March 20, 2000

Is a New Annual Report on Social Security Necessary?
by Wendell Primus and Kilolo Kijakazi

When the Senate considers repeal of the earnings test, Senator Judd Gregg plans to offer an amendment that would require the Commissioner of Social Security to provide Congress with a new annual report on the Social Security program. This new report, to be prepared in conjunction with the Secretary of Health and Human Services, the Secretary of the Treasury and the Director of the Office of Management and Budget, would include:

The motivation for this amendment appears to be Senator Gregg's concern about Congress enacting a "sweetener" — elimination of the Social Security earnings test for those reaching the age at which full Social Security benefits can be paid — separate and apart from Social Security reform. This is a concern a number of Social Security analysts and budget analysts, including those at the Center on Budget and Policy Priorities, share. Enacting sweeteners without changes that help restore long-term Social Security solvency could make the tough choices needed to achieve solvency even more difficult to pass.

The new annual report the amendment mandates, however, raises several concerns. Historically, care has been exercised to provide Congress and the public with information about Social Security solvency without overstating the magnitude of the financing problem and setting off unfounded scares among the public. The financial condition of the trust funds for the 75-year period typically is summarized by using one number that represents the increase in the tax rate that would be needed to eliminate the deficit in the system. Another frequently used measure is the year the trust funds no longer will be able to pay all promised benefits unless action is taken. The most recent Trustees' report estimates an actuarial deficit over the 75-year period of 2.07 percent of taxable payroll and projects that if no action is taken, Social Security will not be able to pay full benefits in 2034. In other words, if the tax rate were raised immediately by 1.035 percentage points for both employers and employees, the projected deficit over the 75-year period would be eliminated.(1)

Senator Gregg's amendment would require a new annual report that might cause some readers of the report to conclude that the financial status of the Social Security trust funds is significantly worse than the annual Trustees' report portrays it as being. This could occur because the Gregg amendment would require the Commissioner to exclude the interest the trust funds earn on their assets when the Commissioner provides the required information on the annual income that the trust funds receive.

For example, the most recent Trustees' report indicates that in 2025, income to the Social Security trust funds is projected to be $1.504 trillion (under the trustees' intermediate assumptions) excluding interest income, while expenditures are projected at $1.924 trillion.(2) There is a shortfall of $420 billion between expenditures and income when interest is excluded. But the Trustees' report also indicates that the trust funds will receive interest income of $264 billion in 2025 and that the trust funds will have substantial assets at that time that can be redeemed. Thus, the trustees project that full benefits can readily be paid in 2025. Under the Gregg amendment, this component of the report would not consider either the $264 billion in interest income available to pay benefits or the trust fund assets that could be redeemed. The new report consequently would show a $420 billion shortfall in 2025.

To be sure, the interest payments that the Treasury makes to the trust funds on the bonds that the trust funds hold, as well as the payments the Treasury will make to the trust funds if and when the trust funds begin redeeming some of these bonds, are payments that the non-Social Security part of the budget makes to the trust funds. Thus, in showing a $420 billion trust fund shortfall in 2025, the report would be showing the amount that the rest of the budget is projected to pay to the Social Security trust funds under current law. The purpose of this part of the report appears to be to highlight the impact that the financing of Social Security will have on the rest of the budget in future years if current law is not changed.

The Social Security debate to date has placed insufficient attention on the impact of the Social Security system and various proposals to restore solvency on the rest of the budget, and the amendment's attempt to tackle this issue merits praise. But the approach the amendment takes here is flawed — it requires annual reports showing the deleterious effect that Social Security could have on the rest of the budget without requiring comparable information to be provided on various proposals to alter Social Security. This could result in misimpressions that Social Security would place a greater drain on the budget than proposals to replace part or all of Social Security with something else. Some proposals to begin privatizing Social Security, however, entail massive infusions of funds from the rest of the budget into individual accounts for a number of decades and would intensify, rather than ease, the pressures on the rest of the budget during this period.

There also is concern about how the public would understand the information provided in this part of the report. The question is whether the figures presented would be widely understood to reflect the impact of Social Security financing on the general budget and not to represent Social Security's ability to pay benefits, or whether these figures would be misunderstood or misused to paint a more dire picture of Social Security's ability to pay benefits than is the case.

Another part of the Gregg amendment would require the Commissioner also to report the level to which benefits would have to be reduced or payroll tax rates raised to achieve solvency for each year, assuming that no action is taken by Congress and the President to reduce the shortfall until the year the shortfall occurs. The language in this part of the report is not precise; it does not prescribe exactly how these calculations should be performed. In particular, the language does not indicate whether, in this part of the report, the interest that the trust funds earn would be counted or excluded. The language also does not indicate whether the ability of the trust funds to help finance benefits by redeeming bonds would be taken into account. Whether these factors are considered makes a big difference.

For example, if the Commissioner is required to assume that Congress takes no action to reduce the shortfall, and that interest on the trust fund assets is not included as program revenue and trust fund assets are not available to help finance benefits, the report would state that a 26 percent reduction in benefits or a 36 percent increase in payroll tax rates would be necessary to bring Social Security into balance in 2030. On the other hand, if interest earnings are counted and trust fund assets are considered to be available to help finance benefits, no benefit reduction or tax increase would be shown as needed in 2030. The amendment's lack of specificity regarding this matter appears to mean that the Administration and Social Security Commissioner producing the report would determine how to conduct these calculations and present this information.

Part of what is at issue in this regard is whether one views the Social Security trust funds as legitimate trust funds that should be built up in flush periods and can be drawn upon in subsequent periods (particularly in light of the impending retirement of the baby boom generation), and that can generate interest earnings that can be used to pay benefits, or whether one discounts the trust funds and requires that income from Social Security tax collections must match Social Security benefit payments in every year. If the former perspective is followed, the needed changes in Social Security are less drastic. More modest benefit reductions and/or payroll tax increases, started sooner, could restore solvency for the next 75 years.(3)


According Too Much Weight to Projections Far into the Future

Another aspect of the amendment that raises some concerns is its requirement that the Commissioner report Social Security's income, expenditures, and balances in each of the next 75 years. This seems reasonable at first glance. But unlike the current methodology of reporting the actuarial deficit, currently estimated at 2.07 percent of taxable payroll over the next 75 years, this methodology places an equal emphasis on each year of the period over which the projections are made. This does not take into account that the annual projections become less certain for each successive year into the future.

Changes in recent Congressional Budget Office budget projections illustrate this problem. The projected budget deficit for fiscal year 2002, exclusive of policy changes, has changed by $450 billion in just the past five years, since March 1995.(4) This shows the large uncertainty that surrounds projections made just five years in advance. Giving equal emphasis to the estimated financing gap in the 75th year of the projection period and to projections for the next five years seems inappropriate.

Indeed, attempting to forecast precisely for 2075 the state of the economy, demographic changes, and the array of other factors that affect these projections is tantamount to having made such predictions in 1925 for the year 2000. Predictions made in 1925 are likely to have been pretty far off the mark. Making a forecast covering a 75-year period as a whole is difficult enough; giving significant weight to data for individual years 50 years to 75 years into the future, which are not likely to be especially reliable, is problematic.


Is the Report Needed?

In the fall of 1999, a Social Security technical advisory panel issued a report on Social Security financing issues that appears to be of particular interest to Senator Gregg. Such technical reports have been issued on a number of occasions in the past and have served the Social Security program and the public well. Over time, the recommendations of these expert panels have been incorporated into the work of the Social Security actuaries. This has been done without legislation establishing new reporting requirements.

All of this raises the question of whether there is a need for the amendment. Most of the information the required report would contain already is available from the Social Security Administration.(5) There does not appear to be a need to mandate a new report each year beyond what the annual Trustees' report already provides. The impact of both the current Social Security system and various solvency proposals on the rest of the budget surely needs greater attention. But the proposed report does not seem the way to address this matter; the report would provide such information only with respect to the current Social Security system and not for proposals to change it.

There also is concern is that the new annual report could compete unnecessarily with the Trustees' report and might cause some confusion. As indicated above, some of the presentations in the new report might be used by some program critics in a fashion that overly alarms the public about Social Security's ability to provide benefits.

An argument could be made for the proposed report, with modifications, on a one-time basis. But what is really needed is not the proposed report but rather a mechanism to show the effect of various Social Security proposals not only on the program's long-term actuarial balance (a matter on which information already is provided) but also on the rest of the budget over the long term. Requiring the new report the amendment calls for to be produced on an annual basis, in addition to the Trustees' report, falls short and seems problematic as a way of pursuing this objective.

End Notes:

1. Increasing the payroll tax rate by 2.07 percentage points does not mean the annual cash-flow deficit in the last year, the 75th year of the valuation period, would be eliminated. It means that for the 75-year period as a whole, expected future taxes, plus interest and trust fund assets will be sufficient to pay all benefits for the period under current law.

2. 1999 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Disability Insurance Trust Funds, Table III.B3., p. 179

3. One approach that would help reduce the magnitude of the benefit or tax changes needed to restore solvency would be to ease some of the restrictions on where the trust funds' assets may be invested. For example, if 50 percent of the trust funds' assets were invested in equities (phased in gradually over a number of years) to increase the rate of return the trust funds receive, as economists Robert Reischauer and Henry Aaron have recommended, and this were coupled with a very modest benefit reduction starting in 2002 of three-quarters of one percent and a small increase of one-twentieth of one percent (0.05%) in the payroll tax on both employers and employees, the actuaries would project that the Social Security financing gap for 2030 would be eliminated without either redeeming trust fund assets or transferring funds from the rest of the budget. Further significant changes would, of course, be needed to restore 75-year actuarial balance. (It should be noted that in estimating the impact on actuarial balance of proposals that involve investments in equities, the actuaries do not factor in the increased risk that such investments carry. This is true of estimates of the actuarial impact of both proposals involving trust fund investment in equities and proposals involving individual accounts.)

4. Calculations performed by Robert Reischauer, former Director of the Congressional Budget Office, based upon various Congressional Budget Office publications.

5. The only information that appears not routinely to made available is the impact of newly enacted legislation on national savings. This analysis would be controversial since there is no agreement among analysts as to how such effects should be analyzed.