Tuesday, May 17, 2016

What Went Wrong with the 1983 Social Security Fix?

This is a follow-up to several of my prior posts on Social Security’s financial problems, with the most recent being on November 5th of last year.   The inspiration for this post comes from an article entitled, Understanding Social Security’s Long-Term Fiscal Outlook, by Steve Goss, Chief Actuary, U.S. Social Security Administration.   In his article, Steve states, “The Social Security program faces a substantial financing challenge for the future, largely due to demographic changes that have been long known and understood.”  Steve also indicates that, “Remedying OASDI’s [Social Security’s] fiscal shortfall for 2034 and beyond will require a roughly 25 percent reduction in the scheduled cost of the program, a 33 percent increase in scheduled tax revenue or a combination of these changes.”  So, why are we facing this “substantial financing challenge” when the 1983 Amendments to the program promised system solvency for the foreseeable future?

Well, ok, while some media sources in 1983 indicated that the 1983 Amendments promised system solvency for the foreseeable future, it is more accurate to say that the 1983 Amendments brought the system into “long-term (or “long-range”) Actuarial Balance.”  Like the actuarial measurement of assets and liabilities recommended for retirees in this website, Social Security’s actuarial balance measurements compare system assets (including the present value of future revenues) with system liabilities based on assumptions made about the future and are recalculated annually based on actual data and possibly revised assumptions.   Unfortunately, Social Security’s long-term actuarial balance measurement is limited to 75 years, and the significant deficits expected after the end of the 75-year projection period in the 1983 measurement (that of would of course emerge in subsequent years’ measurements) were ignored.  So, the 1983 Amendments anticipated accumulation of large amounts of Trust Fund reserves during the first half of the 75-year projection period that would be expected to be used to fund tax-rate revenue shortfalls during the last half of this period, with reserves ultimately to be exhausted around 2060 if all assumptions about the future were realized.  After 2060, however, significant tax increases were expected to be required to pay scheduled benefits. 

So what is the big deal?  As Steve indicates in his article, these demographic problems have been long known and understood (well before 1983).  The actuaries thus knew that the 1983 Amendments were a “kick-some-of-the-problem-down-the-road” solution.  So, instead of the problem occurring as expected around 2060, we are now looking at possibly 2034 as the “fall-off-the-cliff-date” because actual experience after 1983 wasn’t quite as favorable as assumed back then and the actuaries changed some assumptions to reflect this less than favorable experience.  Not to worry, however, because according to Steve, “Whenever the reserves begin to decline and approach depletion, Congress must act to make timely adjustments.  Such adjustments to tax rates and scheduled benefit levels always have been made throughout the 80-year history of the program.”

Steve points out that the 1983 Amendments, “substantially improved the financial status of the program for decades into the future.”  You will get no argument from me on this statement.  And while reducing the 75-year actuarial deficit to zero (as was done in the 1983 Amendments) is a reasonable first step, there are two problems with any proposed reform options that simply reduce Social Security’s 75-year actuarial deficit to zero: 

  1. Given the projected costs of the program, limiting the actuarial balance calculation to 75 years ignores projected annual deficits expected to occur after the end of the 75-year projection period.  Over time, these deficits will emerge in the actuary’s annual calculations. 
  2. There exists no process in current law to automatically adjust the System’s tax rates to maintain a balance between system assets and system liabilities.  Imbalances (in the form of deficits in the annually calculated 75-year actuarial balance) may occur as a result of the previously unrecognized deficits mentioned in Problem #1 above, or because of changes in assumptions, experience losses or gains, or from other sources.
Both of these problems can be addressed through the use of traditional actuarial principles that automatically adjust the program’s tax rate to maintain the system’s actuarial balance in future years.

Some may legitimately question the wisdom of a long-term financing solution that is not expected to be sustainable in the long-run.  On the other hand, there are those who argue that it is beneficial for Social Security to actually have to go through a “challenging” periodic process of re-evaluation rather than operate on an automatic basis similar to the actuarial approach used for the Canada Pension Plan.

Social Security’s financial problem is an actuarial problem that requires an actuarial solution.  However, as discussed in my November 5 post, the public voice for the U.S. actuarial profession, the American Academy of Actuaries, appears to be sending out mixed messages on this topic.  While it’s 2015 public policy white paper, Sustainability in American Financial Security Programs, touts the benefits of sustainability and states the profession’s commitment “to working toward solutions that help restore confidence in and enhance the sustainability of these important programs,” the Academy’s Social Security Game congratulates players for fixing Social Security by adopting the same type of 75-year “kick-some-of-the-problem-down-the-road” solutions adopted in the 1983 Amendments. 

And so, how will Social Security’s latest “financial challenge” be addressed?  In addition to questions of when the “solution” will be effective, who will be effected by the solution and by how much, you can add the important question of how long will it be after the solution is adopted before we (or our children) can expect to address the program’s financial problems once again.