In the United States, some of the nation’s most important social and economic programs are financed through dedicated revenue sources and are managed with supporting trust funds. Maintaining the solvency and sustainability of these programs requires the provision of adequate continuing revenue sources and trust fund reserves. However, according to the Congressional Budget Office (CBO), four of these major programs do not have adequate projected revenues and trust fund reserves to meet scheduled obligations. These four endangered trust funds are: Medicare Hospital Insurance Trust Fund; Social Security Old-Age and Survivors Insurance Trust Fund; Social Security Disability Insurance Trust Fund; and Highway Trust Fund. According to the CBO, each of these four trust funds will become fully depleted within the next eleven years unless remedial action is taken to strengthen revenue sources or otherwise maintain their projected solvency.
To address the projected insolvency of these trust funds, a bipartisan coalition under the leadership of Senator Romney of Utah has introduced proposed bicameral legislation with the title of TRUST Act, which would create a process to address the key structural issues involved in securing the solvency and sustainability of the four programs and their respective trust funds. Essentially, this process involves the appointment of a so-called “Rescue Committee” comprising twelve members for each of the endangered trust funds with a mandate to draft legislation that would extend the long-term solvency of the program. These committees will need to consider expert testimony and factual evidence as a part of this process. Consideration of the projected solvency and sustainability of the Medicare and Social Security programs will necessitate expert actuarial input that can be provided by the Office of the Actuary in the Centers for Medicare & Medicaid Services and the Office of the Chief Actuary of the Social Security Administration as well as the CBO.
Several previous issues of Commentary have focused on the issues of solvency and sustainability for the Old-Age, Survivors and Disability Insurance (OASDI) program. It is important to understand the nature and purpose of the two Social Security trust funds. These trust funds are merely stabilization reserves that are created by the process of financing legislated benefit obligations over a 75-year projection period by means of a payroll tax (referred to as Federal Insurance Contributions) that is a fixed percentage of the covered earnings of workers; currently this percentage is set at 6.20% and is payable by both workers and their employers. Because the cost of paying scheduled benefits plus administrative expenses, expressed as a percentage of covered payrolls, is projected to increase from year to year over the 75-year period, the payroll taxes exceed the cost of benefits in the early years, but are less than the cost of benefits in the later years of the 75-year period. Accordingly, the excess contributions received during the “surplus” years accumulate as a stabilization reserve sufficient to offset the expected shortfall in the subsequent “deficit” years. This design is intended to produce a declining trust fund that expires at the end of the 75-year period. A declining trust fund balance is not indicative of a “bankrupt” or unsustainable system; it is simply the expected experience due to the design of the financing mechanism. However, the trend in key economic and demographic factors has shortened the length of the period until the expiration of the trust funds. Projections were made in 1983 for a 75-year life for the OASDI trust fund stabilization reserves, but current updated projections indicate that a 50-year life from the original 1983 date is now more likely due mainly to trends in birth and death rates over recent decades. Also of importance to the “Rescue Committees” will be the consideration of the appropriate length of the projection period over which to aim to maintain solvency. There is merit in considering a 25-year projection period rather than the previous practice of considering 75 years as the appropriate standard; the degree of credibility declines as the length of the projection period increases and a 75-year projection period is unrealistic in the opinion of many experts. Most important of all will be to ensure that committee members are evaluating the appropriate metrics for the assessment of solvency and sustainability. A suitable metric for solvency is represented by the ratio of (a) the amount of the trust fund reserve plus the discounted actuarial value of future payroll tax revenues to (b) the discounted actuarial value of future scheduled benefit obligations and administrative expenses. It is relevant to note that according to the latest annual report of the Social Security Trustees, the value of the trust fund, although being close to its peak value, represents only a miniscule 5% of the actuarial value of projected benefit obligations, whereas future payroll tax revenues represent about 95%. The appropriate metric for sustainability is the required level percentage payroll tax that would be necessary to equalize (a) and (b) so as to produce a 100% solvency metric.
Ken Buffin, Editor