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Taxes and the Budget: Are the Social Security trust funds real?

Payroll tax and certain other revenues dedicated to the Social Security system today exceed the cost of paying current benefits. This surplus is used to buy special U.S. Treasury bonds that are then deposited in the system’s two trust funds, one dedicated to Old Age and Survivors Insurance and the other to Disability Insurance. The Treasury pays the trust funds interest on these bonds, using a formula that reflects market interest rates. Four questions are commonly raised about the trust funds: Are their assets "real," or are they just worthless pieces of paper? Do the surpluses deposited in the trust funds represent an addition to national saving? Does the existence of the trust funds alter the amount that the U.S. government must borrow from the public? And if the answer to these questions is no, why have trust funds in the first place?

  • The trust funds’ "pieces of paper" are U.S. Treasury bonds that bear the full faith and credit of the U.S. government. They are just as valuable as the Treasury securities in the hands of a business or an individual. In that sense the trust fund assets are very real.
  • The Social Security system can redeem these bonds for cash at any time. That means that after the system starts to run a cash flow deficit in about ten years, Social Security will be able to redeem the bonds to pay scheduled benefits, without additional congressional action. It is now expected that the combined trust funds will have redeemed all their Treasury bonds by sometime in the early 2040s. At that point revenue dedicated to the system from the payroll tax and other sources will cover only about three-quarters of scheduled benefits.
  • Whether the trust funds represent an addition to national saving is harder to answer. If the federal government balanced the budget for non-Social Security programs every year, the Social Security surplus would add to national saving, unless the surplus somehow affected business or personal saving or the budget decisions of state and local governments. However, the federal government has balanced the non-Social Security budget only three times in the past fifty years.
  • The Social Security surplus might still add to national saving if it reduced the unified budget deficit, that is, the sum of the Social Security surplus and the non-Social Security deficit. That would happen if the two were determined independently. But it is unrealistic to say that the non-Social Security deficit is completely independent of the Social Security surplus. Although the annual congressional budget resolution establishes separate goals for the two balances, political rhetoric and media reports focus on the unified budget deficit. If the unified deficit is really the primary target of fiscal policy, then an increase in the Social Security surplus allows the rest of government to run a bigger deficit. This negates the effect of the larger Social Security surplus on national saving.
  • To understand how the existence of the trust funds affects the federal government’s borrowing from the public, imagine a situation in which the non-Social Security operations of government run a deficit of $100 billion while Social Security runs a surplus of $10 billion. The unified budget deficit is then $90 billion. The Treasury must borrow $100 billion to finance the non-Social Security part of government. The Social Security surplus enables it to borrow $10 billion of that amount from Social Security. It must then borrow the other $90 billion from the public. (The amount borrowed from the public does not necessarily exactly equal the budget deficit, because the deficit can be financed by means other than borrowing, for example by drawing down cash balances or issuing currency.) Now imagine that Social Security is operated without any trust funds and that payroll and other dedicated taxes are pooled with all other government revenue, while Social Security and other outlays are also combined. The taxes dedicated to Social Security may still exceed Social Security outlays by $10 billion, but this surplus need not be separately identified in the budget accounts. If the rest of government is still running a deficit of $100 billion, the net deficit will be $90 billion. That is the amount that has to be borrowed from the public - the same with the trust funds as without.
  • Why, then, should we have Social Security trust funds if they don’t affect national saving or alter the amounts that government must borrow from the public? The answer is that the trust funds are an accounting device that tracks whether the taxes dedicated to Social Security are sufficient to fund its benefits and other costs. With dedicated revenue today more than paying total costs, the system is, in effect, paying for tomorrow’s benefits in advance, while receiving interest from the Treasury on the accumulated surpluses. Advocates for Social Security see the trust fund balances as the system’s property and effectively argue that they should not be used for any purpose other than Social Security. Thus, although the existence of the trust funds may not be important economically, it is extremely important politically in giving Social Security benefits some protection against budget cuts.
 
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