The phony Social Security crisis-1: Understanding the system

There are many who would have you believe that Social Security is in dire straits and that it will go broke soon, so that younger people who are paying into it now will not get any benefits when they retire. While Social Security regularly requires tinkering to remain solvent, this kind of rhetoric is misleading but has been systematically promoted to make young people think that they are being swindled by the old, and thus generate intergenerational warfare. It is the tried-and-true divide-and-rule strategy. The goal is to scare people into agreeing to give private investors access to the money in the Social Security trust fund. (For a fascinating history of how the various forms of social safety nets, including eventually the Social Security system, came about, see here.)

Social Security is designed as a ‘pay as you go’ system, with the money being taken in now in so-called payroll or employment taxes (officially called FICA taxes) going to pay the benefits of those currently retired. It is presently running a surplus (i.e., each year it takes in more money than it spends) so that there is an increasing accumulation of reserve funds in the account, which is called the ‘trust fund’.

The confusing thing about understanding the government budget is that since Social Security is not an independent financial entity, the money that comes in as Social Security revenue is not kept separately from other government revenues, i.e., the ‘trust fund’ is not a separate vault of cash. What the government collects as revenue in any form (Social Security taxes, Medicare taxes, income taxes, import duties, etc.) can be used to fund general government expenditures.

But that does not mean that the trust fund is a fiction. How the government gains access to the money in the trust fund is by using that money to buy US government treasury bonds and what the Social Security trust fund holds is not cash but these government bonds. The trust fund reserves are thus in the form of government guarantees to honor its financial obligations, no different from the government’s obligations to honor its treasury bills, currency, and other forms of IOUs.

What is required by law is that the trust fund be accounted for separately and it is thus said to be “off-budget”. So the government is required by law to keep separate accounts for Social Security and the rest. But when government budgets are presented to the public, the government likes to mix the two budgets (Social Security and the rest) together (i.e., make Social Security “on budget”) so that the annual Social Security budget surpluses that go into the trust fund can be used to hide the huge annual deficits that are being run up elsewhere, the latter caused by massive tax giveaways to the rich, spending huge amounts on needless wars (thus subsidizing the military-industrial complex), and the runaway health care costs that are endangering Medicare.

So the trust fund is being used (in terms of book-keeping sleight-of-hand) to hide the scale of the huge budget deficits being run up in the rest of the government. The real problem is not with Social Security but the way that the government has been fiscally irresponsible overall.

The future solvency of Social Security depends on projections of future revenues (which depends on the size of the workforce and its levels of income) and future payouts (which depends on the projected number of future retirees and their longevity).

One of the planks on which the scaremongering about Social Security is based is the indubitable fact that the percentage of retirees will increase shortly due to baby-boomer retirements, thus projecting increased payouts without comparable increases in revenue.

The other plank that people have used is the well-known fact that the trust fund consists, as I discussed above, not of actual cash but of US treasury bonds. They argue that the Social Security trust fund, although rich on paper, contains nothing more than ‘worthless’ government IOUs.

But this is absurd. The belief that the US can honor those and similar bonds that the government sells to other countries is what keeps the dollar as the world’s reserve currency and is what makes foreign governments purchase those bonds, without which the US could not finance its deficits. The net foreign debt owed by the US to foreign entities and held by them in the form of such bonds has risen from $311 billion in 1994 (4.4% of GDP) to $2.4 trillion in 2004 (23% of GDP).

If these US government treasury bonds ever do become truly ‘worthless’, as alleged by the scaremongers, that would mean that the US government has become unable to honor its debt obligations. That would signal that the entire US economy has totally collapsed and that the US dollar has ceased to have any value. If such an unlikely scenario as the failure to honor to its government bonds were to ever come about, this would lead to global economic upheavals on an unprecedented scale, since all these foreign governments and other entities would also be holding worthless pieces of paper and we would then have far more serious matters to worry about than Social Security.

This does not mean that there should be complacency. A watchful eye needs to be kept on the solvency of Social Security and the rest of the government’s budget. There are indeed reasons for concern. The continuing massive deficits and the decline in value of the dollar (last week saw it reach record low levels against the euro) are a source for global concern about the health of the US economy and have led to grumblings and some talk of switching to the euro as the world’s reserve country. But those alarms have not reached major proportions as yet. The idea that the US government might default on its debt obligations (and thus leave the Social Security trust fund truly worthless) is not even being considered.

Next: Double talk on Social Security

POST SCRIPT: Why Obama’s message seems more effective than Clinton’s

Bob Harris has a perceptive take on a significant difference between the rhetoric coming from the Clinton and Obama camps.


  1. Rian says

    Here’s the problem: the dollar is increasingly not the world’s reserve currency. Even our debtors are starting to be awfully skittish about having US Treasury bonds; they’ve used this to their own advantage to start buying up American businesses (a couple of major investment banks have had foreign infusions of dollars recently, to try to shore them up against the credit crisis) and are additionally trying to diversify their money into euros.

    When the dollar stops becoming the reserve currency and its value collapses (because why would people want to hold dollars when the best store of value is increasingly the euro -- they’ll want their money to not lose its purchasing power through factors that are not their concern), I agree that there will be a great big problem. Social Security of course is one of the biggest, because there actually is an enormous hole in the cash account of Social Security. Privitization isn’t the answer, but if we don’t start buying back that hole in the cash account then good luck seeing those benefits. Because the T-bills won’t be worth enough to matter anymore.

  2. Abe says

    Mano Singham’s argument for the phoniness of the so-called Social Security “crisis” makes so much sense. If it is indeed true that our government is toying around with public funds to help finance personal agendas, then I would like to see other examples beside their Social Security ploy. I admire Singham’s candidness and courage to bring this issue to light but I hope that he would do the same and bring to light other important issues and scandals like this to the American public…

  3. Anonymous says

    Even with spelling everything out, you still miss the big picture. The key problem is that trust fund consists of U.S. Treasury bonds. Essentially the federal government owes itself money…with interest. The Treasury pays its bond obiligations out of tax revenues. So what is going to happen is that as Social Security relies more and more on the trust fund to pay its benefits it is really just a larger and larger amount of taxes going to pay those benefits, with the government still having to meet all its other financial obligations. Simply put, if you borrow money from yourself, does your net value actually go up?

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