The Social Security Trust Fund

There is no Social Security trust fund, but it is a useful fiction.  For decades taxpayers have paid in more in Social Security payroll taxes than the program has paid out, and the excess payroll tax revenues have gone to pay for other federal expenditures.  The Treasury has issued bonds — IOUs — to its Social Security program, but those IOUs are just a claim one office of the federal government has against another.  The federal government has no assets to repay those IOUs.  You can’t create an asset by saying you owe yourself money.  The trust fund is a fiction.

It has been a useful fiction, however, because people talk about the program being in trouble because once the trust fund is exhausted the program will be broke.  The trust fund fiction causes people to think about ways to get the program’s costs under control in a way that does not exist for any other federal government program.

The trust fund is completely irrelevant to paying for Social Security.  Either Social Security taxes exceed payments, in which case those taxes pay for other federal programs, or payments exceed taxes, in which case money has to be diverted from income tax collections and bond sales to fund Social Security payments.  How much is in the trust fund has nothing to do with federal taxes, expenditures, or the budget in any way.

As long as the fiction of the trust fund survives, policy makers will look for ways to get the program’s costs under control, so that Social Security does not go broke.  That’s good, and it would be nice if there were similar fictions pushing to control costs for other government programs.

But sooner or later, the fact that the trust fund is a fiction that has never existed in reality will be brought into the debate.  Talk of needing to fix Social Security or the program will go broke will end, and Social Security will just become another claim on the Treasury.

I am quite confident that once the trust fund balance falls below zero, general revenues will continue to flow into the program to pay Social Security recipients, and the trust fund will just show a larger and large negative balance.  How much in revenues will be diverted to Social Security will depend on how much reform will take place before the fiction of the trust fund is exposed.

Exposing the fiction of the trust fund will naturally bring into the debate the fairness of Social Security payroll taxes.  Now, they are regressive, starting with the first dollar of income, but capped so that high-income people pay a smaller percentage of their incomes in payroll taxes than lower-income people.  This looks fair if it appears that those taxes are going into a trust fund to pay future benefits.  But when one realizes they are just another source of tax revenue for the Treasury, and there is no trust fund, payroll taxes are subject to the same fairness debates that now characterize income taxes.

The trust fund is like the emperor who has no clothes, and I am surprised that the fictional trust fund has not already become a part of the debate on financing Social Security.  Once it does, the nature of the debate on Social Security will change from reforming it so it does not go broke to deciding how much the nation’s working population should chip in to support its retirees.