Long-Run Demographic Change and Pressure on the Federal Budget

The conventional wisdom is that the retirement of the baby boomers beginning in 2008 will stress the finances of the major federal entitlement programs -- Social Security, Medicare, and Medicaid -- as well as the overall federal budget. A common analogy for the challenge baby boomers pose to public finances is a snake swallowing a rabbit. However, the misconception is that the snake would eventually finish with the rabbit. The long-run demographic reality, though, is that the snake is swallowing a rabbit as long as itself.

Two major dimensions to the demographic challenge will confront policymakers beginning in very few years. The first dimension is steadily increasing life expectancy at all ages. Chart L shows that men who have lived to age 65 can expect to live another 17.6 years while women can expect to live another 19.9 years, on average, up from 13.3 and 17.7 years, respectively, in 1962. By 2080, those respective numbers will climb to 21.5 and 23.6 years. (These projections of future life expectancy come from the intermediate set of assumptions produced by the Social Security actuaries in 2008).

The second dimension is the declining birth rate (or fertility rate). In 1962, the average woman could expect to bear between 3 and 4 live children (3.42), (see Chart M). By 2008, that birth rate had declined to 2.06 because women are opting to have children later in life and consequently fewer of them. That rate is roughly what is needed to maintain a constant population in the absence of immigration. Since forecasts of increasing life expectancy and declining birth rates persist into the indefinite future, there will be little relief after the baby boomer generation has passed on.

Increasing life expectancy at all ages combined with declining birth rates necessarily means that the population of the U.S. will become significantly older on average in the future -- and remain that way. Specifically, the number of beneficiaries under Social Security and Medicare will rise by nearly 50 percent relative to the numbers of workers supporting them (not shown). Chart N shows the number of workers available to support each beneficiary over time. Since the major entitlement programs are financed on a pay-as-you-go basis, where current payroll taxes borne by workers pay the benefits of current beneficiaries, Chart N provides a simple representation of the dire financial straits confronting our elderly social insurance programs. In 1962, there were 4.3 workers to support each beneficiary. By 2008, the number of workers had fallen to 3.3. By 2080, the Social Security actuaries project this ratio will decline further to 2.6 to 1.5.

Without significant adjustments to payroll tax rates, benefits, or the age of retirement under Social Security and age of first eligibility under Medicare, demographic change will overwhelm our major entitlement programs. Moreover, a larger proportion of persons who are retired and consequently a lower proportion of persons who are working means fewer income tax revenues to finance other priorities in the overall federal budget.

Underlying data:download

Underlying data:download

Underlying data:download