Why We Don't Need To Repay Social Security Principal

{Cross posted from dKos Social Security Defenders group. Some parts will be pretty familiar to AB readers}

You may have to bear with me here. Because very few people have seriously examined what a solvent Social Security system would actually look like. One of those that has is (thankfully) Steve Goss, the Chief Actuary of Social Security, who last year wrote what may be the single most important article on Social Security that I have ever read. It was included in the 75th Anniversary edition of the Social Security Bulletin under the title The Future Financial Status of the Social Security Program

The whole thing is important but I want to focus on and then unpack the following passage, because the implications are simply transformational.

However, the occurrence of a negative cash flow, when tax revenue alone is insufficient to pay full scheduled benefits, does not necessarily mean that the trust funds are moving toward exhaustion. In fact, in a perfectly pay-as-you-go (PAYGO) financing approach, with the assets in the trust fund maintained consistently at the level of a “contingency reserve” targeted at one year’s cost for the program, the program might well be in a position of having negative cash flow on a permanent basis.

This would occur when the interest rate on the trust fund assets is greater than the rate of growth in program cost. In this case, interest on the trust fund assets would be more than enough to grow the assets as fast as program cost, leaving some of the interest available to augment current tax revenue to meet current cost. Under the trustees’ current intermediate assumptions, the long-term average real interest rate is assumed at 2.9 per cent, and real growth of OASDI program cost (growth in excess of price inflation) is projected to average about 1.6 per cent from 2030 to 2080. Thus, if program modifications are made to maintain a consistent level of trust fund assets in the future, interest on those assets would generally augment current tax income in the payment of scheduled benefits.Unpacking below the fold.

Let’s start with this phrase: “assets in the trust fund maintained consistently at the level of a “contingency reserve” targeted at one year’s cost for the program”. The Trust Funds individually and combined are considered in ‘actuarial balance’ if they reach year’s end with a balance equal to the next year’s projected cost. If they are projected to meet this test for the next 10 years they are considered to be in ‘short term actuarial balance’, if they are projected to meet it for the next 75 years they are considered to be in ‘long term actuarial balance’.

Simple enough but it gives us an odd result. For example if we look at the following table from the 2010 Report Table VI.F9.—OASDI and HI Annual Income Excluding Interest, Cost, and Balance in Current Dollars, Calendar Years 2010-85 we can see the Social Security Cost is projected to increase every year in nominal terms until it ultimately reaches $27 TRILLION a year. Not to panic though this still remains the same percentage of projected GDP after 2030 at around 5.8%, the combination of real economic growth and inflation simply making for eye-popping numbers.

But equally it means that for Social Security to reach the end goal of ‘sustainable solvency’ which in Goss’s definition requires it to be in ‘long term actuarial balance’ with the tail trending upwards, the Trust Fund year end balance would need to increase at at least the rate of Cost growth. Which in the case of what Goss calls a “perfectly pay-as-you-go (PAYGO) financing approach” means rolling over the ENTIRE principal each year and augmenting it with enough of the accrued interest to maintain that one year of Cost in reserve, or in Social Security lingo a Trust Fund Ratio of 100.

Which gets us to the point in the title of the diary, once Social Security is ‘fixed’ one way or another there will be no need to redeem the principal in the Trust Fund. This doesn’t mean it becomes irrelevant, those assets still being available to perform their primary function as a reserve in times of temporary slowdown in revenues, and being a real obligation to Treasury in that they will still be earning interest but, and this is a key point, only a portion of that interest has to come in form of cash, the rest simply coming in the form of newly issued Special Treasuries in the amount needed to augment existing principal to reach a continuing TF Ratio of 100. Or as Goss puts it “In this case, interest on the trust fund assets would be more than enough to grow the assets as fast as program cost, leaving some of the interest available to augment current tax revenue to meet current cost.”

Under this ideal scenario the Trust Fund becomes an interest only loan and with a discount on that interest to boot as part of it is simply credited to principal in the form of Special Treasuries that are not financed in the normal sense, simply being instruments backed by Full Faith and Credit if and when they were ever needed.

Of course we are not in a Pay-Go status long term, although the combined OASDI Trust Funds meet the Trustees’ test for ‘short term actuarial balance’ and then some, current projections under the Intermediate Cost projection show the TF Ratio falling from a peak of 403 in 2012 downs to 110 in 2035 meaning actuarial imbalance starting in 2036. Table IV.B3.—Trust Fund Ratios, Calendar Years 2010-85 Which by extension means failing the 10 year ‘short term actuarial test’ in 2027, or a dozen years before the actual crisis point of Trust Fund Depletion and benefit cuts. Which on a practical basis gives us all the years between now and 2026 to thoughtfully plan a fix, it is not like 1983 when TF ratios were already sitting weeks from zero. Now THAT was a crisis, today’s situation is not remotely similar.

So we don’t need to let this debate devolve down to “we can’t afford to pay back what we borrowed” vs “the hell you say! That’s our money you are stealing!!”. After all if the capitalists don’t want to pay down that principal they don’t have to, they just need to accept very modest increases in revenue sufficient to restore the system to Pay-Go status, an amount currently projected at just under 2% of payroll. (Or if they can, make the case why the current schedule of benefits is in fact too generous on its own terms.) After that they only have to commit to servicing a portion of Trust Fund interest in cash. Or to repack it:

In fact, in a perfectly pay-as-you-go (PAYGO) financing approach, with the assets in the trust fund maintained consistently at the level of a “contingency reserve” targeted at one year’s cost for the program, the program might well be in a position of having negative cash flow on a permanent basis.

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