August 3, 2005
Editor
Donald R. Byrne, Ph.D.
Associate Editor
Edward T. Derbin, MA, MBA
Note: To print a hard copy of this newsletter, click on the following link for a PDF download…
Newsletter Volume 2005 Issue 3 Complete.pdf
Social Security: Is There a Crisis or Not?
Introduction
If the current tax benefit structure were
maintained, nearly all people, fifty and above today, would be able to
collect their benefits until they died. However, those younger than fifty
– the kids, grand kids and great-grand kids, well they face an entirely
different picture. They are seeing rates of return in contributing to the
Social Security System falling every year. It’s
expected that in 50 years, those just retiring, would begin to realize a
negative rate of return in real benefits. Secondly, young people are
beginning to realize that the rate of return they can achieve via
self-direction is far better than under the existing system, where surpluses are invested in low interest-bearing special issues of
They love you mom and dad, grandma and grandpa, but you have to
sit down with them and get your elected representatives to introduce more
balance in to the system. Remember, that the age group of 65 and above
will peak at around 21% of the population.
This
is still a democracy, not a gerontocracy!
THE NATURE OF THE SOCIAL SECURITY CRISIS
Is there a Social Security crisis? Emphatically, yes! But the crisis is different for different groups, e.g. the seniors versus the younger people. The actual crunch is about 12 years away depending on what aspect of the crisis you are considering. That seems like a long time but as time passes, without taking actions, the easier options to solve the problem disappear. The remaining options become harsher and harsher and fewer are left.
There are several causes of the crises. We will analyze these causes first and then discuss some salient issues.
The Social Security program has several aspects to it. By adding new areas of benefits over the years, it has become a combination of Old Age, Survivors, Disability Insurance, Health Insurance (Medicare), and SSI (Supplemental Security Income). We will confine ourselves to the Old-Age and Survivors Insurance and Disability Insurance (OASDI) aspect of the Social Security problem. I will refer you to many good sources. Unfortunately, they tend to be very complex, so I will try to keep it simple in this presentation.
In recent years, the Social Security taxes have exceeded the pre-tax Social Security benefits received. This excess is referred to as a surplus. By law, that surplus must be invested only in special issues of U.S. Government securities. This excludes investments in marketable issues of the U.S. Government such as Treasury Bills, Notes and Bonds. It also excludes investment in private sector securities as well as state and local government securities.
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How the Trust Fund Dollars are Invested
By law, all income to the trust funds that is not immediately needed to pay expenses is invested, on a daily basis, in securities guaranteed as to both principal and interest by the Federal government. All securities held by the trust funds are "special issues." Such securities are available only to the trust funds.
In the past, the Trust Funds have held "public issues" (marketable securities available to the general public). Unlike marketable securities, special issues can be redeemed at any time at face value. Marketable securities are subject to the forces of the open market and may suffer a loss or enjoy a gain if sold before maturity. Investment in special issues gives the trust funds the same flexibility as holding cash.
Social Security Online: Trust Fund Data (http://www.ssa.gov/OACT/ProgData/fundFAQ.html#n2)
The current
balance in the OASDI Trust Fund as of May 2005
$1.7 trillion (OASI = $1.5 trillion; DI = $0.2 trillion)
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GAO 2002 (Statement of David Walker Comptroller General of the
http://www.house.gov/budget/hearings/walker61902.htm
v Pay as you go (Paygo)
v Taxes
v Transfer Payments
At the present time, the Social Security System is on
a pay as you go basis – and will continue on until around 2017, at which time,
taxes will be insufficient and the OASDI Trust Fund will begin to be drawn
down. This system works in the following manner:
If you are in covered employment, the total social security tax (OASDI) is 15.3%; the cap on earnings subject to the tax will be $90,000 in 2005. When you retire and become eligible for OASI payments, they are referred to as a transfer payment. The term transfer payments are neither good nor bad (it’s just a technical term): it simply means that at the present time, when you receive these benefits they are not income resulting from a productive resource, such as a supply of labor (during the current period). So in effect, you are receiving a transfer of purchasing power from those who are currently paying social security taxes. Part of the income they earn by producing goods and services is transferred to you, just as for you, when you paid your social security taxes in the past some of your income was transferred beneficiaries.
Beginning in 2017, taxes will be insufficient to pay all of the “scheduled benefits.” To make up the deficit, Social Security Administration will cash in (so to speak) the special issues of government debt that were acquired during the periods when the Administration was running a surplus. That combination of sources to pay your scheduled benefits will reach another critical juncture in 2041 – at that time, the fund will be entirely exhausted. Assuming no changes in the meantime, benefits will then have to fall by around 20% to equal the inflows.
Demographic
“As you all know, Social Security has always been largely a pay-as-you-go system. This means that current workers' taxes pay current retirees' benefits. As a result, the relative numbers of workers and beneficiaries has a major impact on the program's financial condition. This ratio, however, is changing. In the 1960s, the ratio averaged 4.2:1. Today it is 3.4:1 and it is expected to drop to around 2:1 by 2030. The retirement of the baby boom generation is not the only demographic challenge facing the system. People are retiring early and living longer. A falling fertility rate is the other principal factor underlying the growth in the elderly's share of the population. In the 1960s, the fertility rate was an average of 3 children per woman. Today it is a little over 2, and by 2030 it is expected to fall to 1.95-a rate that is below replacement. Taken together, these trends threaten the financial solvency and sustainability of this important program. (See fig. 1.)”
Figure 1: Social Security Workers per Beneficiary
…the Background
Demographics
Age 60+ (born in 1945 and before)
· Significantly smaller cohort than those that follow
· The Pre-Baby Boomers (born before 1946) constituted 16.8% of our population in (2005 49.7 million of a population of 295.5 million)
Age 41 – 59 (born 1946 through 1964)
· Known as the “pig in the python,” because this cohort is so much larger than those born before
- The Baby Boomers (born from 1946 through 1964) constituted 26.4% of our population in 2005 (78.1 million of a population of 295.5 million)
Age 22 – 40 (born 1965 through 1983)
- The so-called “birth dearther” cohort is about the same size as the preceding baby-boomers, but their numbers are much too small to support the boomers (and older group) as the move into their retirement years
- The “birth dearthers” (born from 1965 to 1983) constituted 26.2% of our population in 2005 (77.5 million of a population of 295.5 million)
Longevity
Good news…people are living longer; the challenge comes in financing the lengthening sunset years.
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Social Security Administration |
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Period Life Table |
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Updated April 22, 2005 |
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Period Life Table, 2001 |
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Male |
Female |
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Exact Age |
Number of survivors out of 100,000 born alive |
Life Expectancy |
Number of survivors out of 100,000 born alive |
Life Expectancy |
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45 |
93,904 |
32.16 |
96,625 |
36.31 |
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46 |
93,538 |
31.29 |
96,413 |
35.39 |
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47 |
93,142 |
30.42 |
96,183 |
34.47 |
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48 |
92,716 |
29.56 |
95,937 |
33.56 |
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49 |
92,263 |
28.7 |
95,672 |
32.65 |
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50 |
91,782 |
27.85 |
95,387 |
31.75 |
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51 |
91,271 |
27 |
95,079 |
30.85 |
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52 |
90,726 |
26.16 |
94,746 |
29.95 |
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53 |
90,144 |
25.32 |
94,385 |
29.07 |
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54 |
89,521 |
24.5 |
93,994 |
28.18 |
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55 |
88,855 |
23.68 |
93,569 |
27.31 |
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56 |
88,139 |
22.86 |
93,107 |
26.44 |
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57 |
87,369 |
22.06 |
92,603 |
25.58 |
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58 |
86,538 |
21.27 |
92,054 |
24.73 |
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59 |
85,641 |
20.49 |
91,455 |
23.89 |
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60 |
84,671 |
19.72 |
90,802 |
23.06 |
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61 |
83,622 |
18.96 |
90,089 |
22.24 |
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62 |
82,486 |
18.21 |
89,311 |
21.43 |
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63 |
81,260 |
17.48 |
88,465 |
20.63 |
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64 |
79,939 |
16.76 |
87,548 |
19.84 |
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65 |
78,518 |
16.05 |
86,555 |
19.06 |
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66 |
76,990 |
15.36 |
85,480 |
18.3 |
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67 |
75,349 |
14.68 |
84,315 |
17.54 |
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68 |
73,591 |
14.02 |
83,058 |
16.8 |
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69 |
71,715 |
13.38 |
81,704 |
16.07 |
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70 |
69,719 |
12.75 |
80,252 |
15.35 |
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Period Life Table |
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Updated April 22, 2005 |
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Period Life Table, 2001 |
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Male |
Female |
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Exact Age |
Number of survivors out of 100,000 born alive |
Life Expectancy |
Number of survivors out of 100,000 born alive |
Life Expectancy |
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71 |
67,593 |
12.13 |
78,688 |
14.65 |
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72 |
65,335 |
11.53 |
77,002 |
13.96 |
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73 |
62,951 |
10.95 |
75,195 |
13.28 |
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74 |
60,450 |
10.38 |
73,267 |
12.62 |
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75 |
57,838 |
9.83 |
71,214 |
11.97 |
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76 |
55,110 |
9.29 |
69,022 |
11.33 |
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77 |
52,265 |
8.77 |
66,677 |
10.71 |
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78 |
49,312 |
8.27 |
64,178 |
10.11 |
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79 |
46,261 |
7.78 |
61,526 |
9.52 |
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80 |
43,126 |
7.31 |
58,721 |
8.95 |
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81 |
39,920 |
6.85 |
55,756 |
8.4 |
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82 |
36,658 |
6.42 |
52,626 |
7.87 |
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83 |
33,360 |
6 |
49,337 |
7.36 |
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84 |
30,049 |
5.61 |
45,898 |
6.88 |
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85 |
26,760 |
5.24 |
42,330 |
6.42 |
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86 |
23,531 |
4.89 |
38,659 |
5.98 |
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87 |
20,407 |
4.56 |
34,921 |
5.56 |
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88 |
17,433 |
4.25 |
31,162 |
5.17 |
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89 |
14,651 |
3.97 |
27,434 |
4.81 |
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90 |
12,095 |
3.7 |
23,791 |
4.47 |
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91 |
9,794 |
3.45 |
20,295 |
4.15 |
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92 |
7,767 |
3.22 |
17,002 |
3.86 |
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93 |
6,022 |
3.01 |
13,964 |
3.59 |
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94 |
4,556 |
2.82 |
11,224 |
3.35 |
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95 |
3,357 |
2.64 |
8,813 |
3.13 |
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96 |
2,408 |
2.49 |
6,753 |
2.93 |
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97 |
1,680 |
2.35 |
5,047 |
2.75 |
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98 |
1,141 |
2.22 |
3,678 |
2.58 |
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99 |
754 |
2.11 |
2,613 |
2.43 |
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100 |
486 |
2 |
1,811 |
2.29 |
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Note: The period life expectancy at a given age for 2001 represents the average number of years of life remaining if a group of persons at that age were to experience the mortality rates for 2001 over the course of their remaining life. |
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Administration on Aging |
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http://www.aoa.gov/prof/Statistics/future_growth/aging21/table1.asp |
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Table 1 - Projections of the Population, by Age and Sex: 1995 to 2050 (Numbers in thousands. Minus sign denotes a decrease. Middle series of U.S. Bureau of the Census.) |
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BOTH SEXES |
SEX |
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AGE GROUP AND YEAR |
Number |
Percent of all ages |
Percent increase from 1995 |
Male |
Female |
Sex Ratio (Men to 100 Women) |
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ALL AGES |
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1995 |
262,820 |
x |
x |
128,311 |
134,509 |
95.4 |
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2000 |
274,634 |
x |
4.5 |
134,181 |
140,453 |
95.5 |
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2010 |
297,716 |
x |
13.3 |
145,584 |
152,132 |
95.7 |
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2030 |
346,899 |
x |
32 |
169,950 |
176,949 |
96 |
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2050 |
393,931 |
x |
49.9 |
193,234 |
200,696 |
96.3 |
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55-64 |
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1995 |
21,138 |
8 |
x |
10,045 |
11,093 |
90.6 |
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2000 |
23,961 |
8.7 |
13.4 |
11,433 |
12,528 |
91.3 |
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2010 |
35,283 |
11.9 |
66.9 |
16,921 |
18,362 |
92.2 |
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2030 |
36,348 |
10.5 |
72 |
17,441 |
18,907 |
92.2 |
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2050 |
42,368 |
10.8 |
100.4 |
20,403 |
21,965 |
92.9 |
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65-74 |
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1995 |
18,758 |
7.1 |
x |
8,337 |
10,421 |
80 |
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2000 |
18,136 |
6.6 |
-3.3 |
8,180 |
9,956 |
82.2 |
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2010 |
21,058 |
7.1 |
12.3 |
9,753 |
11,305 |
86.3 |
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2030 |
37,407 |
10.8 |
99.4 |
17,878 |
19,529 |
91.5 |
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2050 |
34,732 |
8.8 |
85.2 |
16,699 |
18,033 |
92.6 |
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75-84 |
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1995 |
11,151 |
4.2 |
x |
4,326 |
6,825 |
63.4 |
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2000 |
12,316 |
4.5 |
10.4 |
4,938 |
7,378 |
66.9 |
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2010 |
12,680 |
4.3 |
13.7 |
5,363 |
7,317 |
73.3 |
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2030 |
23,517 |
6.8 |
110.9 |
10,818 |
12,699 |
85.2 |
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2050 |
25,905 |
6.6 |
132.3 |
12,342 |
13,563 |
91 |
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85+ |
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1995 |
3,634 |
1.4 |
x |
1,015 |
2,619 |
38.8 |
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2000 |
4,259 |
1.6 |
17.2 |
1,228 |
3,031 |
40.5 |
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2010 |
5,670 |
1.9 |
56 |
1,771 |
3,899 |
45.4 |
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2030 |
8,454 |
2.4 |
132.7 |
3,021 |
5,433 |
55.6 |
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2050 |
18,224 |
4.6 |
401.5 |
7,036 |
11,188 |
62.9 |
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65+ |
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1995 |
33,544 |
12.8 |
x |
13,678 |
19,866 |
68.9 |
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2000 |
34,710 |
12.6 |
3.5 |
14,346 |
20,364 |
70.4 |
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2010 |
39,409 |
13.2 |
17.5 |
16,887 |
22,522 |
75 |
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2030 |
69,379 |
20 |
106.8 |
31,718 |
37,661 |
84.2 |
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2050 |
78,859 |
20 |
135.1 |
36,076 |
42,783 |
84.3 |
Note the relatively small portion of Americans above 65 in 2005
By 2025, the picture changes significantly
Absolute Increases in Real Benefits
Income of the Aged Population
Size of Income, 1962 and 2002
Median annual income for married couples and nonmarried persons (aged 65 or older) has increased markedly since 1962 (the earliest year for which data are available). Even after adjusting for inflation, median income has risen 90% for married couples and 96% for nonmarried persons.
Median income of the aged, by marital status (in 2002 dollars)
http://www.ssa.gov/policy/docs/chartbooks/fast_facts/2004/ff2004.html
Fast Facts & Figures About Social Security, 2004
(Social Security Online)
Social security is the largest and growing piece of the federal tax pie.
If there are no changes…
- According to projections by the U.S. Social Security Administration, our annual surplus will move to deficit territory (this means that payments (outlays) will exceed receipts (revenue)
- In 2041, the OASDI (Old-Age and Survivors Insurance and Disability Insurance) will be exhausted and benefits will be reduced by 20%.
OASI = Social Security; DI = Disability Insurance; OASDI = Combined Social Security/Disability; HI = Medicare
Social Security's Cash Flow Is Expected To Turn Negative in 2017
Today, the Social Security Trust Funds take in more in taxes than they spend. Largely because of the known demographic trends I have described, this situation will change. Under the Trustees' intermediate assumptions, annual cash surpluses begin to shrink in 2006, and combined program outlays begin to exceed dedicated tax receipts in 2017, a year after Medicare's Hospital Insurance Trust Fund (HI) outlays are first expected to exceed program tax revenues. At that time, both programs will become net claimants on the rest of the federal budget.
From 2005 Annual Social Security and Medicare Trust Fund Reports
http://www.ssa.gov/OACT/TRSUM/trsummary.html
What is the OASDI (Social Security) Trust Fund and why should we be concerned if there is a deficit starting in 2017 when it is supposed to be funded at current benefit levels until 2041?
While it is true that the Social Security System is theoretically held separate from the Federal Budget, after around 2017 the previous surpluses will turn into deficits ((surplus/deficits refers to flows in and out of the trust fund). The shortfall in benefit payments will have to be financed through the federal government, either through raising taxes or issuing more debt (in either case, a burden is placed on the tax payer, immediately in the case of a tax hike, or deferred in the case of issuing more government debt).
Keep in mind that we are not talking about reducing benefits…not until 2041, that is
By the year 2041, the Social Security Administration projects that the OASDI (Social Security) Trust Fund will be exhausted entirely. At that time, funding will revert to pay as you go and the benefits will be immediately reduced by 20%.
Why the growing apprehension by the Baby Boomers and younger?
- Regardless of any political chatter, future Social Security recipients will realize significantly lower rates of return on their investment.
Returns on Investment
Private Investment (Stocks and Bonds) vs.
Government Securities (Bonds) vs.
Social Security
Selected Realized
Returns,
1926 – 2001
Average Standard
Return Deviation
Small-company stocks 17.3% 33.2%
Large-company stocks 12.7 20.2
L-T corporate bonds 6.1 8.6
L-T government bonds 5.7 9.4
U.S.
Source:
Based on Stocks, Bonds, Bills, and Inflation: (Valuation Edition) 2002
Yearbook (Chicago
http://www.whitehouse.gov/omb/budget/fy2002/bud15.html (OMB)
- Given the reality of a system that promises shrinking returns (likely negative) and ever increasing costs, it is no wonder that younger people have a very strong desire to self-direct at least a portion of their Social Security retirement dollars.
- They understand that their tax burden will rise in the future (beginning in 2017) and once the trust fund dries up in 2041, their benefits will drop by 20%.
- In addition, their retirement age will probably rise to age 70 (or more).
Another caveat concerning pushing the increasing burden on
to higher income earners…
The percentage of people living below the poverty line does not give a complete picture of the economic situation of older Americans. Examining the income distribution of the population age 65 and over and their median income provides additional insights into their economic well-being.
· Since 1974, the proportion of older people living in poverty and in the low-income group has generally declined so that, by 2002, 10 percent of the older population lived in poverty and 28 percent of the older population were in the low-income group.
· In 2002, people in the middle income group made up the largest share of older people by income category (35 percent). The proportion with a high income has increased over time. The proportion of the older population having a high income rose from 18 percent in 1974 to 26 percent in 2002.
· The trend in median household income of the older population has also been positive. In 1974, the median household income for older people was $16,882 when expressed in 2002 dollars. By 2002, the median household income had increased to $23,152.
The first thing that jumps out at the reader (or should) is the fact that the overwhelming burden of (Federal Personal Income) taxes are borne by only half of the taxpayers…96% in 1999.
Net Worth
Net worth (the value of real estate, stocks, bonds, and other assets minus outstanding debts) is an important indicator of economic security and well-being. Greater net worth allows a family to maintain its standard of living when income falls because of job loss, health problems, or family changes such as divorce or widowhood.
· Between 1984 and 2001 the median net worth of households headed by white people age 65 and over increased 81 percent from $113,400 to $205,000. The median net worth of households headed by black people age 65 and over increased 60 percent from $25,600 to $41,000.
· Although the rate of growth of wealth between 1984 and 2001 has been substantial for both older black households and older white households, large differences continue to exist, with the median net worth of older white households ($205,000) five times larger than older black households ($41,000).
· In 2001, the median net worth of households headed by married people age 65 and over ($291,000) was more than twice that of households headed by unmarried people ($100,800) in the same age group.
· Overall, between 1984 and 2001 the median net worth of households headed by people age 65 and over increased by 82 percent (from $98,900 to $179,800).
Participation in the Labor Force
The labor force participation rate is the percentage of a group that is in the labor force—that is, either working (employed) or actively looking for work (unemployed). Some older Americans work out of economic necessity. Others may be attracted by the social contact, intellectual challenges, or sense of value that work often provides.
· Between 1963 and 2003, labor force participation rates declined from 90 percent to 75 percent among men age 55-61. Over this period, participation rates declined from 76 percent to 50 percent for men age 62-64 and from 21 percent to 12 percent for men age 70 and over. For all of these groups, most of these declines occurred prior to 1980.
· The decline in labor force participation among older men before the 1980s has been attributed to several factors. The youngest age of eligibility for Social Security benefits was reduced from 65 to 62 in the early 1960s. Greater wealth also allowed older Americans to retire earlier. The more recent stability of participation rates has been partially explained by the elimination of mandatory retirement laws, liberalization of the Social Security earnings test (the reduction of Social Security benefits as earnings exceed specified amounts), and gradual increases in the delayed retirement credit for Social Security beneficiaries.
· While men age 65-69 also have experienced an overall decline in labor force participation over the past 4 decades, this group has gradually increased its participation rate in more recent years. Men age 65-69 experienced declines in labor force participation similar to the other older age groups prior to the early 1980s, then saw their participation level off between 1983 and 1993 with rates in the 24 percent to 26 percent range. Since then, their participation rate has increased to nearly 33 percent in 2003.
While “contributions” to the system have risen over the years, benefits have outstripped them, with earlier recipients deriving more than those coming later. There is little doubt that contributions (taxes) will rise in the future and benefits will fall.
Last word…
The Cost of Delay
Each year, Social Security's trustees provide an estimate of the financial status of the program for the next 75 years. In changing from the valuation period of one year's Trustees Report to the next, an additional year with a large imbalance between taxes and benefits is added to the projection. As a result, the estimated cost of meeting Social Security's financial shortfall tends to go up every year.
Social Security's unfunded obligation on January 1 of each year
In the following table, we will see a rise in the cost of covered employees in OASDI:
2005 13.20%
2030 16.74% 26.8% higher
2005
13.36%
2075 18.90% 41.5% higher
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Table VI.F2.—Estimated OASDI and HI Annual Income Rates,
Cost Rates, [As a percentage of taxable payroll 1] |
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