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Sunday, April 15, 2007

Floods, Fiscal And Physical

I woke up and couldn't get back to sleep, so I got up and checked the flood warnings. The river and several local creeks are flooding now. It looks like it's getting worse - and the rain just started pouring down again. I'm on high ground, but close to the river. I went out and looked, and it's already up over the lower banks. Worse yet, it's still raining heavily upstream. We've already gotten about 4 inches locally.

As for fiscal floods, a discussion on Social Security broke out again on this post at Calculated Risk. I was somewhat surprised that anyone still believes in the trust fund's reality. It's true that there is a legally existent trust fund which has signed pieces of paper in it representing the excess Social Security taxes paid in by workers all these years. The problem is that the pieces of paper don't represent any solid asset. They are simply promises made by the American taxpayer, who already paid these taxes, to pay them yet again to the retirees.

It's not that one president or another spent the funds. I'm sure they'd like to, but presidents don't get to spend money unless Congress authorizes it. Congress has the Constitutional responsibility for spending, and it exercises that responsibility with great enthusiasm. The current plan started in 1983, and it was designed to work this way. Naturally enough, because Congress came up with this plan in a fully bipartisan agreement. Congress under any party management has a spending problem somewhat akin to Casey Serin's. Congress also seems to have a Serin-like inability to distinguish between money obtained by borrowing and actual income.

Those who think those "special" treasury bonds mean anything should ask themselves this question:
"What would change in Social Security funding if Congress passed a law tomorrow declaring those bonds unpayable?"

The answer, honest to God, is "nothing".

The way the current system is designed to work is this:
When current receipts aren't enough to pay benefits, the Social Security Administration will trot over to the General Fund, give it a piece of paper, and get money to send checks out to retirees that month. And if those bonds were eliminated, that's exactly what would happen anyway! Now Social Security taxes are being spent to keep income taxes low, and somewhere around 2016/2017, income taxes will be raised to pay Social Security benefits on top of everything they now pay. The Trust Fund is utterly irrelevant to the entire issue because it doesn't affect cash flow at all.

Medicare is already running a deficit, and this is how it is being funded. FDIC's economists figured that we hit the wall in 2013.

So the real issue is not those fictional bonds in the surreal trust fund. The real issue is whether the American taxpayer will be able to pay for all its current programs as well as Social Security and Medicare without paying double or triple the percentage in income taxes the American taxpayer is paying now. Because that is not going to happen. Forget all this jibber-jabber about moral issues. That is not going to mean a thing to the man earning the equivalent of $28,000 today in 2023 when he is asked to pay much more of that money so that some 67 year old with several millions of assets can get his or her scheduled Social Security benefits.

The 2007 Trustees' report has not been issued yet, but the 2006 report (gives status at end of 2005) addressed that issue (this chart is from the Summary):

If you look at this chart carefully, you can see that when we were running budget surpluses in the late 1990s, it was because there was a temporary dip in the GDP percentage for both of these programs (due to demographics/bubble), so we spent less proportionally on them. It didn't really have anything to do with Congress cutting spending. In 2000, we spent less than 6.5% of GDP on these programs. By 2025, we will be spending over 11% of projected GDP on them. By 2030, we will be spending close to 12.4% of GDP on them.

So the tax burden on that $28,000 a year worker (in 2007 dollars) would have to more than double to keep paying scheduled Social Security and Medicare benefits, and that would be a moral problem in and of itself.

This is what the overall tax rates for Social Security (OASDI) and Medicare(HI)look like. This chart shows income and receipts as percentages of taxable payroll. Keep in mind that right now the bottom 30% pays very little in net income taxes, but is heavily tax-burdened unless getting EIC when you take into account sales tax, SS & Medicare taxes:

What will happen is that higher income retirees will not get the benefits. You can't tax a 25 year old so heavily that he has to go to the food bank to eat in order to pay an older person to eat at good restaurants. It's not whether we care about old people - it's whether we care about old AND young people.

Those charts above mean that in 2005, the total cost for SS & Medicare was about 14% of taxable payroll. In order to keep from borrowing more money each year, by 2020 we would have to pay an additional 4% of taxable payroll, or 18% in total. By 2025, it would be 20% of taxable payroll. By 2030 (less than 15 years) the expected burden is about 24% of taxable payroll. These estimates could easily be off by several percent, but the reality is still unworkable.

You think today's deficit is bad? To keep from running higher deficits, we would have to raise income or SS/Medicare taxes. Remember, these amounts are JUST for these two programs. The total burden for other entitlement benefits and general government expenses, such as payroll, will be at least double that. So does anyone really believe that in 2030 the average tax on payroll (income and others) will be at 40-50%? Remember, that's average. To keep the same distribution as now, the top people would have to be paying about 90%. (My guess is that they would simply move to Canada or stop working.)

At the current time, about 60% of the federal budget goes to pay entitlement benefits of various kinds plus interest on the deficit. See this page with graphs of components from a few years back. This doesn't leave us room for large increases. This is a huge reversal; in the 1960's, only about 20% did. We are heading for the 80% mark rapidly, and that will not be sustainable.

And furthermore, Nancy Pelosi really is dumb as a rock financially. Everyone, left or right, who has looked at the situation honestly knows that we are not going to keep paying scheduled Social Security benefits to people with high assets and/or income. The idea that making all wages subject to Social Security will cure the problem is disproved by the above graph. You can see that the vast majority of earned wages already pays the tax (half employee, half employer, total 15.30%)

Another way to understand the scope of the unsustainability is by considering the cost of these two entitlement programs as a percentage of GDP. Currently, the federal government costs about 20% of GDP. Of that, in 2005 about 6.7% was spent on these two programs alone, not counting other entitlements. By 2025, the percentage of GDP spent on Social Security & Medicare is projected to be approximately 11.5%, and by 2030 it is projected to be around 12.6%:

Now think about what that means. If 12.6% of GDP is spent on these two programs by 2030, either the percentage of GDP the federal government gets would have to increase by a corresponding 6% to a total of 26%, or all other programs would have to be cut by 6%. People who think we can make up the difference by cutting funding for the armed forces are living in la-la land, because we have already done that:

We'd have to cut funding on other social programs, or raise taxes dramatically. The problem is that when you raise taxes you also cut spending, so you have to raise tax percentages more than the percentage you hope to gain. The problem will come to a head within the coming decade (This is from the Congressional Budget Office.)

PS: The reason the taxable payroll line in one of the charts above is mostly flat is because of demographics. At the same time that retirees are growing, the working population is projected to be almost stable. This is why we are letting so many people in - we are hoping the population will increase enough to make taxable payroll grow. The problem is that illegal immigrants working for very low wages are a net negative rather than a positive for the budget.

Hello Maxed

I think you are caught in what is presently called a frame. I am far too personally lazy to try to proove this with statistics but perhapse with vigorous "hand waving" I can illuminate.

You appear to reason from several very doubtful assumptions. These appear to include a rather flat tax structure, over valuation of management skills, continued dominance of the medical industry by the insurance business, an immortal population and continuing nonrecognition of the inflated condition of the US dollar. All of these things can be corrected without changing the disposable income of median wage earner.
Good luck, we all need it.
some 67 year old with several millions of assets can get his or her scheduled Social Security benefits

What's that about? And the crack about eating at good restaurants.

You have an agenda. So does the medical-industrial complex. So do all the tax loonies. Run for Congress.
Along similar lines as Henry’s comment (including trepidation about not knowing the statistics), it seems that some variables are held constant that in fact may change and affect the conclusions. For example, you say that the defense budget has already been cut; yet, journalist accounts suggest that the wars in Iraq and Afghanistan are rapidly heading towards one trillion dollars with no end insight. Five years ago that wasn’t in the budget. And the Sec. of Defense is now in the process of increasing the size of the Army. Also, all the very large amount of equipment destroyed in Iraq (tanks, Humvees, etc will have to be replaced). So where is the real cut vs. the budget paper cut? It seems to me that a trillion dollars buys a lot of medicine even at today’s pharmaceutical oligopoly ‘what the traffic will bear’ prices.

Also, and you may have accounted for this in your presentation (I’m economically challenged) what about the possibility of GDP growing at a higher rate than expected. Also what would be the significance of a dramatic increase in savings rates?

I’m not disagreeing with your analysis – just wondering.
Anon - I really don't have an agenda, other than generalized worry about the situation the next generation will inherit. FWIW, I am one of those with a high net worth who won't be getting benefits, even if I live that long, which is doubtful!

The statistics given here are not mine. They come from various government organizations, and they certainly don't asssume immortality for retirees. The full Social Security report for 2006 will be out in May. It will include updated high, medium and low statistics.

You must understand that all organizations, whether bipartisan (Concord Coalition), left and right are predicting the same problem. While we can be less certain about the situation in 2040, we can be relatively accurate about the situation in 2020 and 2025, because just about everyone except immigrants who will be working then are alive today. The major uncertainty arises from GDP growth projections, but no one, absolutely no one, believes that high growth policies alone can dig us out.

Argue with facts, but don't expect anyone to take you seriously if you simply want to dismiss organizations like the UCLA Berkeley, the Congressional Budget Office, the Social Security Administration, etc as being liars. You are (probably unknowingly), advancing a conspiracy theory of epic proportions.
PS: I don't like the facts either. The projections don't seem to be getting better. In the last report the SSA moved their projection for negative SS tax flow down one year.

It seems to me that since 1983 we have substituted a highly regressive tax (Soc Sec & Medicare) for income taxes. We will not be able to hike taxes on the lower income people. They are already taxed to their limit. 15.65% in payroll taxes plus sales tax and state taxes are running adults without dependents who earn in the higher 20s around 28% in effective tax rate.

This isn't good public policy either!! Does anyone really believe that our declining savings rate doesn't have something to do with these very high effective tax rates on moderate to low income earners?
Average Joe - the trillion dollar figure for the Iraq war is accumulative retroactively and for the next year, I believe. It's not a factor in 2020. I was surprised when I ran into these figures late last year, and I spent some time checking them. They did bear out.
What will happen is that higher income retirees will not get the benefits. You can't tax a 25 year old so heavily that he has to go to the food bank to eat in order to pay an older person to eat at good restaurants.

Think again, M-o-M. Retirees have one of the highest voter turnouts, and they vote as a bloc when they're personally benefiting.

Since I turned 50, I've been getting heavy junk mail from AARP recruitment. They're Johnny-one-note on "YOU *EARNED* ALL YOUR SOCIAL SECURITY BENEFITS! DON'T LET THOSE GREEDY GEN-Xers TAKE *YOUR* SOCIAL SECURITY AWAY FROM YOU!!!"

It's like how my parents deteriorated in retirement. Within six years, they'd become a chorus of "I'M ENTITLED! I'M ENTITLED! YOU GOTTA GIMME! YOU GOTTA GIMME! YOU GOTTA GIMME!" (Then the bitterness REALLY took hold.)

All I can see is that attitude locking in and getting worse. And retirees have one of the highest voter turnouts of any group.

The Headless Unicorn Guy
I'd be curious to hear what you have to say about my idea for cutting government spending. I made a presentation of it and put it on YouTube.

It's hardly an intellectual plan, but just common sense.

Concerning the wars in the middle east - a hundred billion dollars extra a year is only about 1% of GDP. Nothing earth-shattering. The DoD is trying to cut programs all over to pay for it as well.

The press does a good job of scaring people with aboslute dollar figures with lots of zeros. What is really important is the relation to GDP.
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