Common Myths About Social Security

Rumors of Social Security’s impending demise have been greatly exaggerated - How Saturday Night Live contributed to an economic freak-out.

Social Security: It’s the third rail of American politics. Its trustees warn it will be insolvent by 2033. Third-party studies warn the day of reckoning could come nearly a decade earlier. Pundits warn its $70 to $120 trillion in “unfunded liabilities” will bankrupt America.[i] Congress recently held hearings on how to fix it. One Senator just tabled a bill to patch it with a high-income tax hike and expand benefits to battle what pundits call a “retirement crisis.” Two Connecticut Congressmen submitted legislation to hike Social Security taxes across the board. However, if you take a closer look at the solvency projections in question and how Social Security works, it becomes clear this is a manufactured crisis. Rumors of Social Security’s impending demise have been greatly exaggerated.

MORE: Interested in market analysis for your portfolio? Our latest Stock Market Outlook looks at key stock market drivers including market, political, and economic factors. 

All long-term Social Security projections we’ve seen—whether from the government or independent think-tanks—suffer the same basic flaw: They use straight-line math to extrapolate past trends and long-term averages over the next 75 years. The Social Security Trustees do this for every variable impacting Social Security funding over the next few decades: economic growth, productivity, inflation, real wage growth, interest rates, employment, population growth, life expectancy, immigration, you name it. If you’re into that sort of thing, you can review the whole shebang here and here—one for demographics, one for economics. Think-tanks use their own formulas and assumptions, sometimes simply extrapolating the trend of Social Security’s annual shortfalls years into the future.

If you peruse the Trustees’ documents, you will see the formulas look very sophisticated, and I mean no disrespect to the number crunchers by addressing the assumptions on simplistic grounds—but the simple trouble here is that all use the past to predict the future, which runs aground more often than not. Though they aren’t directly involved here, the Congressional Budget Office’s (CBO) long-term projections illustrate the point well. In 2003, they projected recent government surpluses forward, predicting we’d have a surplus in 2013 and just $2.6 trillion in net public debt (14.4% of projected GDP). In reality, fiscal 2013 finished with a $680 billion deficit and nearly $12 trillion in net public debt (72.1% of GDP). In 2002, they predicted 10-year US Treasury rates would hover near 6% for the next decade, based on past averages—instead, they fell and finished the period near generational lows.

Forecasting decades ahead is impossible. Estimates, no matter how mathematically sound, are only as good as their inputs, and the inputs are nearly always the past—the past doesn’t predict the future. Who knows what could change between now and 2025, 2035 or 2090! Anything is possible. The world could end! Or we could experience unimaginable technological gains that make people 50 years from now point and laugh at history books discussing Social Security fears. This is unknowable today. We can make reasonable assumptions about probabilities a couple or so years out, based on developments in progress, but that’s it. All these unknowable elements can radically alter future growth, tax revenues, life expectancy and so on.

Then again, we probably don’t need another Industrial Revolution or medical miracle to ensure Social Security’s long-term viability—contrary to popular belief, it isn’t hemorrhaging. I sort of blame Saturday Night Live for this misperception, as it was Darrell Hammond’s classic impersonation of Al Gore in 2000 that entrenched the image of Social Security as a lockbox[ii] in the popular consciousness. Folks, it isn’t a lockbox. It is pay-as-you-go! For all the coverage of today’s retirees receiving more in benefits than they paid in taxes, your FICA taxes aren’t going into a Social Security sub-account with your name on it. 85 cents of each dollar paid goes immediately to fund current benefits. The other 15 goes to the “trust fund” used for federal disability insurance. By law, any surplus of that trust is lent to the federal government via the purchase of special-issue general-use Treasury bonds, on which the Treasury pays interest. The trust can redeem those bonds as needed to fund disability payments when it runs a deficit. Currently, there are about $2.7 trillion outstanding.

So why the insolvency fears? According to the trustees, the Old Age and Survivors Insurance (OASI—what we commonly think of as Social Security) and Disability Insurance trusts’ combined outlays have exceeded non-interest income since 2010. For now, interest covers the shortfall, but those long-term forecasts project interest won’t be a big enough buffer from 2019 on, forcing the trusts to redeem those reserve bonds. Those are projected to run out in 2033, after which tax receipts will fund only 75% of scheduled payments through 2088.

There are a couple ways to avoid this. One, the Millennial Generation outnumbers the Baby Boomers by about 15 million. Combined with Generation X, there will be millions upon millions of people to contribute taxes to support the Baby Boomers’ benefits. Folks fear the Millennials won’t grow up and produce enough offspring to fund Gen X’s retirement, but before you buy this, consider that it is awfully similar to a classic “kids today” argument repeated generation after generation.

Two, if population growth isn’t sufficient to maintain the system, the system can change. Congress has changed Social Security before and can do so again. Amendments in 1956, 1961, 1962, 1965, 1972, 1977 and 1983 made minor changes to ensure Social Security’s solvency. Sacred cows have fallen plenty. In 1983, Congress raised the retirement age and made benefits taxable! Similar tweaks now could have a big impact. With lives getting longer and healthier and work less physically taxing, Americans may choose to work longer, which could mean tapping Social Security later after longer periods of contributing via FICA taxes.

Not that Congress will make them any time soon. Politicians don’t have much incentive to act until the situation is bleeding, and that might not happen for decades. In the meantime, there isn’t much point in fretting over Social Security’s funding status. Stocks usually don’t discount events beyond the next 30 months or so, and whether Social Security’s reserves run out in 2024, 2033 or beyond, that isn’t in the next 30 months. The issue is simply too far out and too subject to change to have much impact in the foreseeable future.

[i] Important note: Unfunded liabilities are not debt. Debt is a contract between a borrower and lender. Unfunded liabilities are projections of long-term expenditures based on current legislation and extrapolated trends. See the rest of this article for more.

[ii] Correct pronunciation requires drawn-out vowels.

More Investing Tips

4 Investment Lessons from 2015

By Fisher Investments Editorial Staff

cover image of the stock market outlook from fisher investments

Find out in the latest 2016 Q3 Stock Market Outlook where Fisher Investments reviews important market drivers that may impact your portfolio.

Get your free Stock Market Outlook   

New Stock Market Outlook

Our latest Stock Market Outlook focuses on important market drivers that may impact your portfolio.

cover image of the stock market outlook from fisher investments

Read guide

Portfolio Management Services

services icon

Much like a tailor who alters the hem, sleeves, and collar of a suit to fit an individual's proportions, we take a variety of factors into account to create a portfolio carefully tailored to your needs.

Learn about our services
Learn about Fisher