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WebMemo #733 on Social Security

June 24, 2005

DeMint Plan Uses the Social Security Surplus for Retirement Instead of More Federal Spending

By

For 22 years, Congress has used surplus tax revenues going into Social Security to hide the real level of federal spending. Instead of saving this money to pay future benefits-as was intended-Congress used it to disguise the extent of annual budget deficits. Sen. Jim DeMint (R-SC) and Rep. Jim McCrery (R-LA) have created legislation that would save Social Security's surplus and use it to improve Americans' retirement security. Their plan, which is supported by a growing number of legislators, would use Social Security taxes that are not needed to pay benefits today to establish individual accounts that taxpayers would own and could use to finance part of their retirement security. In its first year alone, the DeMint/McCrery proposal would force Congress to return about $80 billion to payroll taxpayers.

 

Instead of worrying about whether a future Congress will honor promises to pay a certain level of retirement benefits, workers would have the security of owning an account that is invested in safe, secure government bonds. Instead of having Congress squander part of workers' Social Security taxes on wasteful spending projects, they would know that their money was being used for what it was always intended for-their retirement security.

 

Hiding the Real Deficit

Since 1983, when it first began to collect more Social Security taxes than it needed to pay benefits, Congress has told the American people that the extra money is invested to help pay for the impending retirement of millions of baby boomers. The reality is very different. The excess taxes were really given to the federal government to spend on whatever it wished.

 

In return, the Social Security trust fund received a special issue bond that is nothing more than an IOU that will be repaid from still more taxes collected from our children and grandchildren. In reality, the United States is no more prepared for the retirement of the baby boomers than it would have been if the trust fund never existed. Congress will only be able to pay their benefits if it raises taxes, borrows heavily, cuts other spending, or reduces Social Security benefits.

 

To make matters worse, the money siphoned from the Social Security trust fund has been used to hide the real level of deficit spending. A dollar borrowed from the Social Security trust fund is a dollar that Congress will not have to borrow from the financial markets. As a result, if Congress borrows $50 billion from the Social Security trust fund, then $250 billion worth of overspending can be reported as only a $200 billion annual deficit.

 

Putting an End To Shady Accounting

Instead of allowing Congress to quietly borrow the Social Security surplus, the DeMint plan gives it to workers in the form of accounts that are invested in regular issue government bonds. This means that if Congress wants to spend at the same level that it does now, it will have to borrow the money to finance it openly in the financial markets. Instead of overspending by $450 billion and hiding $80 billion of that spending by borrowing the Social Security surplus and reporting a deficit of only $370 billion, Congress will have to report the real deficit of $450 billion.

 

Financial analysts have known about Congress's accounting trick for years, and they use the real deficit in their economic forecasts and interest rate projections. However, normal Americans have not been party to this trick. The DeMint plan will let them know the real level of deficit spending.

 

Eliminating hidden borrowing will appear to increase the deficit, but in fact, neither the amount of spending nor the amount of borrowing will change. The increased deficit number will be the result of honest reporting and the end of the budget gimmickry used since 1983.

 

Improving Retirement Security

Under the DeMint plan, the Social Security surplus will be returned to workers in the form of a Social Security Personal Retirement Account (PRA) that is invested in regular-issue government bonds. While the House and Senate approaches are slightly different, both would direct the surplus into accounts that are patterned after those in the Thrift Savings Plan (TSP) that is used to finance part of federal employees' retirement benefits today.

 

The Social Security Administration estimates that between now and 2017, when the Social Security surplus comes to an end, workers would receive about $5,500 each in their accounts. At that point, no further money would go into the accounts, but they would continue to grow because of the interest paid on them.

 

When workers retire, their benefits would be paid by a combination of a government check like that used to pay today's retirees and money from their PRAs. While PRAs would be voluntary, and a worker could choose not to have one if he or she wished, owning an account would not reduce a worker's overall level of Social Security benefits.

 

At some point in the future, workers might have access to additional investment choices, such as a lifespan account that would be invested in a mixture of stock index funds and corporate bonds. They could choose to either keep their accounts invested in government bonds or move their money to another type of investment.

 

A First Step Only

While the DeMint plan is a step in the right direction, it does not fix Social Security. The program will still begin to run deficits in 2017, and those deficits will still reach over $100 billion a year (in today's dollars without inflation) within five years of 2017. A worker born in the 1980s will still face a future in which Social Security can afford to pay only about 70 cents for every dollar that he or she has been promised in benefits.

 

Congress still needs to bring Social Security's benefit promises closer to what it can afford to pay through mechanisms such as progressive indexation and changing the retirement age. It also still needs to establish permanent Personal Retirement Accounts (PRAs) within Social Security. Permanent accounts would give younger workers the opportunity to improve their Social Security benefits significantly and build nest eggs that can be left to their families.

 

The cost of fixing Social Security is still climbing at about $50 billion a month, and so additional delay will only cost our children and grandchildren more money. Congress should not wait.

 

Four Myths

This plan weakens Social Security by draining billions of dollars. False. The DeMint plan uses only money that Social Security does not currently need to pay benefits. Both the House and Senate approaches ensure that the Social Security trust fund has the same level of resources available in the future as it would under today's law.

 

The plan increases the deficit. False. Both spending and borrowing would remain the same. The only change is that the DeMint plan forces Congress to report the actual level of its deficit spending instead of concealing part of it.

 

The plan requires huge and perpetual debt increases. False. The plan does create new debt because the Social Security surplus that is returned to taxpayers would be invested in Treasury bonds. The total amount of new debt would be relatively small, and it would only be created during the period ending in 2017, while the Social Security surplus exists. Because the bonds in the accounts will pay a portion of account owners' retirement benefits, this new debt will lower the cost to the Treasury of paying those benefits. Of course, the alternative to this new debt is for Congress to continue to spend the Social Security surplus and to use it to hide the real level of deficit spending.

 

The plan establishes a huge federal agency to manage the account that will cost billions and employ thousands of new workers. False. Personal accounts will be managed mainly by existing methods. The Social Security Administration estimates that administrative costs will amount to about 0.3 percent of account balances annually. SSA already issues an annual statement to workers that can be easily and inexpensively expanded to show their account balances, and most tasks can be handled by existing government workers or contracted out.

 

David C. John is Research Fellow in Social Security and Financial Institutions in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

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