Treasury: Is the Social Security Trust Fund Real?

I don't get this. Why is Treasury doing this now? This is the second of three briefs sent to me by Bruce Bartlett on "Social Security Reform: A Framework for Analysis."

Here's the best I can come up with. It seems that this may be part of a concerted effort to put Social Security reform back on the table (we’ve been seeing this lately) and to try, yet again, to sell some sort of private account system. It’s played as a straightforward analysis, but I suspect there’s more behind it than that.

The brief makes the case, or at least considers it a strong possibility, that the Trust Fund cannot be protected from congress. The claim is that congress spends more when the surplus is present, so we need to look to ways to protect the Trust Fund assets (it's based upon an intergenerational equity argument premised on all congresses acting like the recent Republican congress). It mentions private accounts as a way to lock up the Trust Fund, and it promises another brief on how to protect trust fund assets in the future. Also, notice the suggested solution to the intergenerational inequity problem, i.e. reducing benefits.

Here's part of the second brief from the link above. The part in the box may be familiar - it explains how the Trust Fund operates. The rest of the discussion is about whether Social Security pre-funding is "real", and what happens if it isn't. Again, though, the question is why Treasury is spending the time and resources to do this now when there's no realistic chance of reform moving forward in the coming year:

Fourth Key Question: Is Attempted Pre-Funding Real? If Not, How Does That Affect the Answers to the Questions About Fairness and Benefit Size? ...The imminent retirement of the relatively large baby-boomer cohorts and sustained improvements in longevity are expected to cause the ratio of retirees to workers to rise rapidly over the next 30 years. In these circumstances, maintaining Social Security contributions and benefits that are stable relative to peoples’ wages while working implies that the system will collect more revenues than it pays out as benefits in the near term when the ratio of retirees to workers (the old-age dependency rate) is relatively low. It also implies that the system will pay more benefits than it collects in taxes later when the old-age dependency rate is relatively high. This financing strategy is reasonable provided that the near-term surplus revenues are safeguarded in a way that allows them to be used in the future to pay for benefits.

Box 2 Trust Fund Accounting and What It Means As required by law, excess revenues from Social Security taxes are used to purchase special-issue federal securities that are held in the Social Security trust fund and redeemed as needed to pay future benefits. The trust fund is credited with interest at a rate comparable to that paid on federal debt issued to the public. Social Security benefit payments are automatically authorized provided there are sufficient assets in the pertinent trust fund. Because trust fund securities are themselves federal securities, they are often dismissed as IOUs that the government has made out to itself that do not increase its ability to pay benefits. This is true in the following sense: if information about trust fund holdings were somehow lost, there would be no impact on the government’s ability to finance its overall operations going forward because government assets and liabilities would be reduced by identical amounts. But it does not necessarily follow that Social Security surpluses cannot increase the government’s ability to pay future Social Security benefits. Social Security surpluses increase the government’s capacity to pay future benefits to the extent that they reduce publicly held federal debt. If they reduce the issuance of publicly held federal debt now when the old-age dependency ratio is relatively low, it would be possible to issue more publicly held debt in the future to help finance benefits when the old-age dependency ratio is relatively high. (These effects arise from the surpluses, not from the trust fund accounting or the issuance of trust fund securities.) The degree to which today’s Social Security surpluses result in additional resources in the future depends on the effect that they have on spending and taxes in the rest of the federal budget. This is an empirical question that involves the political economy of government finance. If Social Security’s finances do not influence the non-Social Security portion of the federal budget, then Social Security surpluses pay down publicly held debt dollar-for-dollar, and the trust fund balance at each point in time is a precise measure of how much the program has reduced publicly held federal debt up to that point. The trust fund balance at the end of 2006 was $2 trillion. Hence, if Social Security does not influence non-Social Security fiscal decisions, then Social Security has increased the government’s capacity to issue publicly held debt for the sake of paying Social Security benefits by $2 trillion as of the end of 2006. To the extent, however, that Social Security surpluses result in higher deficits in the non-Social Security portion of the budget, then government saving is not increased by higher Social Security surpluses. In that case, future Social Security benefits that would have been financed with higher issuance of publicly held debt will instead have to be financed with reductions in non-Social Security spending or increases in non-Social Security taxes.

If Social Security surpluses accumulate in the trust fund, these surpluses will increase the government’s capacity to pay benefits in the future only to the extent that they result in smaller amounts of public debt issuance than would occur if there were no surpluses. ... (see Box 2 for additional discussion of this point). The result would be an accumulation of real resources now (through higher government saving) that can then be drawn upon in the future to finance benefits.

Many analysts believe Social Security surpluses do not increase the government’s capacity to pay future Social Security benefits. Under this view, Social Security surpluses are offset in the rest of the federal budget by some combination of higher non-Social Security spending and/or lower non-Social Security taxes. To the extent that this is true, Social Security’s surpluses do not increase the government’s capacity to pay future Social Security benefits. The future benefit payments that would have been financed with public debt issuance had Social Security surpluses truly been saved must instead be financed with lower non-Social Security spending and/or higher non-Social Security taxes. In this case, the existence of the present Social Security surplus causes the non-Social Security budget to be more profligate, and the future Social Security cash deficit would be expected to cause the non-Social Security budget to become more austere. Under this scenario, an attempt to make Social Security fair to future generations by accumulating near-term surpluses in the trust fund would be undone by a non-Social Security policy that is less fair to future generations. ...

The Implications for Reform of Not Being Able to Effectively Pre-Fund Benefits If Social Security surpluses are not truly saved in the trust fund and if it is not possible to put in place some other mechanism to ensure that future Social Security benefits are pre-funded (such as personal retirement accounts or some other “lockbox” provisions), then it would be reasonable to compromise other reform objectives so as to limit trust fund accumulations. This can be accomplished in two ways: by reducing benefit levels while holding reform burdens constant, and/or by reducing the share of the Social Security reform burden that is imposed on early birth cohorts while keeping benefit levels constant. However, as will be discussed, only the first method of reducing trust fund accumulations would benefit future generations.

Reducing Benefit Levels Holding Reform Burdens Constant An inability to pre-fund Social Security benefits has an important effect on the decision of how large to make benefits. Compared with a reform that would be best overall if pre-funding were real, lowering each person’s taxes paid while working and benefits received in retirement in an actuarially equivalent manner (that is, reducing forced saving) would greatly reduce trust fund accumulations without affecting Social Security’s solvency or changing the distribution of Social Security’s net taxes across birth cohorts or income groups within birth cohorts. This policy change would have little effect on the well-being or retirement incomes of individuals who increase their private saving by the amount of their tax reductions— such people would do less forced saving through Social Security but make it up by saving more on their own. Individuals who do not save their tax reductions, however, might have inadequate income in retirement. That downside must be weighed against the increased fairness of overall fiscal policy toward future generations.

Changing the Distribution of the Reform Burden Holding Benefit Levels Constant Suppose the level of benefits (that is, forced saving) is held constant. Then trust fund accumulations could be reduced by shifting reform burdens only if payroll taxes were reduced for early birth cohorts and increased for later birth cohorts. Clearly, this policy change would not benefit future generations. However, it is worth noting that shifting the payroll tax burden from early to later generations would also not harm later generations if trust fund accumulations are not truly saved. To see this, suppose payroll taxes are reduced in the near term and increased in the longer term so that the present value of payroll tax revenues is unchanged, and that the near-term payroll tax increases are exactly offset by higher non- Social Security revenues in every year. Then the amount of publicly held debt that future generations inherit would not be changed, and nor would their benefit payment obligations. It follows that those generations are made no better or worse off by the policy change.15

How Can Effective Pre-Funding Be Achieved? If true pre-funding is not possible, the prospects for Social Security reform that is fair to future generations and that ensures adequate retirement incomes are greatly hindered. Rather than compromise on these goals, a better option would be to find a mechanism that provides more confidence that surplus revenues are truly saved. A future Treasury brief will explore this topic in detail.