April 19, 2014

When Social Security And Medicare Really Go Bust

Volume I, Number 1
June 6, 1995

Medicare will be solvent until 2002 and Social Security will be solvent all the way to 2030, right?

Wrong.  Solemnly intoned by policymakers and recited by the media, these official bankruptcy dates have acquired great political significance. They have afforded the Republican leadership cover for its proposed Medicare cutssince these can be depicted as needed to "preserve, protect, and improve" a program facing near-term meltdown--while at the same time furnishing an excuse for ducking action on Social Securitysince its day of reckoning seems so remote. And on Medicare, they have allowed the White House to take the opposite tack: If its bankruptcy is still seven years off, there's no need to do "too much, too quick."

The problem is that these official bankruptcy dates have nothing to do with any real world definition of solvency.

Most people assume that "bankruptcy" must refer to the date when the benefits paid out of the Medicare (HI) or Social Security (OASDI) trust fund will exceed the revenues coming in from earmarked taxes.  This is not the case.  By 2002 and 2030, these programs will have long since been running cash deficits--meaning that Congress will have had to raise taxes or borrow from the public if it intends to pay promised benefits. In fact, Medicare has had an operating deficit since 1992.  Social Security will begin running a deficit in 2013, seventeen years before its official bankruptcy date.

What Matters is Cash In and Cash Out

Why the difference in dates? Until recently, Medicare had an operating surplus; Social Security still does.  According to trust-fund accounting conventions, Treasury must credit Medicare and Social Security with any annual surplus of earmarked tax revenues over current benefits--and then pay "interest" on those "assets."    Thus, when the trust funds run cash deficits, they can turn to Treasury and redeem the IOUs for prior year surpluses.  Until the IOUs are exhaustedand along with them the trust funds' budget authority--Medicare and Social Security are deemed to be "solvent."

These intragovernmental accounting transactions, however, have no fiscal or economic significance. Since Treasury spends any trust-fund surpluses each year to cover general fund deficits, trust-fund "assets" consist of nothing more than claims against future federal revenue.  The moment that Medicare or Social Security runs an operating deficit--that is, the moment benefit payouts exceed earmarked tax revenues--net borrowing from the public and the federal deficit go up.

Politicians of both parties love to talk about walling off trust-fund-financed entitlements into separate boxes.  The idea is that since the programs are supposedly self-financing they shouldn't be "entangled in the budget debate."  This is nonsense. All federal revenues--whether labeled taxes or FICA contributions--are fungible. Every dollar spent on Medicare or Social Security is a dollar that cannot be spent on other priorities (or returned to taxpayers).  And every dollar saved in these programs reduces the deficit.

Still, let's accept this "separate box" logic at face value and ask:   Looked at as self-financing programs, what is the real impact of Medicare and Social Security on the budget?  In 2001, the last year it is projected to be "solvent," Medicare will actually be running an operating deficit of $41 billion.  (See the table below.)  That sum is the savings Congress will have to find in Medicare that year just to keep the federal deficit from growing.  And this is long before aging Baby Boomers begin to swell the program's rolls.  By 2020, Medicare's annual operating deficit is projected to be $352 billion; by 2030, it will be $1.9 trillion.

And what about Social Security?  Here the official bankruptcy numbers are even more misleading. Looked at on a cash basis, Social Security's vaunted near-term surpluses turn out to be much smaller than advertised: just $29 billion in 1995 (once interest is excluded), not  $65 billion.  They also disappear much sooner.  By 2015, Social Security's annual operating deficit will hit $57 billion.  By 2020, the revenue shortfall will have widened to $232 billion; by 2040, it will be $1.3 trillion.

The financing gap facing our two largest entitlement programs thus yawns nearer and wider than most policymakers pretend. In fact, on a combined basis, the entire OASDHI system is projected to start running an operating deficit in the year 2000. All of this of course ignores SMI, Medicare's physician benefit program, at least three-quarters of whose rising cost will be paid for out of general revenues. And it assumes a future demographic and economic scenario that many experts consider overoptimistic.  Under the Social Security Trustees' "high-cost" scenario, which allows for greater population aging and somewhat slower economic growth, you can double all of the above numbers.

Pick a Number

Beneficiaries often suppose that by paying interest on  Social Security and Medicare trust-fund assets, the government is simply living up to an obligation to them.   In truth, Social Security and Medicare are pay-as-you-go tax and transfer systems that presuppose no consistent "payback" link between contributions and benefits. But even if they were defined contribution programs, that would be beside the point.   Benefit paybacks are a matter of individual equity. Interest payments made to federal trust funds are a matter of budget accounting.

The point is that this accounting is arbitrary.  If Treasury can credit the Medicare and Social Security trust funds with surpluses that were never set aside--then further credit them with fictive interest on those fictive assets--there is no reason it can't credit Medicare and Social Security with whatever sum is needed to "cover" future obligations.  For a precedent, Congress need look no further than the paper assets regularly credited to the federal pension retirement funds.

Rather than the phony issue of trust-fund "solvency," Congress should focus on what really matters: the total of all federal taxing and spending and its impact on the deficit, the national balance sheet, and future living standards.

Annual Trust-Fund and Operating Balances of Social Security and Medicare: 1995-2040 (in Billions of Current Dollars)


OASDI Trust-Fund Balance*

OASDI Operating Balance** HI Trust-Fund Balance* HI Operating Balance** OASDHI Trust-Fund Balance* OASDHI Operating Balance**
1995 $65 $29 $3 -$9 $68 $20
1996 75 34 -1 -14 74 21
1997 81 35 -6 -18 75 17
1998 87 35 -12 -23 75 12
1999 92 34 -19 -29 73 5
2000 98 33 -26 -34 72 -1
2001 105 34 -35 -41 70 -7
2002 112 34 NA -47 NA -13
2003 120 34 NA -54 NA -20
2004 127 34 NA -61 NA -27
2005 135 35 NA -68 NA -33
2010 162 25 NA -116 NA -90
2015 128 -57 NA -203 NA -260
2020 -30 -232 NA -352 NA -584
2025 -334 -482 NA -589 NA -1,072
2030 NA -766 NA -934 NA -1,700
2035 NA -1,051 NA -1,377 NA -2,427
2040 NA -1,321 NA -1,923 NA -3,244
*Annual trust-fund balance includes interest.   OASDI balance turns negative in 2020; fund is exhausted in 2030.  HI balance turns negative in 1996; fund is exhausted in 2002.
**Annual operating balance exclude interest.   OASDI balance turns negative in 2013; HI balance turned negative in 1992; OASDHI balance turns negative in 2000.