Social Security: A Long Term Planning Horizon Like No Other

The Social Security Act was passed 77 years ago this month.  When you consider that the planning horizon for Social Security is 75 years into the future, then the most distant horizon at the start of the program was 2010, just two years ago.  What did 2010 look like, viewed from way back in 1935?  I doubt anyone but the actuaries at Social Security gave it much thought.  Who would have imagined the relentless march of technology, television, the computer, moon and Mars travel, the Internet, iPod, iPhone, iPad?  The U.S. population growing from 127 million to 309 million?  Per capita real income growth up over 400%?  A lot can happen in 75 years...

Now let's turn and look ahead 75 years, as the Social Security actuaries do each year.  Pretty foggy looking, isnt' it?  It's very hard to gauge what that future will bring.  I think we need to keep this in mind when we digest the forecasts for Social Security solvency and the estimates of what changes would be required to return it to balance.  That's because these estimates can vary considerably from year to year based on how the economy has done in the last year.  Needless to say, with the Great Recession performance of the last few years, the forecasts have dimmed considerably and steps required to right the Social Security ship have steepened sharply.  However, over reliance on these estimates as pin point forecasts is an incorrect use of the information.  Rather, we need to use this information as general feedback to guide us in the direction to take in correcting the system, knowing that large swings in one direction over a few years can be mitigated by swings in the other direction in the future.  Remember, it was only about a dozen years ago that people were fretting over U.S. government surpluses that would lead to a shortage of government debt for bond purchasers in the not-too-distant future!  (Talk about happy days...) 

Social Security is more a like a big ship that needs occasional changes of direction supplemented with constant tweaking to keep it on a viable course for another 77 years.

Social Security Shortfall: $30.5 Trillion? $134 Trillion?

When we're talking about Social Security we are always talking big numbers - make you dizzy numbers!  A widely distributed article by Stephen Ohlemacher published by Associated Press earlier this week gave context to these numbers.  Both figures are the actuarial estimates by the Social Security Administration covering the 75 years from now though 2086.  The $134 trillion number includes inflation occurring over this time frame while the $30.5 trillion amount is in 2012 dollars, a much more practical way to think about the problem.  That works out to just over $400 billion per year over the 75 year period, so the problem is indeed substantial.

One way to address the shortfall is to do nothing.  The result?  Benefits would have to be cut across the board about 25% beginning in 2033.  Thereafter the system would remain in approximate balance.

Another alternative would be to increase the payroll tax rate, currently 12.4% (includes employee and employer contributions), by 2.67 percent to a total of just over 15%.  This would put the system back in balance.  While that is a sharp tax increase, keep in mind that for the last two years they cut the tax rate paid by employees by 2%.  It is scheduled to go back up by 2% in January 2013, restoring it to the prior rate.  Though that will pose a drag on economic growth (2% less in most workers' paychecks to spend), no one is forecasting the end of the world.  So a 2.67% increase, especially if it was feathered in over a decade or two, is conceivable.  More likely a more modest tax increase will be combined with other modifications, such as raising the tax cap, raising (again) the Full Retirement Age since we are living longer, and adjustment to the cost of living formula.

While the numbers are big, the solution to the Social Security shortfall requires a mix of modest changes which, if implemented gradually, can return the system to solvency, not just for the Baby Boomers, but for those just entering the workforce today.

Is Social Security a Good Deal? Yes, If You Consider the Whole Package!

A recent article published by Associated Press has been picked up by numerous newspapers: "Social Security not deal it once was" is a typical headline – in this case from The Washington Post. According to the author it started out as a very good deal: "If you retired in 1960, you could expect to get back seven times more in benefits than you paid in Social Security taxes, and more if you were a low-income worker, as long you made it to age 78 for men and 81 for women." According to sources referenced in the article, this is no longer the case: "A married couple retiring last year after both spouses earned average lifetime wages paid about $598,000 in Social Security taxes during their careers. They can expect to collect about $556,000 in benefits, if the man lives to 82 and the woman lives to 85, according to a 2011 study by the Urban Institute, a Washington think tank."
We have not undertaken to analyze the underlying assumptions that drive these calculations, like discount rates used and so forth. Instead, let's grant this analysis the benefit of the doubt and consider the conclusion – that Social Security is not a good deal – from another point of view altogether. First, Social Security is not a retirement savings program. Rather, it is a mix of income insurance programs: in addition to the retirement benefits most of us associate with Social Security, the program provides income security for survivors, income to provide for dependent members of their families if they die young, disability income if they lose their ability to work through illness or accident, and supplemental income security for the very needy. All these programs are adjusted annually to protect the beneficiaries from inflation. In addition, they are progressive in design, meaning they are intended to replace a higher share of low income earners' income, and a lower share of higher income earners' income – on the assumption that the higher earners were better able to set aside other savings to complement Social Security benefits.
In other words, Social Security is a collection of insurance policies that will pay out for you, depending on your needs. Like most insurance policies, we usually feel better off if we never have to claim against them. No one pays for homeowners or car insurance, and then wishes for a home fire or car accident so they can get some money back out of their policies! Considered from this point of view, Social Security isn't a bad deal today after all: you get this broad set of income insurance coverage and, if you turn out to be an average earner couple who lives to an average age, you get most of your money back!
More importantly, asking whether Social Security is a good deal is not the most useful question to pose. Rather, the question that makes the biggest difference for you is this: Given that the system is what it is, how do I get the most out of it? We have seen over and over in our analysis of specific cases and longevity statistics that the exercise of a smart claiming strategy by an average earner couple who live to their average ages can easily put $100,000 or more in their pockets compared to the strategy most people use, claiming at age 62. Add that extra money into the case presented in the article and this couple does make some return on their Social Security tax payments. What insurance policies have you purchased that provide both the insurance and the potential for a return on your overall payments – all backed by the full faith and credit of the United States?

Your Social Security Statement Now Available Online

Notice anything missing from your mailbox the last couple of years? That would be your annual Social Security Statement. The Social Security Administration (SSA) stopped mailing them around this time last year as a cost-cutting measure. As taxpayers we can all applaud the roughly $70 million in annual savings. However, the SSA also promised that an online version would be available by year end. That target slipped as the agency wanted to ensure the security of the online system before going live, a task they finally accomplished earlier this summer. Now you can go to www.ssa.gov/mystatement, where you can set up an account and thereafter enjoy secure access to your entire earnings record, amounts you have paid into Social Security and Medicare, and the current estimate of your benefits. SSA will continue to send paper statements to those sixty and over until they retire and start their claim.

This is one of many cost-cutting measures made possible by the Web. SSA is working to move more of its interaction with the public online in order to relieve and possibly reduce the growing demand at its field offices. Already roughly 41% of Social Security claims and 44% of Medicare claims originate online. Imagine how much larger the agency workforce of nearly 70,000 would have to be if these millions of claims had to be first processed in the field offices!

Don't Lump Social Security and Health Care Together

I am all for dealing with our national debt in a timely manner.  However, whenever the topic is raised by serious policy makers, the opening statement goes something like this: "If we don't deal with the twin entitlements of Social Security and health care, they will gobble up an ever-growing share of our GDP, crowding out investment and crippling growth..."  If only these folks would take a look at the facts before they speak.

I was relieved to see this article by Dylan Matthews in The Washington Post: "Health care is crowding out everything.  Social Security isn't."  It includes a terrific chart from the Congressional Budget Office showing that while Social Security commitments will rise from around 5% of GDP to 6% through 2051, health care spending rises from 5% to 12%.  Health care spending is the 800 pound gorilla in the room where the deficits and debt reside.  The relatively minor problems posed by Social Security can be fixed with minor changes to the program's components, phased in gradually.  I wish the same could be said for health care spending.  In any case, let's stop lumping the two together in the same breath as if they share equally as causes of our debt woes, because they do not.