The Challenges Facing Social Security and the Options for Reform [Part 1/3]

 M  E  M  O  R  A  N  D  U  M

Date: April 29, 2013

To:  The Honorable Max Baucus

        Chairman, U.S Senate Committee on Finance

From: Bledar Blake Zenuni, Econ 1420 Student

Re: The Challenges Facing Social Security and the Options for Reform

         Under current law, the CBO projects that the combined trust funds that make up Social Security—the Old-Age, Survivors, and Disability Insurance (OASDI) trust fund—would be exhausted in 2034. The OASDI is currently facing an increase in the actuarial deficit, with spending expected to reach 6.1% of GDP over the next 75 years while payroll tax revenues level off at 5.2% of GDP. The gap between OASDI spending and payroll tax revenues are mainly driven by (1) an increase in the number of beneficiaries, (2) broken tax laws coupled with an expected decrease in the share of earnings subject to the payroll tax and (3) expanding DI rolls.

The two most cited sets of proposals to reform social security are Diamond-Orszag and Feldstein-Samwick:

           

A.   Diamond-Orszag — A balanced approach: combining increased taxes with benefit reductions.

B.    Feldstein-Samwick: A mixed system: save more now and invest those savings in a productive way (includes privatization).

The U.S. Senate Committee on Finance is advised to support the reform policies of option B because they increase national savings, lower the present value of the cost of providing any level of benefits, and avoid future tax increases. Option A would generate a deadweight loss (loss of economic efficiency) associated with higher marginal taxes, whereas Option B would avoid it.

I.    Social Security Outlays

    

         2010 marked the first year since 1983 that outlays were greater than total revenues for Social Security.[1] In FY 2012, the U.S. spent 22% of its budget on Social Security. Under current law, Social Security outlays will exceed 20% of its revenues by 2030.

II. Projections for OASDI’s Exhaustion Date(s) and OASDI’s Actuarial Balance

OASDI’s Exhaustion Date(s)

         The CBO predicts that under current law the DI trust fund will be exhausted in fiscal year 2016 and the Old-Age and Survivors Insurance (OASI) trust fund will be exhausted in 2038.[2] The common analytic convention is to consider the OASI and DI trust funds as the combined OASDI trust fund. The CBO projects that if some future legislation were to shift resources from the OASI trust fund to the DI trust fund, the OASDI trust fund would be exhausted in 2034.[3]

           

OASDI’s Actuarial Balance

In 2011, OASDI spending and total revenue equaled 4.87% of GDP and 4.69% of GDP, respectively.[4] In this memo, “spending” denotes total outlays (benefits plus administrative costs), and “payroll tax revenue” includes revenue generate from both payroll taxes and income taxes on benefits that are credited to the Social Security trust funds. Table 1 shows the CBO’s projected actuarial balances for Social Security.

Table 1: Financial Measures for Social Security Under CBO’s Long-Term Budget Scenarios

Source: Congressional Budget Office[5]

The actuarial balances for table 1 can be summarized by the following:

·      Under the extended baseline scenario, from 2012-2086 the annual cost rate is projected to be of 6.1% of GDP whereas the annual payroll tax revenues level off at 5.2% of GDP; the actuarial balance (difference) is -0.7% of GDP.[6]

·       Under the extended alternative fiscal scenario, from 2012-2086 the annual cost rate is projected to be 6.1 % of GDP whereas the annual payroll tax revenue is projected to be 5.2% of GDP; the actuarial balance (difference) is -0.9% of GDP.[7]

Moreover, in FY 2012, revenues were $726 billion, or 4.69% of GDP, whereas Social Security outlays were $777 billion (OASI: 82%; DI: 18%), or 4.87% of GDP. In the year of exhaustion, revenues will be 5.06% of GDP, whereas outlays will be 6.19% of GDP.[8]

Word Count: 745

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[1] Congressional Budget Office, “The 2012 Long-Term Projections for Social Security: Additional Information,” October 2012, Page 3.

[2] Ibid., page 4.

[3] Ibid., page 5.

[4] Ibid., page 9-10.

[5] Congressional Budget Office, “The 2012 Long Term  Budget Outlook,” June 2012, Page 72.

[6] Note: The extended baseline scenario generally adheres closely to current law, following CBO’s 10-year baseline budget projections through 2022 and then extending the baseline concept for the rest of the long-term projection period. CBO, Page 72.

[7] Note: The extended alternative fiscal scenario incorporates the assumptions that certain policies that have been in place for a number of years will be continued and that some provisions of law that might be difficult to sustain for a long period will be modified. CBO, page 72-73.

[8] op.cit., “October 2012, page 6-8.