Slouching Toward Bankruptcy

The longer Washington puts off Social Security reform, the worse the shock will be.

In November 2004, President George W. Bush was re-elected after campaigning on personal accounts for Social Security. It was unfair, he argued at the time, to make a generation of young people pay into a system that's going broke. Bush's plan promised to make the program solvent, allow younger workers the option to earn a better return by investing part of their Social Security taxes in personal retirement accounts, while maintaining the status quo for current retirees.

Republicans held substantial majorities in both houses of Congress, including 55 senators. Yet there would be no Social Security reform.

Opinions vary about why that was. Writing in Forbes in 2011, Peter Ferrara, one of the strongest advocates for Social Security privatization, argued that the proposal failed because "Bush's White House staff in charge of the Social Security reform effort never understood the politics or policy of personal accounts, and proved ineducable on the subject." On the other side of the issue, William Galston, a senior fellow at the Brookings Institution, argued in 2007 that "President Bush overestimated the amount of political capital he had banked."

In his memoir Decision Points, Bush blames the failure on the "rigid Democratic opposition" and the lack of "strong Republican backing to get a Social Security bill through Congress." He also recognizes that he bears some responsibility himself. Bush suggests, for instance, that he might have made some progress with centrist Democrats had he not personally campaigned against Democratic incumbents in 2002 and 2004. He also thinks that if in 2005 he had started with immigration reform rather than Social Security, he could have passed both and the country would be a better place for it.

Since the Bush debacle, Republicans have not had the courage to rally behind a plan to reform Social Security. But while the political will may not exist, the 77-year-old system remains in serious need of a makeover.

By the end of the 1970s, the pay-as-you-go program-in which current workers pay for current retirees-was already headed toward bankruptcy. Then it was rescued in the 1980s when President Ronald Reagan hiked the payroll taxes that fund it and increased the age at which benefits would kick in for people currently paying into the system. He left the benefits of current retirees untouched.

As a result of those changes, Social Security has not just survived; it surpassed the Pentagon in 1993 to become the single largest item in Washington's accounts payable. About 22 percent of federal spending today goes to the program. According to the Social Security Administration, the country will spend almost $816 billion in Social Security benefits for more than 58 million Americans in 2013. Those recipients include some dependent children and disabled workers, but the largest block-37 million people-consists of retirees. Retirees receive an average of $1,269 per month, with a maximum benefit of $2,533.

In 2015 spending on health care programs is expected to surpass spending on retirement, but Social Security still keeps growing. The Congressional Budget Office's latest projections, released in May, show that inflation-adjusted spending on the program is expected to increase by 75 percent from 2013 to 2023.

Beyond its high cost, Social Security suffers from a serious technical problem: There is no way to reliably pay for the program as it currently exists. As the number of contributors paying into the system falls, the number of non-working recipients increases. In 1940 there were 159 workers for each beneficiary. Today there are fewer than three.

Since 2010, today's taxes collected for Social Security haven't been enough to cover the benefits paid to today's retirees. To fill the gap, the program has been drawing from its trust-fund balances, which consist of Treasury bonds purchased with surplus payroll taxes during the many years when revenue exceeded benefits. For now, the Social Security Administration is cashing in the interest on those bonds to keep the payments flowing, but it will have to tap into the principal. The Treasury, which has long spent the extra payroll taxes collected by the program, has to borrow money to pay back what it has taken, increasing our debt load as we go.

According to a Social Security and Medicare Board of Trustees report published in May 2013, the combined trust funds for the two old-age entitlements will be exhausted in 2033. Considered separately, the Social Security retirement trust fund will peter out by 2035, and the disability trust fund, which is in much worse shape, will run dry in 2016.

These trust funds, along with the payroll tax, determine the program's spending levels. Without a positive balance in the trust fund, Social Security won't have the legal authority to pay out full benefits above what it can collect in payroll taxes. If the disability trust fund is depleted in 2016, payroll taxes will only be able to cover about 80 percent of scheduled benefits to those on disability. If Congress were to simply reallocate payroll taxes from the retirement program to the disability program to cover the revenue shortfall, that would speed up the estimated date of trust-fund depletion to 2033. Upon which, in the absence of reforms, Social Security recipients would face an across-the-board cut of 23 percent.

Yet the only reform Democrats are currently contemplating is raising more revenue to pay for current and future promises. As Chuck Blahous, a member of the Social Security and Medicare Boards of Trustees, explained during an event at the National Press Club in June, that would require raising "tax revenues by the equivalent of an increase in the current tax rate from 12.4 percent to 16.5 percent-an increase of nearly one-third in worker tax burdens." In addition to inflicting pain on individuals, such a tax hike would slow down the economy, reducing the amount of revenue collected, thus pressuring lawmakers to increase taxes even higher.

Jason Fichtner, a former deputy commissioner of the Social Security Administration, has proposed an alternative method of reform: raise the eligibility age to reflect increasing longevity, means-test the program so it isn't aiding the rich, and adjust tax and other policies to encourage seniors to continue working. Better yet, the government could end the practice of paying benefits to people based on age, especially since seniors' average incomes have increased tremendously over the last 30 years. The best way to afford a safety net is to base social insurance payments purely on income.

Reforming Social Security isn't easy. Just ask George Bush. But the longer Congress delays dealing with these issues, the worse the shock will be.