The past few weeks I have writing about what I believe are the key changes we need to make in order to begin the serious work of reducing our gigantic and growing national debt: Tax reform, gradual changes to entitlement programs over 25-50 years, and maintained control of discretionary spending. This week, I want to write about one of the entitlement programs – Social Security.
When Social Security was created in 1935 during the Great Depression, it was designed to provide retirement benefits for senior citizens (65 and older) to help ensure they wouldn’t have to retire in relative poverty. At the time, over 50% of all seniors were living in poverty. It was part of President Franklin D. Roosevelt’s economic plan – the New Deal – to help the country out of the Depression.
Since then, Social Security has changed from being strictly a retirement program for workers, to an economic security plan for families. In 1939, benefits were expanded to include spouses and minor children. A disability component was added to Social Security in 1954. Up until now, the system has worked well and has paid for itself, but that’s changing.
The largest and fastest growing part of the federal budget is mandatory entitlement spending. Social Security and Medicare are the two largest components of entitlement spending, and account for more than half of all spending by the federal government. Because our country is aging rapidly, mandatory spending for these two programs will grow quickly.
Without changes to entitlement programs, mandatory spending is projected to exceed 100% of all government revenues sometime in the 2030s. This means nothing left over for anything else – defense, education, infrastructure, and much more. The only option will be a substantially larger national debt – if we can find a lender.
In the next 20-25 years, America’s population of people 65 years old and over will increase 80-85%. But the number of workers aged 20-64 will only increase 5-11%. In addition to the huge baby boomer generation retiring, people are living much longer than when Social Security started. In 1935, the average life expectancy was about 60 years of age. Today it’s almost 79, and by 2040, it will be about 83.
In addition, the U.S. birth rate is low. It takes about 2.1 children born per woman for a given generation to replace itself. Birth rates in the U.S. have been below this replacement level since 1971, except for 2006 (2.11) and 2007 (2.12). As of 2012, studies show American women give birth to an average of 1.88 children over their lifetimes.
As a result of a record numbers of retirees, people living longer, and the low birth rates, the Social Security program is in trouble. The 2014 Social Security Trustees Report projects that the 2013 ratio of 2.8 workers paying Social Security taxes to each person collecting benefits will fall to 2.1 to 1 in 2032.
This ratio has been falling for some time, but this was anticipated, so the program was designed to run large surpluses with the excess money going into a trust fund to pay future beneficiaries.
The trust fund currently stands at just under $2.8 trillion. But as large as this number is, due to the factors cited above, it’s projected to all be spent by 2032. After the trust fund is out of money, payroll taxes will only cover 75-77% of scheduled benefits.
There are a number of ways to correct the projected shortages, but all are unpopular. Below, I will touch on five of the most talked about solutions: Raising the retirement age, a change in Cost of Living Adjustments (COLA) calculations, means-testing, increasing Social Security taxes, and eliminating the cap on taxable earnings.
First, raising the retirement age – it has been done once before. In 1983, the full retirement age was raised from 65 to 67. This was done in gradual steps over 44 years, slowing increasing retirement age depending upon a person’s year of birth. If the retirement age was slowly raised to age 70 between 2023 and 2069, it would reduce Social Security’s financial short fall by 25 percent.
Second, changing how COLAs are calculated. Each year, benefits are adjusted for inflation based on the Consumer Price Index (CPI). Recently, there has been talk of moving from the CPI to the “chained” CPI. The difference between the two is usually small each year, but over time, these modest differences can add up. Using the chained CPI would reduce the Social Security funding gap by 20 percent.
Third, the use of means-testing would curtail or cancel retirement benefits for beneficiaries with high incomes. Current law stipulates that all retirees who paid into the Social Security system for enough years are eligible for benefits regardless of income. But the use of means-testing – depending on how it is structured – could reduce the funding gap by 15-20 percent.
Fourth, increasing Social Security taxes by one percent over 20 years would reduce the funding shortfall by 52 percent. Currently, employees and employers both pay a tax of 6.2% (12.4% combined) on a worker’s income. Raising the tax incrementally over 20 years to 7.2% would result in workers making $50,000 a year paying just 50 cents more per week each year the increase was phased in.
Fifth, is eliminating the earnings cap on Social Security taxes. For this year, workers are taxed on the first $118,500 they earn (this amount is adjusted annually). Well paid people (approximately 6% of workers) don’t pay Social Security taxes on the earnings they make over this amount. If this cap was eliminated gradually over ten years, it would reduce the Social Security shortfall by 74 percent.
I’m not endorsing any of these options, but it is clear we will have to make some adjustments to the program if we want to keep benefits at 100% without adding to an already colossal national debt. Whatever we do, it’s important that we don’t change the program for current retirees, or people near to retirement age. But the longer we wait, the more difficult any changes will be.
Next week, I plan to write more about entitlement programs. In the mean time, I’d like your feedback on the five options listed above. Feel free to leave your thoughts in the “comments“ section below, or if you’d like to keep your input private please reply with an email.
Links to related blogs:
A Fiscal Straightjacket: http://www.commonsensecentrist.com/a-fiscal-straightjacket/
Building a Strong Economy: http://www.commonsensecentrist.com/building-a-strong-economy/
Greece’s Troubles: http://www.commonsensecentrist.com/what-america-should-learn-from-greeces-troubles/
China’s emergence as largest economy: http://www.commonsensecentrist.com/a-coming-new-order-in-global-financial-systems/
China and U.S. national debt: http://www.commonsensecentrist.com/china-why-deficits-and-the-u-s-national-debt-matter/
Budget concerns: http://www.commonsensecentrist.com/the-federal-budget-were-getting-boxed-in/
Economic growth: http://www.commonsensecentrist.com/growing-the-economy-the-road-ahead/
Fiscal policy: http://www.commonsensecentrist.com/leadership-not-misleadership/
Deficit reduction: http://www.commonsensecentrist.com/passing-the-buck-really-big-bucks-2/