Thursday, February 24, 2005

In his laudable efforts to convince Congress and the public that Social Security needs to be reformed today, President Bush has been emphasizing that the retirement system will go bankrupt in 2042. That’s the year the “assets” in the Social Security Trust Fund will be depleted and scheduled benefits will have to be reduced by about 30 percent. While the 2042 bankruptcy assertion is true in a technical sense, it significantly understates the retirement system’s near-term problems. In fact, Social Security’s cash-flow crisis — and it will be a crisis — will begin in 2018, according to the intermediate projections of the Social Security trustees.

Since 1985, Social Security taxes have exceeded benefit payments. Each year this cash-flow surplus has been borrowed by the federal government to pay for other programs. In 2004, this surplus hit an estimated $64 billion. Social Security’s annual cash-flow surplus is scheduled to peak at $108 billion in 2008, after which it will decline until it disappears entirely in 2018. That’s when the crisis begins.

In exchange for lending its annual surplus, the trust fund has accumulated Treasury bonds, which generate interest income, which is paid in the form of more bonds (or Treasury IOUs). Today, the trust fund “assets” total nearly $1.7 trillion in Treasury IOUs. Having already spent the money, the government in effect owes this debt to itself. Thus, to redeem these bonds, the government will have only four options: raise taxes; reduce Social Security benefits; reduce spending elsewhere; or borrow on the world market.

In 2018, Social Security’s cash-flow surplus will turn into a projected $23 billion deficit. Thus, the trust fund’s income, excluding the interest payments that are merely intragovernmental accounting transfers, will be insufficient to pay scheduled benefits. To finance 2018’s $23 billion shortfall, the government will have to pursue one of the aforementioned four options or a combination.

The president’s 2006 wartime budget proposes to reduce non-defense and non-homeland security discretionary budget authority by a minuscule $2 billion, and congressional Democrats are howling. But it is 2018’s $23 billion Social Security shortfall that will be viewed a few years later as relatively minuscule. The 2022 shortfall will exceed $150 billion; four years after that, the annual shortfall is projected to top $325 billion, on its way to more than $600 billion in 2032 and more than $1 trillion in 2041.

In nominal dollars, the cumulative 2018-41 Social Security cash-flow shortfall will total $11.9 trillion. Adjusted for inflation and expressed in 2004 purchasing power, the cumulative 2018-41 shortfall will total nearly $5.5 trillion. During the last 10 years of that period, annual Social Security cash-flow deficits, expressed in 2004 dollars, will average nearly $350 billion per year.

Keep in mind: These figures represent annual borrowing levels or spending cuts or tax increases that will be necessary before the trust fund officially becomes bankrupt in 2042, when Social Security will then be unable to pay 30 percent of its scheduled benefits. Medicare’s long-term problems are even worse. According to the 2004 U.S. Financial Report, the present value of Medicare’s unfunded obligations over the next 75 years totals $24.6 trillion.

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