2. 1 Social Security

3. 2 Learning Objectives Trace the history of the Social Security program. Describe the operation of the Social Security program. Assess the impact of demographic change on the future of Social Security. Describe and evaluate proposals for reforming Social Security.

4. 3 Key Terms Social Security Welfare State Baby-Boom Generation Cost of Living Adjustment (COLA) Consumer Price Index (CPI) Payroll Tax Means-testing Privatization

5. 4 Retirement Planning Are you counting on Social Security for your retirement? About half of younger Americans under age 50 tell survey researchers that they do not think Social Security will be there when they retire. Do you agree with them?

6. 5 Social Security is... A pension system. Congress and the president created the Social Security program in 1935 to provide limited pension income to workers in industry and commerce upon their retirement at age 65. They subsequently provided for early retirement beginning at age 62.

7. 6 Social Security is... An insurance system for the survivors of deceased workers. Congress expanded Social Security to cover the aged spouse of a retired worker as well as the young children and spouse of a covered worker upon the worker's death.

8. 7 Social Security is... A disability insurance system for workers.

9. 8 Social Security is... The centerpiece of the American welfare state, which is a government that takes responsibility for the welfare of its citizens through programs in public health, public housing, old-age pensions, unemployment compensation, and the like.

10. 9 The Liberals Perspective Liberals want to ensure that the Social Security program is fully funded so that it can cover the retirement of the baby-boom generation, which is the exceptionally large number of Americans born during the late 1940s, 1950s, and early 1960s.

11. 10 The Conservative Perspective Conservatives favor cutting back Social Security in order to reduce the cost of government.

12. 11 Millions benefit In 2003, 48 million Americans benefited from Social Security, including 33 million retired workers and their dependents, 7 million survivors, and 8 million disabled people and their dependents.

13. 12 Social Security Checks In 2004, the average Social Security recipient received a monthly check for $843. Social Security is the primary source of income for most retirees.

14. 13 The Size of the Program Social Security is the federal government's largest spending program, accounting for nearly 22 percent of all federal spending.

15. 14 Benefit have increased Congress and the president have steadily increased benefits over the last 35 years. In 1975, Congress and the president indexed benefits to the consumer price index (CPI), a measure of inflation that is based on the changing cost of goods and services. Consequently, benefits rise with the rate of inflation.

16. 15 COLAs If the CPI indicates a 3 percent annual inflation rate, Social Security beneficiaries receive a 3 percent cost-of-living adjustment (COLA), which is a mechanism designed to regularly increase the size of a payment to compensate for the effects of inflation.

17. 16 The Payroll Tax To fund Social Security, Congress and the president enacted a payroll tax, which is a levy assessed on wages. Initially, the rate was a modest 2 percent on the first $3,000 of an employee’s wages, with half paid by the employer and the other half withheld from workers’ paychecks.

18. 17 Rising Payroll Taxes Congress and the president have increased the Social Security payroll tax rate to 12.4 percent on the first $87,900 of a worker’s annual wages, with 6.2 percent withheld from the employee's paycheck and an equivalent 6.2 percent paid by the employer. Today, most workers pay more in payroll taxes than they pay in personal income taxes.

19. 18 Social Security Funding Social Security is a tax on workers to provide benefits to elderly retirees and disabled persons. Current payroll taxes pay the benefits for current retirees.

20. 19 Contrary to popular belief... Social Security is not a pension/savings plan in which the government simply refunds the money retirees contributed over the years. Because the initial tax rate was relatively low, current retirees draw substantially more money in Social Security benefits than they paid in payroll taxes. The average person who is retired today got back all the money he or she paid into Social Security with interest in about seven years.

21. 20 Today, the program is healthy The Social Security payroll tax currently raises more money than the program pays out in benefits. The annual Social Security surplus now well exceeds $100 billion.

22. 21 The Trust Funds The government deposits Social Security surpluses in the Old Age and Survivors Insurance (OASI) and Disability Insurance (DI) Trust Funds in the form of government securities.

23. 22 The Balance Sheet In 2003, the Social Security balance sheet was as follows: Benefits paid: $471 billion Income generated: $632 billion Assets held in U.S. Securities: $1.5 trillion

24. 23 Trust Fund Assets Because the total federal budget is in deficit, the government spends Social Security surpluses on other programs. Although the trust funds have healthy balances, the money is in the form of IOUs from the government.

25. 24 Workers and Recipients The current ratio of workers paying Social Security taxes to beneficiaries is now 3.3 to 1. As the baby- boom generation retires, the ratio will gradually fall to 2.1 to 1 in 2031. At that ratio, payroll tax receipts won’t be sufficient to cover benefits.

26. 25 Retirees and Workers The share of people age 65 or older is projected to grow from 12 percent in 2000 to 19 percent by 2030, while the working-age population is expected to fall from 59 percent to 56 percent.

27. 26 Worker-Beneficiary Ratio

28. 27 The Coming Crisis Benefit payments will begin to exceed payroll tax revenue in 2018. Once that happens, the government will have to raise taxes, cut other programs, or go further into debt to make up for the shortfall. The amount of money in the trust funds will be irrelevant to the problem because the funds have already been spent.

29. 28 People Are Living Longer When the Social Security program was created in 1935, a 65-year-old American had an average life expectancy of 12½ more years; today, it is 17½ years and rising. Because retirees live longer, they collect more in benefits than did retirees a generation ago.

30. 29 How big is the problem? The Social Security Administration estimates that the Social Security shortfall over the next 75 years will be $3.5 trillion.

31. 30 Saving Social Security To ensure the long-term solvency of Social Security, Congress and the president must agree to cut benefits, increase taxes, or restructure the system.

32. 31 Raising Taxes/Cutting Benefits Congress and the president could improve the financial health of the system by raising payroll taxes, increasing the amount of earnings subject to the tax, raising the retirement age, cutting benefit levels, and/or providing alternative funding sources.

33. 32 Acting Now Important Relatively small changes can have a big impact if they are taken early enough. However, because the program is not yet in crisis, political leaders have little incentive to make unpopular decisions now.

34. 33 Means-Testing Some reformers want to make Social Security a means- tested program, which is a government program that provides benefits to recipients based on their financial need. Under the current system, recipients qualify for benefits based on their age and contributions, regardless of personal wealth or other income. If Social Security were a means-test program, benefit levels would also depend on the financial need of the recipients.

35. 34 Advantages/Disadvantages The advantage of means-testing is that it would reduce benefits without hurting low-income retirees. The disadvantage is that that middle- and upper- income taxpayers might be unwilling to continue to support the program if their benefits were reduced.

36. 35 Privatization Many conservatives favor reforming Social Security through privatization, which is a process that involves the government contracting with private business to implement government programs. President George W. Bush proposed supplementing Social Security with a pension plan system in which workers would be required to invest some of the money they would have contributed to Social Security in private savings accounts.

37. 36 Advantages/Disadvantages Proponents believe that stocks and bonds will give people better returns on their investments than they now receive from Social Security. Critics warn that stocks and bonds entail risk. Even if privatization succeeds in the long run, the government would have to put additional funds into the Social Security system now to make up for the money diverted into private accounts in order to continue paying current benefit levels to retirees.

38. 37 Review Question Why is Social Security described as a pay-as-you- go program?

39. 38 Answer Social Security is a pay-as-you-go program because it is currently financed. Revenues generated by payroll taxes this year go to cover the cost of benefits paid this year.

40. 39 Review Question Grandma just called to say that she got a letter from the Social Security Administration (SSA) telling her that her benefits will increase by 3 percent next year. “Why are benefits going up?” she asks. How do you answer her?

41. 40 Answer Social Security benefits are tied to the cost of living. The 3 percent increase represents this year’s cost of living adjustment (COLA). Tell grandma that her benefit check will be increasing to take account of inflation.

42. 41 Review Question Why does the baby-boom generation represent a demographic time bomb for Social Security?

43. 42 Answer The baby-boom generation is huge. As the baby boomers retire, the number of people retired and collecting Social Security benefits will increase more rapidly than will the number of people working and paying taxes into the system.

44. 43 Discussion Question Do you expect to collect Social Security benefits when you retire? Why or why not?

45. 44 Discussion Question Why haven’t Congress and the president acted to address the pending Social Security shortfall?

46. 45 Discussion Question If you were the president, how would you propose dealing with Social Security? Why?

47. 46 Discussion Question How would you expect this issue ultimately to be resolved? What is the basis for your answer?