Ask the Advisor: Are We “Giving Birth” to a New Generation of Notch Babies?

Q:  Many people say that Social Security is broke and don’t believe there is a real Trust Fund — just a bunch of IOUs.  On the other hand, the Social Security Trustees say the Trust Fund is supposed to be solvent until 2040.  What does TSCL say about this?

From the editor, Mary Johnson
A: The Social Security Trust Fund does not operate in the commonly understood sense of the term.  According to the Congressional Budget Office (CBO), after payment of benefits, surplus Social Security taxes are credited to the Trust Fund on paper, but the cash revenues are immediately used for other government spending.  By law the government “invests” that surplus in “special obligation bonds.”  These bonds cannot be sold on the open market.  They are IOUs from the U.S. Treasury to the Trust Fund.  When the Social Security Trustees announced last year that the Trust Fund is solvent until 2040 they were also counting those IOUs — not real cash revenues.  Says the CBO, when only the cash receipts to the program are counted, Social Security spending will begin to exceed cash revenues much earlier — in 2017. 

This is not the first time that Social Security faced long term deficits.  In 1973 the Social Security Trust Fund was projected to run deficits in the early 1980s.  In fact, the situation that Baby Boomers face today (I myself will be eligible for early retirement in 10 years) has all too many similarities to the one Notch Babies faced 10 years before they became eligible to retire. Consider the following:

• Overhaul of the benefit formula.  A key “reform” of Social Security in the late 70’s was to change the benefit formula, which at the time used both wage and price inflation to index the starting benefit.  The 1977 benefit formula used wage indexing only.  Today, a key Social Security reform proposal is to again rework the benefit formula, this time using more slowly growing price inflation to index the starting benefit.  This is expected to cut benefits for future retirees.
  
  
• Gridlock and failure to act in a timely manner.  In the mid-70’s Congress gridlocked over legislation to fix Social Security.  By 1977, Congress passed the measure to change the benefit formula and it went into effect only two years later.  Those about to retire had no time to modify their retirement plans.  The Notch Babies were born.  Today Congress has yet to take up the highly politicized task of fixing the system.
  
  
• Tax cuts deplete general revenues.  Despite the imminent Social Security funding crisis, in 1978 Congress cut federal taxes, including a substantial reduction in the tax on capital gains benefiting mainly upper income persons.  Congress was thus precluded from having the general federal revenues to transfer into Social Security to pay benefits.  The government chose to cut benefits instead.  Today, recently enacted tax cuts have created the largest budget deficit in history but, rather than address Social Security’s long-term funding crisis, more tax cuts have been proposed.

By 1983, as Notch Babies began to retire, Social Security was rapidly running out of money and a deep recession (like today) left millions unemployed.  Congress approved the biggest overhaul of Social Security since the program began.  Congress raised the full retirement age, payroll taxes were increased, and a tax on Social Security benefits for persons whose income exceeds $25,000 or couples whose income exceeds $32,000 was imposed.  COLAs were delayed for 6 months, and federal workers, including Members of Congress, were placed under the system and required to pay Social Security taxes, as well as many other provisions. 

Many of the changes Congress made in 1983 affect Baby Boomers today.  We have paid billions in payroll taxes, yet our benefits were cut in 1983 by raising the eligibility age, and are likely to be cut again.  History continues to repeats itself.  The longer Congress delays taking on the politically risky task of ensuring the financing of the Social Security system, the greater the chance we are “giving birth” to a new generation of Notch Babies whose cuts may be even deeper than anticipated.  Yours truly may be among them.

Sources:  “The Impact of Social Security and Medicare on the Federal Budget,” the Congressional Budget Office, November 14, 2002.  “Congress and the Nation, 1973-1984,” The Congressional Quarterly.

For a related story, see “Trust Funds in Deficit Says CBO” at http://www.tscl.org/NewContent/101736.asp.

May 2003

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