Social Security Was Doomed From the Start

The fatal flaw was FDR’s decision to make it a pay-as-you-go benefit. We should have fixed it by now

By Phil Gramm and Mike Solon. Excerpts:

"FDR’s Justice Department successfully argued before the Supreme Court that Social Security payroll taxes weren’t reserved for future retirees. “These are true taxes, the purpose being simply to raise revenues,” assistant attorney general Robert Jackson asserted in his brief to the justices. “The proceeds are paid unrestricted into the Treasury as internal revenue collections, available for general support of the Government.”

By 1939, Social Security taxes were collecting about 8% of federal revenue and funding part of the explosion of New Deal social spending. None of this revenue was used to purchase marketable equities or private bonds to fund future benefits. Only a notional accounting of the Social Security surpluses was recorded by the issue of nonnegotiable government bonds—which provided nothing to fund future benefits, since it was debt the federal government owed itself.

With Social Security running large cash “surpluses,” Congress started adding new benefits. These included payments for dependents and survivors, cost-of-living adjustments, disability benefits, Supplemental Security Income, a minimum benefit, a death benefit and a student benefit. When the War on Poverty and the Vietnam War triggered—and social spending and monetary expansion sustained—9.2% average annual inflation from 1973-81, the Social Security surplus quickly evaporated. By 1980, the Social Security trustees projected the fund would be depleted in 1981.

But inflation and profligacy alone didn’t bankrupt Social Security. One retiree in 1940 could be supported by a 2% payroll tax paid by 159 workers. By 1981, with growing life expectancy and an aging population, that same retiree needed a 10.7% payroll tax paid by 3.2 workers."

"Social Security required immediate action when President Reagan took office. His 1981 budget reconciliation bill, Gramm-Latta, ended Social Security’s adult student benefit and the minimum benefit. It also limited the death benefit."

"The [1983] agreement required most federal employees to pay Social Security taxes, accelerated the implementation of the payroll tax hikes enacted in 1977, gradually raised the retirement age to 67, and delayed for six months the annual cost-of-living adjustment."

"a new supplemental federal retirement program for future federal employees that would make real investments and pay benefits based on returns."

"the Social Security reformers of 1983 . . . never considered investing the cash surpluses created by the reforms. We simply spent them on general government.

The actual annual Social Security cash surpluses grew from $2.7 billion in 1984 to a peak of $90 billion in 2001 and then fell to $3 billion in 2009 before turning negative. Had each annual cash surplus been invested—70% in the S&P 500 and 30% in investment-grade corporate bonds—the invested trust fund would have held $3.9 trillion of marketable assets by 2010."