What Is Social Security?

Much of the contention in the debate about Social Security derives from one basic source: few agree on what Social Security is. Many see it as a safety-net program and most of the rest want to the system to be a retirement plan. Oddly enough it is neither.

Social Security is basically insurance. Insurance protects you from large costs that you may or may not have to pay.  The likelihood of living to 100 is about 1%.  The cost of living for more than 30 years without a job is staggering.  Like fire or health insurance, Social Security protects you against the cost of an unknown event. 

The terms of insurance vary by type.  For instance, auto insurance insures a momentary event.  Health insurance insures costs occur within a whole year.  Social Security measures longer old-age in two week intervals with a small check, one that may payout over a very long period of time.  The length of the event does not change the nature of insurance.
 

No insurance pays the full cost of the event, likely or not.  Social Security does not pay the full cost of living without working.  Social Security does not prevent poverty.  It provides supplemental income to provide the retiree some measure of certainty against falling into poverty ridden old-age.  FDR's words not mine.
 

Insurance is an expense, not an investment.  Without Social Security, how could anyone retire?  Without insurance, the worker would need to create sufficient savings to live 30 years or more.  That is a lot of savings to require of someone who expects to live about 17 years, and may live less than 1 in actual retirement.  Insurance allows the worker to buy protection against the possibility that he might have an extended life, enabling him to retire at a reasonable age.
 

Insurance fits into a retirement plan with other tools.  When it was designed, Social Security was suppose to be only one part of a three legged stool.  The rest of the stool was private savings and private pensions. An investment is something that accumulates the wealth on which you retire.  Insurance protects that wealth so that you do not have to draw it down too early in retirement.
 

Some people argue that the force of law exerted by the government makes Social Security a welfare program.  Yes, Social Security is legally required for most workers.  This requirement is no different than the one by which most states have for auto insurance.  Yet your auto insurer is not an arm of the government to provide welfare.  The legal requirement to participate does not change the nature of the program. 

The reason that many struggle with the nature of Social Security comes from the way we pay for it.  The pay-as-you-go system doesn't work.  Instead of old-age insurance, this approach structures Social Security as i-dont-want-to-live-with-my-parents insurance. Invariably we look at the cost as too high, the benefits too low, and give politicians the power to sort-out the difference.  This is the unavoidable outcome of using the money of one to buy the insurance of another.

Until we agree upon what Social Security is, there will be no way to fix it.

LBJ And The Social Security Trust Fund

Urban legend continues to play a larger and larger role in the Social Security debate. The reason is simple.  Facts in this debate are complex, and do not lend themselves well to the pithy soundbytes which guide most modern political discourse.  Without facts, any debate degenerates into myth shouted ever louder in cliché and hyperbole.

One of the most pervasive myths in the Social Security debate suggests that President Lyndon Johnson (LBJ) stole the trust fund in order to pay for Vietnam.  So wide spread is this belief that the Social Security Administration has added it to its internet myths page.  And the audience isn’t just an out of mainstream conspiracy cult.  Former Senator Jim DeMint wrote in one of his books, “Raiding the Social Security Trust Fund was a precedent set in 1968 by another progressive president, Lyndon B. Johnson, to help pay for the Vietnam War.” 

The Social Security Administration responds directly to this claim.  The Social Security Trust Fund has never been "put into the general fund of the government."  For this myth to be fact, it would require a 50 year conspiracy that crosses administrations, political parties, and ideologies.  The only word in the English language to describe this suspicion is crazy.

The myth seems connected to LBJ’s proposal to move Social Security into the Federal budget.  In short, yes LBJ recommended that the budget process should include the revenue and expense of Social Security.  No, his recommendation did not actually move any money from Social Security.   You might consider this distinction like filing a 1040 jointly with a spouse.  While the 1040 form reports income and expense of both spouses, it does not move any money between accounts.

“A Presidential commission composed of distinguished congressional fiscal leaders and other prominent Americans recommended this year that we adopt a new budget approach. I am carrying out their recommendations in this year's budget. This budget, therefore, for the first time accurately covers all Federal expenditures and all Federal receipts, including for the first time in one budget $47 billion from the social security, Medicare, highway, and other trust funds.” 

~ State Of The Union 1968

This mythos unravels over multiple layers.  LBJ’s term as president expired before Social Security was moved into the Unified Budget process.  There is no historical record of any money moving improperly out of the Social Security Trust Fund.  And even there were a paper trail of money moving, the sums in the Trust Fund during the time of LBJ were relatively very small. 

There is a more basic problem with the idea that LBJ stole the Trust Fund: there wasn’t much money to take in 1968.  At the time, Social Security was a pay-as-you-go system, leaving almost nothing for LBJ to steal.  Prior to 1983, the excess cash collected by the system in any year peaked at 5.5 billion in 1969 which is roughly $37.5 billion in today’s money.  At the time, the entire balance of the Trust Fund was less than $29 billion, roughly 190 billion in 2014 dollars.  In contrast, the Trust Fund today is worth roughly $2.8 trillion and throws off more than $100 billion in interest alone each year.

Beyond the denial of the Social Security Administration, Snopes dismisses the possibility.  FactCheck rejects the possibility.  All of these sources reach basically the same conclusion: the process which governs the movement of money hasn’t changed since 1939.  When payroll taxes exceed the cost of benefits, the excess cash is invested in government securities.  This is no different from a private pension buying government securities, only the government gives Social Security a slightly better terms.

Social Security serves millions of people, and conducting a debate on reform based on myths and clichés is dangerous.  Today the debate is hinges more on volume than on fact which has degenerated into a collective shouting match in which the more you type the righter you are.

Social Security Crisis: The Object In The Mirror Is Larger Than It Appears

Every car sold since I was born carries a warning on the passenger side view mirror: "Objects in the mirror are closer than they appear." Car manufacturers provide this warning because the same mirror produces different views of the same traffic: one accurate and one dangerous.

 

The Social Security debate has its own set of mirrors, which creates the illusion to make the problem appear look smaller than it is. The difference here, of course, is that car manufacturers see the danger of misreading traffic, whereas those in our government want the public to misread the size of the underfunding of Social Security.

 

The problem in Social Security is that the system has made more promises than it has money. This problem is expressed as the "shortfall." The figure represents the amount of promises left over after the trust fund has been exhausted. It is total amount of promises in excess of what Social Security can pay.

 

The Trustees provide information on the "shortfall" in two different forms. One is the 75-year shortfall, and the other is the infinite shortfall. In 2013, the Trustees determined that Social Security has a shortfall of 23.1 trillion dollars over the infinite horizon, whereas the 75-year shortfall is roughly $9.6 trillion. So to believe that the 75-year "shortfall" is meaningful, you have to believe that the vast majority of Social Security's problems lie 76 years or more away. 

 

No one does, of course. Washington uses this view because it makes the problem appear smaller -- about 12 trillion dollars smaller. So it is important for readers to understand how the illusion works.

 

The illusion works by stating that costs aren't costs. Social Security is financed by making promises to current workers of future benefits. The payroll tax is recognized as revenue today. The cost of the promise isn't booked until the check is paid. The 75-year figure captures all of the revenue but only a fraction of the actual cost because it ignores the financing cost -- future benefits.

 

The calculation for the 75-year solvency number captures all of the projected revenue that falls within the 75-year window. The calculation captures only a fraction of the cost because the majority of the cost for collecting the revenue falls outside of the 75-year window. The "infinite" figure captures all revenue and the full cost to accept the revenue.

 

•  For someone who is 50 years old, it captures the next 17 years of revenue and all of the projected costs for that person, because the formulas assume that that retiree will die within the 75-year window.
• For someone who doesn't die within the 75-year window, the formula includes only the cost of benefits which should fall in the 75-year window. For the person born today, the formula will capture roughly 49 years of taxes and 8 years of projected benefits. While that retiree might collect longer than 8 years, the remaining cost is outside of the 75-year window.
• The problem is more visible for the person who is born in 8 years. The formula will capture all 49 years of revenue for that worker but will not accrue any cost for the promises made in taking the money.

While I am not 75, the government has declared Social Security solvent for 75 years three different times in my life. So it is important to understand the difference between fixed and solvent. "Fixed" means that you have no problem.  "Solvent" means that you have made your problem a problem for your children.

 

 

The Value Of The Social Security Trust Fund

"What I enjoy most, is living like an aristocrat without the burden of having to be one…. I don't envy them. It's only the trappings of aristocracy that I find worthwhile - the fine furniture, the paintings, the sliver--the very things they have to sell when the money runs out. And it always does, and all they are left with is their lovely manners." - Jim Williams in Midnight In The Garden Of Good And Evil.

It is de rigueur conservative politics to call the Social Security Trust Fund a collection of worthless IOUs. This presents a serious problem for Americans worried about the subject because hyperbole will condition people to believe that the Social Security system can't get into worse shape, when in fact the situation can and will get much worse.

These are serious think tanks, journalists, and investment magazines.

• "As they are bonds not backed by any real assets, the government will have to either borrow or raise taxes to pay for them" ~ The Heritage Foundation
• "They do not consist of real economic assets that can be drawn down in the future to fund benefits." In other words, the Social Security trust fund contains - nothing." ~ Charles Krauthammer
• "Officially, the trust fund holds $2.6 trillion in special-issue Treasury bonds. In reality, it has no assets of any value", ~ Investors Business Daily

According to IBD, 28% of Americans have already become comfortable with the idea that Social Security contains nothing but worthless IOUs when in fact the assets are far from worthless. No hard assets? The government has significant hard assets in gold and oil. It is the largest land holder in the country. It has a pending revenue stream coming from 16 trillion dollars held in tax deferred accounts. The government today has the hardest asset in the country – the power to print money. This power is absolutely the hardest asset because it undermines every other asset in the country.

The problem isn’t that the securities held by the Social Security Trust Fund are worthless. The problem is that they are worth less every day, and will be worthless one day. Every day the government makes more promises, borrows more money and prints more money. The collective promises are growing much faster than our hard-assets. They are growing faster than our tax base. We are basically a family living on wealth which is running out. And if you don’t think it can get worse just wait until all we have left is our lovely manners.

USA Today's Dangerous Minds

http://www.usatoday.com/news/opinion/editorials/2011-06-16-Payroll-taxes-raid-Social-Security_n.htm

In an editoral, USAToday offers "For almost three decades, Social Security was the only major government benefit program that generated more money than it cost, thanks to hefty payroll tax revenue that exceeded benefit payments to seniors." It is dangerous thinking.

The only way you can say the Social Security has generated more money than it cost, is to ignore the real costs of the system. In 2010, Social Security generated a total of 677 billion and paid out 584 billion. But the 584 billion does not include the cost of future promises. In exchange for the 677 billion, we give pension promises to the working generation who pay Social Security. Social Security is only cashflow positive to the extent that we intend to renege on these commitments.

What USAToday says is based on "cash-accounting". Before you roll your eyes, here is a practical example of "cash-accounting": Wells is a beer drinking college student, who goes daily to the ATM to retreive his balance. He doesn't bother with the other checks that he has written or the impending tuition payment. Whatever the ATM says is how much beer he can buy. That is how cash-accounting works.

Now you may think that Wells is not a problem because he is not your son. But he is your problem if he is the chief accountant for the Social Security system. And there is no way to say he is not when you look at the way that the accounting is handled. When you hear that Social Security is 'making money' you need to think of Wells standing at the ATM shaking a receipt in your face and saying "come-on you cheap skate I'm buying".

The take home here is that cash accounting is illegal for all public companies. There is a reason. It is grossly misleading. Social Security does not generate more than it takes in. It has generated unfunded liabilities in the trillions of dollars.

Does Social Security Add To The Deficit

"Does. Does Not. " And the argument goes on forever.

The short answer is that Social Security in our view is a contributor to the deficit. The amount is less important because the short answer is no one knows the extent.

FICA taxes contribute to the deficit today, not just in the future. FICA taxes restrict the economic activity which generates income taxes that would pay down the deficit. They lower the incentive to work, and increase the incentive to evade or avoid the tax system all together. They make the cost of goods produced in the United States less competitive in the world markets, which costs us jobs.

The larger impact on the deficit comes as FICA diverts taxable income away from the general fund to the retirement system. FICA and Income taxes are connected because they compete for resources within the same tax base. They are like two straws drinking from the same soda. What one takes is not available for the other. This impact is enormous.

There are people who will disagree with our position. These people will argue that FICA isn't a tax at all. It is an economic investment which will pay-off at retirement. Further they suggest that it is an investment which lowers the overall borrowing costs of the government. Our surveys find very little public support for this theory. ABC News/Washington Post polls showed that 81% of Americans believe that Social Security is heading for a crisis without changes. So if it is an investment, most people think it is a pretty bad one.

No one can tell you how much Social Security contributes to the deficit. The more it is a tax, the more it contributes to the deficit. The more it is an investment, the less it contributes.

FICA Is A Tax

The flaw in most commentary about Social Security is that it assumes that FICA taxes and Income taxes are unrelated. They are related because FICA taxes and Income taxes compete for resouces within the same tax base. You might view them like two straws drinking from the same soda. What one takes, the other cannot. Every dollar that is collected by FICA is a dollar that could have been raised to pay down the deficit. In the extreme view, we are allocating our tax base to our own retirement system and putting the rest of the government on our kids credit card.

The more people view that it is a tax, the more it adds to the deficit. As a tax, it directly contributes to the underground economy - now estimated to be about 2 trillion dollars. As a tax, it creates a significant pushback on general taxes. It is not possible to miss the correlation between rising FICA taxes and increasing pushback on income taxes. Today 47% of American households had no income tax obligation, and yet more than half of them had a FICA contribution.

FICA Is An Investment

The other extreme view is that FICA isn't a tax at all. It is an insurance premium which people treat like an investment. Many years ago people though of it as an investment at least to some extent. The terms were so generous that my father worked two summers away from home just to qualify. His salary barely covered his gas and lodgings, but it added the two quarters necessary for him to qualify for Social Security. He not only thought of it as an investment but a good one. In the extreme view, it is just a forced investment which induces a reduction in personal savings.

Does Social Security Add To The Deficit?

Anyone telling you that Social Security does not contribute to the deficit believes that FICA is an investment. They believe that every man, woman, and yes child(contributing) to the system believes that it is an investment. We will tell you that people have different views of what FICA is or isn't. To the extent that FICA is considered a tax, it adds to the deficit in a significant way.

Hauser's Law

The proposition was first put forward in 1993 by William Kurt Hauser, who wrote, "No matter what the tax rates have been, in postwar America tax revenues have remained at about 19.5% of GDP." That means that as FICA taxes go up, some other tax revenue must go down.

Why People Hate Discussions Of Social Security

One reason that people avoid the discussion of Social Security is that Yes is not necessarily the opposite of No. This is the result of politics in which the answer is less important than the framing of the question. Case in point.

This is : Yes, Social Security adds to the budget deficit

"These deficits, which began in 2009, could add trillions to the federal debt held by the public and hundreds of billions in annual interest costs. "

This is : No, Social Security does not add to the budget deficit

"In fact, Social Security’s Old Age and Survivors Insurance Trust Fund and its Disability Insurance Trust Fund are prohibited from paying benefits unless those funds have sufficient income and assets to cover the cost, and they have no borrowing authority to acquire the requisite income and assets. Consequently, Social Security is prohibited by law from deficit-spending and thus contributing to the federal deficit"

Both are true statements, but they don't actually refer to the same thing. The difference is "Held By The Public". The Social Security Trust Fund is not the public. It is an intergovernmental agency. So as we liquidate the Trust Fund, we will have to borrow from "the public", and we will see higher interest costs as a result.

Why does the public get a better deal than Social Security? Because "the public" has options to invest its money at the best rate. Social Security doesn't - and no one is talking about fixing that. (other than us)...

source :
http://jec.senate.gov/republicans/public/?a=Files.Serve&File_id=0edfdbbe-6f48-4007-a429-6ef64fda10cb