February 10, 2005

February 10, 2005 | WebMemo on Social Security

Behind Social Security's Big Numbers

Are we $26 trillion in the hole on Social Security? Or is it just $4.0 trillion? It is difficult to make sense of all the numbers floating around as people discuss Social Security reform. To do so, one needs to understand just what the most-cited measures of Social Security's future burden really mean.

 

(Updated on May 6, 2005, to 2005 numbers.)

 

Total Cost vs. Net Present Value

Before plunging into the numbers, it makes sense to take a step back and think about what they actually represent. There are two ways to express the government's future obligations in terms of today's money: net present value and total payments.

 

Net present value estimates represent the amount of money the government would need to have on hand and invested today in order to make Social Security solvent. This lump sum and its accrued interest earnings would be used (along with Social Security payroll taxes) to pay future benefits.

 

Net present value is a financial measure that is commonly used to evaluate long-term financial decisions on a comparable basis: A family, for example, could think of the initial size of its home mortgage as representing the net present value of the loan. As a practical matter, however, the federal government should not invest in the private market in order to accumulate earnings. Additionally, it is difficult for the government to stash away funds for the future. For example, what happened to the decades of surplus Social Security income? Congress spent it.

 

Total payment estimates represent what the government will pay for Social Security benefits, putting just enough money into the system every year to be able to make its promised benefit payments to Social Security recipients. A total payment estimate, then, represents the sum of a stream of future payments, all adjusted for inflation into current dollars. A family could equate that number to the total of all the monthly payments they will make to retire their mortgage.

 

How Much Red Ink?
The numbers in this section all represent different ways of measuring and talking about Social Security's future shortfall. All are derived, in one way or another, from the annual Social Security Trustees' reports.

 

$4.0 trillion[1] : This is the net present value of Social Security's unfunded obligations through 2079. In other words, this is the amount of money that the government would need to have on hand and invested today so that it could make Social Security solvent when combined with the Trust Fund bonds and future payroll taxes. This would balance out the program's future deficits so that it could fully pay promised future benefits though 2079.

 

This number (the technical name for which is the "75 year unfunded obligation net present value-trust fund perspective") is misleading in three ways:

 

  • It does not account for the cost of repaying the Trust Fund bonds from 2017, when the system begins to run deficits, until 2041, when the Trust Fund is exhausted. This money will have to come from general revenues via higher taxes, increased borrowing, or huge spending cuts elsewhere.
  • It extends only through 2079, although the Social Security Administration projects deficits beyond that date.
  • It is the amount of money that is needed today, right now, to close the program's shortfalls; every year's delay in fixing Social Security costs a year of investment and compounding, increasing the cost of Social Security in net present value terms.

For these reasons, this number is a deceptively small measure of Social Security's future burden.

 

Still, Social Security is in bad enough shape that even the small numbers are enormous. The relatively small $4.0 trillion estimate of Social Security's future burden is still nearly four times the value of all individual federal income tax receipts from 2003.

 

$5.7 trillion[2] : This is the net present value of Social Security's cash-flow shortfall through 2079. In other words, this is the amount of money that the government would need to have on hand and invest today so that it could pay Social Security's promised future benefits through 2079 and pay back $1.7 trillion for the Trust Fund's bonds.

 

Still this number extends only through 2079 and represents the amount of money that the government would need to collect and invest today. It is more than twice as big as the entire federal budget and is often referred to as the "75 year shortfall net present value-budget perspective."

 

$5.0 trillion[3] : This is the sum of the payments, in 2004 dollars, that the government will have to repay to the Trust Fund between 2017, when Social Security's cash flow goes negative, and 2041, when the Trust Fund's bond holdings are finally spent. In other words, this is the total cost to keep Social Security going even before the Trust Fund is empty.

 

Without any changes in Social Security, these payments will come out of general revenues via higher taxes, increased borrowing, or spending cuts elsewhere. So what's wrong with this number? It doesn't account for Social Security's deficits after 2041. This number is called the "sum of trust fund payments."

 

$12.8 trillion[4] : This is the net present value of Social Security's cash-flow shortfall: in other words, the amount of the money that the government would need to collect and invest today so that it could pay Social Security's promised future benefits forever. This estimate uses a controversial infinite time-horizon. On the one hand, it doesn't ignore what happens after 2079. But on the other hand, it is an uncertain business to project so far into the future.

 

Like other budget-perspective estimates of Social Security's burden, this number represents the amount of money that the government would need to invest today to pay back the Trust Fund and fill the future shortfall. Excluding these Trust Fund payments, this measure drops to $11.1 trillion[5], the number that the President often cites to describe Social Security's future burden.

 

Though an imprecise exercise, projecting Social Security's shortfall so far into the future does illuminate several points. First, the difference between this measure and the analogous 75-year budget-perspective shortfall is $7.1 trillion. In other words, assuming standard returns, it is the amount of money the government would have to have on hand and invest today, and not touch at all for 75 years, and then use starting in 2080 to cover promised benefits. This demonstrates the danger of relying on estimates that stop short in 2079 and look no further.

 

The enormity of this number leads to a second point. Small changes in Social Security, such as have been made in the past and such as some propose now, are not enough to put the program on a permanently stable footing. At best, small changes push the problem of Social Security's financing into the future. This number is as big as the entire U.S. economy and is often referred to as the "infinite time horizon net present value."

 

$25.8 trillion[6] : This number is Social Security's total negative cash flow through 2079, in 2004 dollars. It does not account for Social Security's continuing shortfalls after 2079. Still, this number fairly represents, in today's money, the future stream of payments that will be required to fill the deficits so that Social Security can make its promised benefit payments through 2079.

 

Moreover, without reform, those payments will have to be made up somehow: from higher taxes than under current law, spending cuts elsewhere, more borrowing, or lower benefits. This number is more than six times the total federal debt held by the public and is called the "sum of the deficits."

 

Conclusion

An understanding of Social Security's future burden makes the need for reform all the more apparent. Specifically, it demonstrates clearly the great value of reform that would retire more than $25 trillion in future deficit expenses while also protecting the benefits of today's seniors and helping families to build nest eggs.

 

While each of the different ways of measuring Social Security's future burden tells us different things about the program's future costs, they all reveal the huge problems that Social Security faces if it is not reformed soon. By any measure, Social Security's burden is heavier than we can conscionably pass on to our children and grandchildren.

 

Andrew Grossman is Senior Writer and Editor at The Heritage Foundation.



[1]Social Security Administration, 2005 Social Security Trustees Report, Table IV.B6, "Unfunded OASDI Obligations for 1935 (Program Inception) Through the Infinite Horizon," March 23, 2005, at http://www.ssa.gov/OACT/TR/TR05/tr05.pdf.

[2]Social Security Administration, 2005 Social Security Trustees Report, Table IV.B6, "Unfunded OASDI Obligations for 1935 (Program Inception) Through the Infinite Horizon," and Table IV.B7, "Present Values of OASDI Cost Less Tax Revenue and Unfunded Obligations for Program Participants," March 23, 2005, athttp://www.ssa.gov/OACT/TR/TR05/tr05.pdf.

[3]This is the "Net Annual Cash Flow from General Fund" over the 2018-2042 period. These numbers are derived by SSA from the Social Security Trustees' 2004 Report. Stephen C. Goss, Chief Actuary, Social Security Administration, "Estimated Financial Effects of the 'Social Security Personal Savings Guarantee and Prosperity Act of 2005,'" memorandum to Rep. Paul Ryan and Sen. John Sununu, April 20, 2005, at/static/reportimages/B3E8D10CDCD1FA73A03C292BF2C7C656.pdf.

[4]Social Security Administration, 2005 Social Security Trustees Report, Table IV.B6, "Unfunded OASDI Obligations for 1935 (Program Inception) Through the Infinite Horizon," and Table IV.B7, "Present Values of OASDI Cost Less Tax Revenue and Unfunded Obligations for Program Participants," March 23, 2005, at http://www.ssa.gov/OACT/TR/TR05/tr05.pdf.

[5]Social Security Administration, 2005 Social Security Trustees Report, Table IV.B6, "Unfunded OASDI Obligations for 1935 (Program Inception) Through the Infinite Horizon," March 23, 2005, at http://www.ssa.gov/OACT/TR/TR05/tr05.pdf.

[6]This is the "Net Annual Cash Flow from General Fund" over the 2018-2079 period. These numbers are derived by SSA from the Social Security Trustees' 2004 Report. Stephen C. Goss, Chief Actuary, Social Security Administration, "Estimated Financial Effects of the 'Social Security Personal Savings Guarantee and Prosperity Act of 2005,'" memorandum to Rep. Paul Ryan and Sen. John Sununu, April 20, 2005, at/static/reportimages/B3E8D10CDCD1FA73A03C292BF2C7C656.pdf.

 

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