Social Security trustees just published their annual report about the program’s finances.They predict that the combined $2.8 trillion retirement and disability trust fund will run dry in 2035—just 11 years from now.
That would be big trouble if this were a private pension fund. Private pensions collect contributions during peoples’ working lives, invest the money, and then pay benefits when they retire. If that money runs out, no more benefits.
Social Security isn’t like that. About 83 percent of the benefits come from current payroll taxes. Working people pay into the system and that money is immediately paid to retired people. Tax collections are less than benefits, so the gap is covered from the trust fund.
If nothing is done the trust fund will be gone after 2035. But working people will continue to pay their taxes, so Social Security beneficiaries will still get five-sixths of their promised benefits. A problem, but not bankruptcy.
The Social Security problem is really pretty simple. Working people in our economy produce goods and services. Retired people are promised a share. The retired share goes up if the number of retired people grows faster than the number of working people. That’s what’s been happening. Baby boomers are retiring. Fertility has been dropping. In 2000 there were 3.4 working people to support each retired person. Now there are 2.7.
Congress passed laws setting the benefits promised to retired folks and the taxes charged to working folks. Between 1983 and 2020, taxes more than covered benefits, and the surplus accumulated in the trust fund. Now there are fewer working people per retiree, so the taxes don’t cover the benefits, and we’re drawing the trust fund down.
If this were a private pension, the trust fund would be invested in stocks and corporate bonds, and maybe some Treasury bonds to reduce risk. The Social Security trust fund isn’t like that. The whole trust fund is invested in Treasury bonds. That’s why the old question, “Has the federal government borrowed from Social Security?” has never made sense to me. When you buy a Treasury bond, you’re lending your money to the federal government. Does the Treasury borrow from the Trust Fund? Yes, every dollar of it!
But that’s OK, because the government is good for the money. U.S. Treasury bonds are coveted the world over because they’re so secure. Treasury bonds are the world’s “safe haven,” the investment you make when everything else is too risky.
If this were a private pension, assets would be sold in stock and bond markets to get money for pension payments. Once again, that’s not how Social Security works. The trust fund’s Treasury bonds are “special issues,” meaning they can be owned only by the trust fund. When money is needed for benefits, the Social Security Administration presents the bonds to the Treasury, and receives money to pay benefits.
Where does the Treasury get the money? From income taxes mostly, but there’s that budget deficit. Tax collections are less than federal spending. The Treasury covers the difference by selling marketable Treasury bonds to investors. They exchange one kind of bond for another.
Until 2035 the Social Security Administration has a legal claim on the Treasury. They present the bonds, and the Treasury must redeem them. In 2036 there will be no more bonds to redeem.
What will happen when the Social Security trust fund runs out?
That’s for Congress to decide. Current law says benefits will be cut to the amount covered by payroll taxes. But will everyone’s benefits be reduced by one-sixth? Perhaps people whose only income is from Social Security will be protected, and people with other means will take bigger cuts. Or, perhaps the payroll tax rate will be raised for all working people. Or maybe the maximum taxed earnings will be increased so upper income earners pay more.
No matter the choice, there will be angry voters. Some legislators are going to lose their jobs.
I’m no financial planner. But when I look at my future retirement income, I’ll play it safe and count on only five-sixths of my Social Security benefits after 2035. I’ll also try to keep the faith. Surely, Congress will do something before then.
