Long-Run Spending Versus Revenues for Social Security and Medicare

Social Security (including Disability Insurance) and the "Hospital Insurance" component of Medicare are the two largest federal social insurance programs providing income and health care security for the elderly, and in many instances, their dependents as well. Social insurance programs are financed by workers' payroll tax contributions. In the U.S., the major social insurance programs are financed on a pay-as-you-go basis: payroll taxes paid by current workers finance the benefits of current recipients. Social Security, Disability, and Medicare all operate trust funds where payroll taxes in excess of the amounts needed to pay current beneficiaries are credited.

In the Social Security program, payroll taxes will no longer be able to fully finance benefits for retirees and the disabled after 2017 (see Chart F). In 2016, costs and benefits of the two programs will total 4.9 percent of GDP. Without programmatic changes, workers' payroll taxes will fall further short of covering projected benefits each year thereafter. Under the intermediate assumptions of the Trustees of the Social Security and Hospital Insurance Trust Funds (as detailed in their 2008 Trustees Report), by 2080, projected benefits will amount to 5.8 percent of GDP while payroll tax revenues will come to just 4.4 percent of GDP, leaving a gap of 1.4 percent of GDP. The bottom line labeled "balance" shows the increasing gap between benefits paid and revenues received. The trust fund balance is sufficient to cover the shortfall of payroll taxes relative to benefits for more than two decades after 2016 but will be completely exhausted by 2041 under the Social Security Trustees' intermediate forecast. After that, the programs will require ever larger amounts of funding, which can only come from increased taxes, borrowing, or reduced spending on other government activities.

Medicare is comprised of Hospital Insurance (HI) and Supplementary Medical Insurance (SMI). Hospital Insurance is financed through payroll taxes while SMI is financed by beneficiaries' premiums and general government revenues. Benefit payments for the Hospital Insurance component of Medicare already exceed payroll taxes in 2008 and projections show exhaustion of the HI trust fund in early 2019. Under current law, program benefits are projected to cost 4.7 percent of GDP by 2080, when payroll tax revenues will cover just 1.4 percent of GDP (see Chart G). The long-run financing issues that threaten Social Security are even more dire for Medicare, especially since the SMI component does not have any dedicated revenue stream and instead is likely to crowd out other domestic federal spending.

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Underlying data:download