Is War Between Generations Inevitable?

Studies | Social Security

No. 246
Friday, November 30, 2001
by Jagadeesh Gokhale and Laurence J. Kotlikoff


Social Security's Long-Term Funding Shortfall

Most Americans know that Social Security and Medicare face significant long-term financial problems. What they don't know is that these problems are about three times more severe than the trustees of the Social Security and Medicare programs acknowledge in their annual reports. Consider Social Security - the Old-Age Survivors and Disability Insurance (OASDI) program. According to off-the-record statements of its actuaries, Social Security's long-term actuarial deficit is 4.7 percent of taxable payroll - more than twice the amount acknowledged in the 2001 Social Security Trustees Report.4

"Problems with Social Security and Medicare are about three times more severe than the trustees acknowledge."

This means that in order to avoid substantial cuts in benefits, today's workers need to start contributing an additional 4.7 percent of each dollar they earn on top of the current payroll tax of 12.4 percent - a 38 percent increase! But unlike the past practice of spending surplus revenues on other programs, the 4.7 percent must be invested in assets that earn interest and can be sold to pay benefits in future years. Whether the assets are held in private accounts or by the government is irrelevant from a financial point of view.

The discrepancy between the actual deficit and the one acknowledged in the trustees report reflects a difference of time horizon. The trustees report looks out only 75 years, whereas we need to consider the entire future. While 75 years may seem like a long-enough horizon, projected Social Security deficits in 76 years and beyond are extremely large - on the order of three-quarters of a trillion dollars per year, measured in today's dollars.

For this reason, the practice of projecting only 75 years guarantees that future trustees reports will reveal an increasingly bleak future. Next year's report, for example, will look into the future 76 years from today. The year after that, 77 years. In the year 2015, the report will show a really huge 75-year funding shortfall - not because of any real change between now and then, but because of the practice of artificially limiting the horizon for each year's projection.

Recall that the Greenspan Commission, headed by current Federal Reserve Board Chairman Alan Greenspan, was charged in 1983 with the task of putting Social Security on a firm long-term financial footing. But because of the practice of making 75-year projections, the commission's projection in 1983 ignored 18 additional years of very large annual deficits that are included in the current 75-year projection. It turns out that about a third of today's 75-year funding shortfall could have been anticipated back in 1983.


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