll concede this point to; benefit cuts are not the only way to fix Social Security. There are other ways. However, saying that it does not need to be fixed is still nonsense.

I am going to combine my comments about myths four and five because the arguments that the article makes that them contradict each other. Myth four is "The Social Security Trust Fund has been raided and is full of IOUs" and myth five is "Social Security adds to the deficit." There argument regarding myth four is that the Social Security trust fund is made composed of U.S. Treasury bonds that are backed by the full faith and credit of the United States. The argument regarding myth five is that by law Social Security funds are separate from the budget and therefore Social Security cannot add a penny to the deficit. Both arguments can easily be refuted in one short sentence: "Those Treasury securities are not going to pay themselves." Lets say that this year a hypothetical worker, lets call him William Worker, earns an income such that he and his employer each pay a payroll tax of $1000. Lets also assume the Social Security system is taking in more money than it is paying out and all of the $2000 goes into the trust fund. What does the government do with the money? It does two things. One thing it does is spend the money. The other thing it does is issue securities to the trust fund that represent a promise to pay the money back with interest. Years later, when the Social Security system has reached the point that it is paying out more in benefits than it is receiving in payroll taxes, William has retired and has applied for his Social Security benefits. Lets say that the money to pay for them for his first year of retirement comes from that same $2000 in treasury bonds plus interest. So, the bonds are redeemed. Since they don't pay themselves and the government has already spend the money to pay them, it has to raise more money. There is just no other way to look at this. The government has spent the money and has increased its debt by issuing a securities that promise to pay the debt with interest. Saying that a Treasury security is not an IOU not saying anything that changes the situation. Saying that Social Security does not increase the deficit because it is not part of the budget is like saying that if you close your eyes you can't see it and therefore it isn't really there. When management officers at Enron kept transactions that put its shareholders off its books to hide them, it was eventually recognized as accounting fraud and people went to prison for it. When the government does it, no one goes to prison, because it is the government that puts people in prison. It is legal, but only because it is the government that is playing this game that makes the laws. What they cannot do is make it ethical. The scams that Charles Ponzi and Bernie Madoff ran were small potatoes compared to this one.

Recommended reading for those who want to understand the financing of Social Security include the 2010 Social Security Trustees Report on The Status of the Social Security and Medicare Programs (click here for PDF version) and any of several publications that the Cato Institute has published. The advantage of the Trustees Report is that it is politically neutral and written by the actuaries whose job it is to manage the Social Security and Medicare trust funds. The advantage of the Cato Institute publications is that they are written by people who have some good ideas for how to deal with the problem.