I found this explanation of the Social Security Trust Fund and its differences from a legitimate trust fund, by Heritage’s David John, to be useful.
How the Trust Fund Operates.Workers pay their Social Security taxes through their employers. Each employer periodically sends a lump sum payment to the U.S. Treasury that includes all of the income taxes and Social Security and Medicare payroll taxes paid by both the employer and its employees.
The Treasury both receives the payroll taxes (and income taxes that higher-income retirees pay on their Social Security benefits) and pays monthly benefits on behalf of the Social Security Administration (SSA). The money stays in the Treasury’s hands until it is either paid out as Social Security benefits or otherwise spent by the government. In fact, no money ever goes into the trust fund. Instead, the trust fund balance is the result of two accounting entries by the Treasury.
First, the Treasury estimates how much of the aggregate tax receipts are Social Security taxes and “credits” the Social Security trust fund with that amount. Then the Treasury “subtracts” the total amount paid in monthly Social Security benefits from the trust fund balance. No money actually changes hands; these are strictly accounting entries.
Any “money” remaining in the trust fund is converted into special-issue Treasury bonds, which are really nothing more than IOUs. In addition, the Treasury pays interest on the trust fund’s balance by crediting the trust fund with additional IOUs. These are also strictly accounting entries, and again no money changes hands. After crediting the trust fund with the proper amount in IOUs, the government spends the extra Social Security tax collections just like any other tax revenue–to finance anything from aircraft carriers to education research.
At the end of 2002, the Social Security trust fund had a balance of $1.22 trillion. During 2003, the Treasury received $544 billion in Social Security taxes and paid out $406 billion in Social Security benefits. Therefore, the trust fund received $138 billion in these special-issue Treasury bonds, resulting in a trust fund balance of $1.36 trillion at the end of 2003.
Why the Social Security Trust Fund Differs from Real Trust Funds. Private-sector trust funds invest in real assets ranging from stocks and bonds to mortgages and other financial instruments. However, the Social Security trust funds are only “invested” in a special type of Treasury bond that can only be issued to and redeemed by the Social Security Administration. As the Congressional Research Service noted in a report on May 5, 1998:
When the government issues a bond to one of its own accounts, it hasn’t purchased anything or established a claim against another entity or person. It is simply creating a form of IOU from one of its accounts to another.
According to the Office of Management and Budget under the Clinton Administration in 1999:
These [trust fund] balances are available to finance future benefit payments and other trust fund expenditures–but only in a bookkeeping sense. These funds are not set up to be pension funds, like the funds of private pension plans. They do not consist of real economic assets that can be drawn down in the future to fund benefits. Instead, they are claims on the Treasury, that, when redeemed, will have to be financed by raising taxes, borrowing from the public, or reducing benefits or other expenditures. [Emphasis added.]
In short, the Social Security trust fund is really only an accounting mechanism. The trust fund shows how much the government has borrowed from Social Security, but it does not provide any way to finance future benefits. The money to repay the IOUs will have to come from taxes that are being used today to pay for other government programs. For that reason, the most important date for Social Security is 2018, when taxpayers must begin to repay the IOUs, not 2042, when the trust fund is exhausted.
The point is, if the government abolished the trust fund and threw all the special issue securities in a big pit and burned them tomorrow, the financial picture of Social Security would be exactly the same.
[Should we call those who tout the massive assets of the trust fund "trust fundamentalists"?]
Congress could always pass a law that allows the Social Security Trust Fund to sell its bonds.
Foreigners currently hold $1.8 trillion worth of US bonds now. I’m sure they’d snap up more if they could.
Your correspondent has a curiously literal view of money. If I use a debit card to buy something, no “real” money changes hands. There is “merely” an accounting entry debiting my bank account and crediting the bank account of the vendor. If a corporation issues a bond to its pension trust, then it is “just” an accounting change.
But, by this logic, all financial transactions, that don’t involve physically handing over gold ducats, are fictional.
Moreover, you can’t have it both ways. If it even makes sense to talk about “Social Security’s” solvency, then Social Security must have an independent existence from the general fund. Otherwise, the only real issue is the solvency of the US Government as a whole, not a topic that Bush wants to bring up.
The difference, Gareth, is that you and the vendor are truly different entities with different financial interests and points of view; an IOU that is an asset to him is a liability to you and vice versa. But when we worry about the SS problem we worry about it not as partisans of SS or of the general fund but as taxpayers. We want to know what the total tax burden for SS is going to be going forward. And the bonds in the SS trust fund are nothing but claims on future general fund tax receipts, so funding SS by redeeming them does nothing to reduce the overall burden of SS on taxpayers.
So you’re absolutely right that the real issue is the solvency of the US gov’t as a whole, but that doesn’t make the trust fund any less fictional. Nor does it make consideration of the growth in the SS tax burden any less relevant to discussion of the general fund problem, since SS is such a huge and growing piece of the general fund.
We’ll call your “throw all the securities in a big pit and burn them” idea the “pit plan.” Now, if we implemented the pit plan, according to you, social security would be in the exact same position, and the federal government would be in a much stronger position vis a vis the amount of debt that it owes. It seems like a good plan to me, according to what you say. So why isn’t anyone advocating it?
Answer that question, and you’ll understand the position of the trust fundamentalists.
The government would be in the exact same position with respect to the debt it owes.
I suppose, but the ‘owing’ would be much less formal. Instead of being in the form of treasury bonds, actual pieces of paper which could theoretically be sold on the common market as monkyboy suggested above, the debt would be in the form of a promise to, in the future, tax young (and/or rich) people and give the taxes to old (and/or disabled) people.
Aren’t promises more easily broken than financial contracts? Wouldn’t the pit plan be a net win from the point of view of libertarians, as well as borrow and spend Republicans, by reducing the number of actual physical claims on the government to pay?
Should we call it the Will Wilkinson Social Security Trust Fund Pit Plan?
The explicit debt would have to be funded using bonds, etc. What’s the difference?
Nicholas,
My point about the debit card was just that saying that a transfer of money or a repudiation of debt is a “mere” financial or accounting change is silly.
What about your point that SS and the General Fund are both held by the same entity, the US Government? The same is true of a company pension plan (held in trust by the company) which owns company bonds. The one thing this does not do is give the company the moral or legal right to default on the bonds, which is roughly what Bush is proposing.
I’m not a trust-fund sceptic. However, trust fund sceptics have the difficulty that, if their ontology is correct, it is impossible for social security to be in fiscal crisis, or have a low rate of return, or have any of the other myriad of sins attributed to it. Those concepts just don’t make sense unless SS is taken to have an indpendent existence.
The difference is that the explicit bonds are held by entities that are not the US Government, they’re not these “IOUs to myself” that you find so dishonest and repulsive. Or, at the very least, you call the people who believe in them dishonest and repulsive “fundamentalists.”
If the trust fund “doesn’t exist,” which may or may not be true, I am all for getting rid of it altogether because it creates a feeling of security that should not be there.
So, are you in favor of the pit plan? why or why not?
Gareth, a corporation’s pension fund has undertaken certain explicit contractual obligations to its workers. Defaulting on those bonds is a violation of those contractual obligations– obligations to a party whose interests are separate from that of the company itself.
No such obligations exist with SS. SS is a welfare program, not a contracted payment for services rendered. There is no contractual right of anybody to receive an SS benefit; the level of benefits is set by Congress and could legally be arbitrarily changed or abolished tomorrow.
You’re right that the notion of SS solvency is in a sense valueless if SS is (as it should be) considered part of a unitary federal government budget. But it is the case that the cost of SS as a share of GDP will grow in the future, and that because of the sheer size of SS this will put considerable pressure on the overall solvency of the government. In particular, after 2018– not 2042– there will need to be significant tax increases or spending cuts in some part of the government in order to continue paying SS benefits. This is the substantive core of the poorly-named “SS solvency crisis” and it remains true regardless of whether you think of SS as a separate entity or not.
Nicholas,
You left out the third and most likely possibility for continuing to pay SS benefits: more bond issues.
After all, Reagan taught us that deficits don’t matter.
Nicholas,
If you are worried about the capacity of the US Government to continue its existing mix of benefits and taxes into the future, I suggest you take the matter up with one George Walker Bush and his Republican Congress. I recall they made some decisions that have had an effect on this issue.
I’m assuming that by burning the special issue securities, you mean that the government would be defaulting on its debt obligations. God help you if you are in the stock market at all if that were to happen. The good news is that it would make the issue of personal accounts moot since they would all be worth next to nothing.
jk,
Default is exactly what Cato is proposing. Apparently, government debt is slavery or something.
(OK, I know, it’s OK to pay the debt with the proceeds from selling aircraft carriers to private security firms. My bad for caricaturing your nuanced position.)
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Congress could always pass a law that allows the Social Security Trust Fund to sell its bonds.
Foreigners currently hold $1.8 trillion worth of US bonds now. I’m sure they’d snap up more if they could.
Your correspondent has a curiously literal view of money. If I use a debit card to buy something, no “real” money changes hands. There is “merely” an accounting entry debiting my bank account and crediting the bank account of the vendor. If a corporation issues a bond to its pension trust, then it is “just” an accounting change.
But, by this logic, all financial transactions, that don’t involve physically handing over gold ducats, are fictional.
Moreover, you can’t have it both ways. If it even makes sense to talk about “Social Security’s” solvency, then Social Security must have an independent existence from the general fund. Otherwise, the only real issue is the solvency of the US Government as a whole, not a topic that Bush wants to bring up.
The difference, Gareth, is that you and the vendor are truly different entities with different financial interests and points of view; an IOU that is an asset to him is a liability to you and vice versa. But when we worry about the SS problem we worry about it not as partisans of SS or of the general fund but as taxpayers. We want to know what the total tax burden for SS is going to be going forward. And the bonds in the SS trust fund are nothing but claims on future general fund tax receipts, so funding SS by redeeming them does nothing to reduce the overall burden of SS on taxpayers.
So you’re absolutely right that the real issue is the solvency of the US gov’t as a whole, but that doesn’t make the trust fund any less fictional. Nor does it make consideration of the growth in the SS tax burden any less relevant to discussion of the general fund problem, since SS is such a huge and growing piece of the general fund.
We’ll call your “throw all the securities in a big pit and burn them” idea the “pit plan.” Now, if we implemented the pit plan, according to you, social security would be in the exact same position, and the federal government would be in a much stronger position vis a vis the amount of debt that it owes. It seems like a good plan to me, according to what you say. So why isn’t anyone advocating it?
Answer that question, and you’ll understand the position of the trust fundamentalists.
The government would be in the exact same position with respect to the debt it owes.
I suppose, but the ‘owing’ would be much less formal. Instead of being in the form of treasury bonds, actual pieces of paper which could theoretically be sold on the common market as monkyboy suggested above, the debt would be in the form of a promise to, in the future, tax young (and/or rich) people and give the taxes to old (and/or disabled) people.
Aren’t promises more easily broken than financial contracts? Wouldn’t the pit plan be a net win from the point of view of libertarians, as well as borrow and spend Republicans, by reducing the number of actual physical claims on the government to pay?
Should we call it the Will Wilkinson Social Security Trust Fund Pit Plan?
The explicit debt would have to be funded using bonds, etc. What’s the difference?
Nicholas,
My point about the debit card was just that saying that a transfer of money or a repudiation of debt is a “mere” financial or accounting change is silly.
What about your point that SS and the General Fund are both held by the same entity, the US Government? The same is true of a company pension plan (held in trust by the company) which owns company bonds. The one thing this does not do is give the company the moral or legal right to default on the bonds, which is roughly what Bush is proposing.
I’m not a trust-fund sceptic. However, trust fund sceptics have the difficulty that, if their ontology is correct, it is impossible for social security to be in fiscal crisis, or have a low rate of return, or have any of the other myriad of sins attributed to it. Those concepts just don’t make sense unless SS is taken to have an indpendent existence.
The difference is that the explicit bonds are held by entities that are not the US Government, they’re not these “IOUs to myself” that you find so dishonest and repulsive. Or, at the very least, you call the people who believe in them dishonest and repulsive “fundamentalists.”
If the trust fund “doesn’t exist,” which may or may not be true, I am all for getting rid of it altogether because it creates a feeling of security that should not be there.
So, are you in favor of the pit plan? why or why not?
Gareth, a corporation’s pension fund has undertaken certain explicit contractual obligations to its workers. Defaulting on those bonds is a violation of those contractual obligations– obligations to a party whose interests are separate from that of the company itself.
No such obligations exist with SS. SS is a welfare program, not a contracted payment for services rendered. There is no contractual right of anybody to receive an SS benefit; the level of benefits is set by Congress and could legally be arbitrarily changed or abolished tomorrow.
You’re right that the notion of SS solvency is in a sense valueless if SS is (as it should be) considered part of a unitary federal government budget. But it is the case that the cost of SS as a share of GDP will grow in the future, and that because of the sheer size of SS this will put considerable pressure on the overall solvency of the government. In particular, after 2018– not 2042– there will need to be significant tax increases or spending cuts in some part of the government in order to continue paying SS benefits. This is the substantive core of the poorly-named “SS solvency crisis” and it remains true regardless of whether you think of SS as a separate entity or not.
Nicholas,
You left out the third and most likely possibility for continuing to pay SS benefits: more bond issues.
After all, Reagan taught us that deficits don’t matter.
Nicholas,
If you are worried about the capacity of the US Government to continue its existing mix of benefits and taxes into the future, I suggest you take the matter up with one George Walker Bush and his Republican Congress. I recall they made some decisions that have had an effect on this issue.
I’m assuming that by burning the special issue securities, you mean that the government would be defaulting on its debt obligations. God help you if you are in the stock market at all if that were to happen. The good news is that it would make the issue of personal accounts moot since they would all be worth next to nothing.
jk,
Default is exactly what Cato is proposing. Apparently, government debt is slavery or something.
(OK, I know, it’s OK to pay the debt with the proceeds from selling aircraft carriers to private security firms. My bad for caricaturing your nuanced position.)