It’s Pay-As-You-Go; Get Used to It

For the next several weeks and maybe longer, White House briefing rooms and the halls of Congress will ring with statements of determination to preserve “the Social Security trust fund.” The terms of the current debate are mother’s milk politically, but economically they are hogwash.

A sensible approach to the relation of the budget and future Social Security obligations must start with the fact that there is no such thing as a Social Security “trust fund.” The trust fund is simply a pile of Treasury bonds—bonds that are written acknowledgment that the government has borrowed Social Security revenues to cover deficits in the federal budget—held in a government account rather than by the public. When the receipts of the payroll tax no longer cover the payments promised to Social Security beneficiaries, starting in 2014 or thereabouts (later if the economy keeps growing at higher than expected rates), the government will have to start redeeming those bonds to pay Social Security benefits. The same money will have to be appropriated whether or not the bookkeeping still shows money in the trust fund. These appropriations will increase government expenditures, enlarging the deficit if there is a deficit or diminishing the surplus if there is a surplus. The fact is, Social Security remains a pay-as-you-go retirement scheme under which a steadily growing number of retirees will be supported by a stable or shrinking cadre of income-producers.

It is meaningless that instead of going directly to the beneficiaries, the appropriation for Social Security benefits will at first take the form of redeeming “Treasury bonds” in a “trust fund.” As a practical matter, the burden on the budget the day after the trust fund runs out will be exactly the same as the day before.

There is, in fact, a justification for including Social Security in the overall federal budget and spending the surplus or returning it to the community as a tax cut. When the federal government pays out more than it earns, it pumps demand into the economy. Government cash deficits stimulate business.

A handful of economists, most of them associated with the left-of-center Levy Institute at Bard College in New York (for which I write occasional papers myself), worry that when the government stops applying this stimulus and actually spends less than its cash income, the economy will tank. But most economists, including me, are encouraged by the prospect of more money available for private investment as the government stops competing for the pool of lending money and starts saving. Especially now, when there is a great demand for new capital. If the demand for new capital slackens, we will have a recession and the government will fall back into deficit fast enough.

In any event, statements of a cash deficit or surplus misrepresent the government’s real balance sheet. In the real world, where time passes, the government, like a private corporation, should count the accruals on its books as well as the cash flow. Accruals are the automatic growth of debts or assets created by interest, or by the pension rights for workers and pension obligations for employers created by seniority. The federal budget doesn’t show the inevitable, relentless accrual of Social Security obligations as more people approach retirement.

The great truth is that the Social Security obligation is part of the national debt. Actuaries disagree about how much national debt the Social Security promises represent, and the World Bank, which does periodic studies of “implicit pension deficits,” says that we’re nowhere near as badly burdened as Europe and (especially) Japan. But it’s some trillions of dollars, for sure.

Our children and their children will have to carry the national debt we leave. When we say we plan to increase the Social Security trust fund, what we mean is that we hope to reduce the share of debt service that must be allocated to Treasury bonds, which will free up more revenues to pay Social Security benefits. This is not a trivial debate, but we have after all agreed that the lion’s share of the projected surpluses in the cash budget should be used to reduce the debt. The questions of how tightly the budget caps should bind then become the usual tug-of-war of politics.

The Social Security trust fund should enter into the debate only as a proxy for the future national debt. Our arguments would be wiser—and perhaps more fruitful—if both sides erased the words “trust fund” from our political vocabulary.