What is your Medicare/Social Security IQ? Well how many of these myths do you fall for? I will state the myths up front and then discuss each in detail later in the article.
1. Myth: The only reason Social Security is financially threatened is because the government has been siphoning off the "trust fund."
Reality: The size of an untouched "trust fund" would need to be more than tripled, an additional $6.6 trillion to be precise, to make social security solvent.
2. Myth: Social Security is the program that is the most in danger.
Reality: Medicare is a much bigger problem and on a faster track to bankruptcy than social security. The most recent Medicare entitlement, the Medicare Part D drug benefit, alone is actually more in the red than Social Security.
3. Myth: Most Medicare benefits are paid for by (1) Medicare taxes, (2) Medicare trust fund, and (3) monthly premiums paid by the elderly.
Reality: Most Medicare funding comes from the General Fund of the United States like most other government spending like Defense and Education. This is one of the reasons Myth 2 is a myth.
4. Myth: Social Security and Medicare are insurance programs which people pay into, entitling them to a future benefit when they retire.
Reality: Social Security and Medicare are structured as welfare benefits for the elderly. Do not yell at me for saying this; I am talking facts, not opinion. Government bureaucrats have lied to people for years when the law and accounting say something else.
5. Myth: If we fully funded what the government says we owe on these entitlements today, then the programs would be solvent.
Reality: The government systemically underestimates the problem every year. In fact if we fully funded social security in 2010, the amount of money that would have had to be added on top of this in fiscal 2011 would need to have been $3 trillion, over double the actual budget deficit as recognized by the Treasury. This is because they have to adjust their lowball assumptions upwards nearly every year.
6. Myth: Social security can be saved by transitioning younger workers to a "savings account" model.
Reality: The closed group liability is even greater than the open group liability. There is no way to save Social Security and Medicare because the $40+ trillion in additional assets to ensure current recipients get paid just does not exist. Period. While a savings account model makes more sense (Republicans are right on that point), someone inevitably has to get screwed as with any persisting ponzi scheme (Democrats recognize this fact).
7. Myth: These issues can be solved by Ben Bernanke and the Federal Reserve "printing money" to cover the obligations.
Reality: The liabilities are real obligations, not nominal obligations, so such is impossible.
The rational conclusion is that if the U.S. government intends to continue to pay these benefits, these programs alone will crash the government. So either (1) the government plans on bankruptcy based on its own numbers or (2) benefits to seniors are going to eventually be dramatically curtailed or just plain cut off.
These are not my numbers, as I will explain in a second, these are the government's numbers. They know the system is in trouble. If a politician tells you different then call their bluff -- ask them to support a bill to require Congress to fully fund Social Security and Medicare expected liabilities as if they were insurance plans. I guarantee you virtually no Senator or Representative will support such a bill when the Treasury officials testify about the impact of the bill, no matter how much they say they support the current Social Security and Medicare systems, because they know they could not physically come up with the necessary $30 trillion.
With this introduction, let me explain what these numbers mean. If one is a real trustee of a real pension plan, then there are accounting rules for dealing with pensions to distinguish a true pension program from a ponzi scheme that can never meet its obligations. An insurance plan is one where a variety of members pool premiums to invest in assets which at some future date they take in some benefit -- either on retirement, death, or unexpected event. The money put in from the whole group and returns on those assets have to always cover the expenses of the program. As a result an actuary has to forecast the amount of premiums coming in, the expected future return on investments, and compare that to the actual expected cost of the benefit. The amount of assets which the trustee currently has in its account should ideally balance the sum total of expected future deficits. If the assets are not enough to cover the expected future expenses (an underfunded plan), then the company running the plan is obligated under law to contribute assets at some point to make up the short fall. This is the way things work in the insurance world.
A ponzi scheme differs from an insurance plan in that there are two groups of people -- those who benefit and then those who suffer at the former's expense. A classical chain letter scheme is a great example. The first people in put up no money but get paid by those who come in the second tier. The third tier pays off the second tier, as so forth. Eventually the people who got in early got a lot of essentially free money, while those in the door last paid a lot of money and got nothing in return. A ponzi scheme is a simple wealth transfer, often based on time -- those in first reap the most benefits and those in last get totally screwed. Bernie Madoff's fund ended up being a ponzi scheme as the first investors to pull out got paid based on blatantly inaccurate asset values, essentially taking money from those who just put money in the fund who could never be paid back. From an accounting sense, a ponzi scheme is an insurance plan that is hopelessly underfunded -- enough assets do not exist to pay the future benefits required, i.e. a bunch of people are going to get screwed with a huge wealth transfer from those who put in the money last to those who got benefits.
1. Myth: The only reason Social Security is financially threatened is because the government has been siphoning off the "trust fund."
So let's look at Social Security and the first myth. Note that if the government borrows from the trust fund, the asset value of the trust fund does not change, only the cash level. Instead of holding $2.5 trillion in cash, the government holds $2.5 trillion in government bonds (as of 9/30/2011; see Fiscal 2011 Financial Report of the United States Government, page 92). From an accounting standpoint it is a wash, and this whole issue of the government borrowing from the trust fund is irrelevant -- those borrowings in fact still show up in the total bonds outstanding number of over $15 trillion. If one net's out Social Security's holdings, the national debt would be reduced by over $2 trillion. Perhaps the trustees could and should make a better return on its investment elsewhere, but that is another issue.
As of fiscal 2001 the Social Security generated $602.1 billion in revenue from taxes and benefits with expenses of $730.7 billion in benefits as the baby boomers start to retire, so the program is in the red by $128.6 billion. Interest income from the trust fund (which is paid by the U.S. government itself) made up $115.9 billion of the shortfall. This deficit is expected to get bigger and bigger every year.
Over the next 75 years the amount of money that the government would need as of 1/1/2011 to cover all expenses from future benefits is $50.8 trillion (see Fiscal 2011 Financial Report of the United States Government, page 46). That is the amount that if the government had in the bank today and earned interest on in the future, that would be sufficient. Offsetting this is the $41.6 trillion that the government expects to receive in current dollars (discounted back from the future receipts; total nominal revenue is much greater) in taxes and contributions. That means that the government needs another $9.2 trillion in assets to make up the shortfall to make sure that the taxes equals the future benefits. The Social Security trust fund should in other words have $9.2 trillion in assets to cover the future benefits. However that "trust fund" as of 1/1/2011 only had $2.6 trillion in assets (most in U.S. government bonds; see Fiscal 2011 Financial Report of the United States Government, page 131), leaving a $6.6 trillion in new money that would be necessary to fully fund the program. In other words, the "trust fund" is a joke compared to the full magnitude of the fiscal deficit in the program. The size of the fund would need to be virtually quadrupled in order to properly fund the expected benefits. So much for Myth 1.
2. Myth: Social Security is the program that is the most in danger.
However, Social Security is a cakewalk compared to Medicare. In fact Medicare's problems make Social Security look fiscally sound. There are three different Medicare Programs -- Part A which is the basic benefit associated with the payroll tax that most people think of when they think of Medicare, then supplemental insurance programs Part B and D. For all practical intents and purposes, trust funds for Medicare do not exist -- as of 1/1/2011 $272 billion for Medicare Part A, $71 billion for Medicare Part B, and a lowly $1 billion for Part D see Fiscal 2011 Financial Report of the United States Government, page 131. So in total we have $344 billion in Medicare "trust funds" compared to the $2.6 trillion in Social Security trust funds. Does anyone really think that $344 will cover the entire future benefits of Medicare?
Let's just look at the latest health care entitlement, the Medicare Part D prescription drug benefit, signed into law by "fiscally conservative" Republicans like Rick Santorum. The program is expected to cost $10.0 trillion in current dollars for future expected benefits over the next 75 years. Offsetting this is a mere $2.5 trillion in premium income, providing a total deficit in the program of $7.4 trillion (see Fiscal 2011 Financial Report of the United States Government, page 47), which is just barely short of the $9.2 trillion in net Social Security liabilities. When on takes into account that Medicare Part D has a measly $1 billion trust fund, it turns out that the net funding gap of Medicare Part D of $7.4 trillion is bigger than Social Security's $6.6 trillion. Social security is nearly a century old, and this new entitlement which is less than a decade old is more insolvent! Are you starting to get worried?
Medicare Part A has a deficit of only $3.3 trillion, or roughly $3.0 trillion net of the small trust fund (see Fiscal 2011 Financial Report of the United States Government, page 46). However, the big monster is Medicare Part B, which has an astounding $13.9 trillion shortfall. The total Medicare shortfall is thus $24.3 trillion net of its pathetic trust fund. The Medicare problem is thus four times bigger than Social Security's $6.6 trillion problem. Medicare will go belly up long before Social Security, so you can scratch Myth 2 off your list.
So if the trust funds and payroll taxes are not funding Medicare, then premiums must, right? I have heard over and over from seniors that they pay premiums and that is what funds the program. In fact, I saw a guy post the other day that Medicare is not an entitlement because he has to pay $100 a month for coverage. The issue is the premiums do not come nearly close enough to covering the expense of the programs, the premiums are systemically underpriced and subsidized by the taxpayers out of the general fund.
For example, in fiscal 2011 for the supplemental plans B and D which are not subsidized by taxes, the programs took in $64.5 billion in premium revenue (note there were also an additional $8.4 billion in taxes and fees supporting the program for total revenues of $72.9 billion; see Fiscal 2011 Financial Report of the United States Government, page 163). However, the benefits paid out for fiscal 2011 were $300.4 billion, roughly five times the premiums paid!
Thus the annual deficit in these programs is $227.5 billion, which explains why you have over a $20 trillion total shortfall in these programs alone. This deficit was largely funded through a $225.2 billion transfer from the General Fund, i.e. normal tax revenue. There is a word for that - welfare. You can debate whether the government should be involved in welfare for the elderly or not, but it is definitely not insurance -- there is little to no support from Medicare taxes, Medicare premiums, or a meaningful trust fund. These programs are the government dole without any form of paying into it.
Lest you do not believe me in debunking myth 3, take it from the government itself:
"The Medicare SMI Trust Fund is shown separately from the two Social Security trust funds (OASI and DI) and the Medicare HI Trust Fund to highlight the unique financing of SMI. SMI is currently only one of the programs that is funded through transfers from the General Fund of the Treasury, which is part of the other Government accounts (the Part D account also receives transfers from the States). The transfers finance roughly three-fourths of SMI Program expenses. The transfers are automatic; their size depends on how much the program requires, not on how much revenue comes into the Treasury. If General Fund revenues become insufficient to cover both the mandated transfer to SMI and expenditures on other general Government programs, Treasury would have to borrow to make up the difference. In the longer run, if transfers to SMI increase beyond growth in general revenues as shown below, they are projected to increase significantly in coming years—then Congress must either raise taxes, cut other Government spending, reduce SMI benefits, or borrow even more." (see Fiscal 2011 Financial Report of the United States Government, page 161)
4. Myth: Social Security and Medicare are insurance programs which people pay into, entitling them to a future benefit when they retire.
Now I know myth 4 is going to be the most controversial. Indeed I think given the prior paragraphs, I believe I have already proven that at minimum Medicare Parts B and D are not insurance, and are government welfare to the elderly. No one paid taxes into a Medicare supplement system, and the premiums do not come close to covering the cost of the benefits. These are direct transfer payments, wealth redistribution, from the General Fund. However, let's talk about how the situation with the pseudo-insurance programs of Social Security are no different.
First of all I want to note a not-too-obvious fact: since the United States government carries the aforementioned $30+ trillion in liabilities off its balance sheet, there is no insurance relationship. The Social Security disclosures of long term liability are only footnotes in the government's financial statement. Contrast this to the actual government employee pension programs which are included in the closest thing the government reports as a GAAP (generally accepted accounting principles) number "net operating cost"(the reported unified deficit number reported to the press is not GAAP) includes adjustments for "increase in liabilities for civilian employee benefits" (page 43) as well as similar items for military and veteran's benefits. These are the government pension programs where the government is required to fully fund them and when their estimates on the future liability change, they are required to record the difference in the "net operating cost," or GAAP budget deficit. If the government entitlements of Social Security and Medicare were really insurance programs, the government would be required to have a line for these items, and the amount in fiscal 2011 would have added $3 trillion to the $1.3 trillion deficit! Moreover, as mentioned earlier, if the government had to fully fund these programs the debt would not be $15 trillion, it would be over $45 trillion!
The reason the government is able to get away with this is that they classify Social Security and Medicare as a welfare program, not a guaranteed benefit protected by ERISA. In the annual financial report in the footnotes it states, "Scheduled benefits are projected based on the benefit formulas under current law. However, current Social Security and Medicare law provides for full benefit payments only to the extent that there are sufficient balances in the trust funds." (pg 130) This is the statement that allows the accountants to get away with whitewashing the fact that actuarily it knows these benefits can never be paid.
A little known fact about Social Security is that the only reason it was declared constitutional was because it was not an insurance program. The Railroad Retirement Act of 1934 was struck down as unconstitutional by the Supreme Court (when the court was still honest, before FDR threatened court packing in 1937, making subsequent decisions suspect) precisely because of the insurance component to the law. In Helvering v. Davis 310 U.S. 619 which was one of the Supreme Court decisions declaring Social Security constitution produced as part of the rationale that "The income tax on employees is to be collected by the employer, who is to deduct the amount from the wages "as and when paid." ' 80a(a). He is indemnified against claims and demands of any person by reason of such payment. Ibid. The proceeds of both taxes are to be paid into the Treasury like internal revenue taxes generally, and are not earmarked in any way. '"
Instead of contributions, these are taxes, and instead of insurance contracts these funds a not earmarked as the welfare benefit is completely separate from the tax.
More simply stated, social security is a bill with two separate components (1) an income tax which is paid into the Treasury and (2) a welfare benefit which is paid out of the Treasury. The trust fund is an accounting gimmick to segregate money to keep track of potential future obligations, but the tax and welfare benefit are two separate things.
Do you question whether the "tax" is really a "contribution" despite what the Supreme Court says? Well, contributions are optional, taxes are mandatory, correct? Is this "contribution" in any way shape or form different from an income tax? No, it is a tax to help offset the cost of a new welfare benefit.
More importantly, is there any doubt that the benefits from Social Security are welfare benefits? Can someone receive benefits that never put any money into the system? Yes, such as workers who retired when the law was first passed and never paid a dime into the system. If the answer to the previous question is yes, then it is a conditional government transfer payment, not a benefit from a contribution.
Moreover, the government's own statement that it can arbitrarily take away the benefit at any time in the future tells you it is a welfare benefit. It is not guaranteed. Contributions into an ERISA type retirement plan are guaranteed by contract law. Welfare benefits exist at the pleasure of Congress and can be taken away or means tested at any moment. Again, that is the reason the government does not have to carry the impact on the balance sheet.
I know some people might not like to hear this, but they are the facts. Politicians have basically lied about the system for decades. If they had been honest they would have set it up as a fully-funded pension system, but they did not. If they did the latter based on the current system which has functioned like a ponzi scheme (transfer scheme from one generation to the next) since the beginning, then the government would go bankrupt.
5. Myth: If we fully funded what the government says we owe on these entitlements today, then the programs would be solvent.
So what if the plans were fully funded? Never mind the fact that we cannot do it now because the ponzi schemes are so far in debt, what if? The problem is that government comes up with the numbers I just gave you. They are low ball numbers. For example, one budget trick Congress has to make it look like they are cutting the deficit in a 10-year plan (note they never focus on the current year--reductions are always in the future) is to reduce Medicare spending for the next 9 years, to make it look like they are cutting money. However when providers and health care workers go up in arms talking about how it is below cost, they do "provider updates" every year to stealthily raise rates each year so the so-called savings never come to pass. The problem is that the false numbers dramatically understate the future Medicare liability.
A great example of this was Obama's fiscal 2010 report. With the passage of Obamacare he cut already rock bottom Medicare payment rates even lower (wondering why your physician will not take new Medicare patients?) expecting a reduction of 1.1% per year (see Fiscal 2010 Report, page 160) and raising taxes on high cost plans and people making over $250,000 a year. However, according to the Medicare trustee's report "actual future costs for Medicare are likely to exceed those shown by the current-law projections' that underlie both the Trustees Report and this Financial Report. This warning is primarily due to the fact that productivity growth in the provisions of Medicare services have in the past been much smaller than productivity growth in the overall economy, which suggests that the new productivity-based downward adjustments to Medicare payment rates may not be sustainable. This concern is reinforced by the fact that similar adjustments to payment rates for Medicare physicians’ services mandated by a 1996 Medicare reform have been consistently overridden by new law." (see Fiscal 2010 Report, page 160) The trustees know the Congressional game and essentially called the administration out on it, citing the failure of the 1996 Medicare cuts to be implemented, as I alluded to earlier.
As a result of the government cooking the books on future budget cuts which will never appear, the figures I quoted earlier are a best case scenario, and numbers used prior to the passage of Obamacare are probably much more realistic. Highlighting this fact is the $3 trillion increase in these obligations just from fiscal 2010 to fiscal 2011 as real world experience contradicts the administration's fuzzy math. Again, if this was a fully funded pension plan as opposed to a ponzi scheme that the government knows will collapse, the federal debt issuance in fiscal 2011 would have had to have tripled just to fund the newly revised estimates based on real world experience! So down with Myth 5 as the government numbers, as bad as they are, are probably too rosy.
6. Myth: Social security can be saved by transitioning younger workers to a "savings account" model.
Then there is the Republican suggestion of letting younger workers opt out of Social Security and put money in a savings account. I am in favor of eliminating the social security income tax because (1) I know I will never receive social security and (2) taxes are too high already, in my opinion. Indeed if money were invested other than in low yield (especially with Benron Bernanke as Fed chairman) Treasuries, the assets would grow at a greater rates in a normal economy. However, with interest rates at close to zero, nearly every investment class from bonds to equities is systemically overvalued right now and prone to crash when interest rates move up. Moreover I do not believe that anyone should be forced by the government to invest in a retirement. Those are side issues.
The problem is that even if one could shift payroll taxes into private savings account, that is not a solution for Social Security. Democrats are actually right on this, giving younger people there own dedicated funds would siphon money from the Social Security Trust Fund which is already insolvent. Not surprisingly, most of that is due to older workers. For those that are eligible for social security now the deficit is $7.4 trillion, for those between 15 and 62 the deficit is a greater $12.3 trillion. The offsetting surplus is from people below the age of 15 and yet to be born since fewer of them will retire in the next 75 years - a $27.2 trillion surplus. The point being is that it is the younger people, the ridiculously young and yet to be born people, who basically fund the system, actuarily speaking. It literally is a ponzi-style transfer system, if you take younger people out the system looks even more underfunded for current recipients. It is only the younger workers who will get the benefit of potentially higher returns on investment; however, with the huge funding gap on the upper end, the older investors are the one's who need it even more.
However, the biggest problem is not even the small return on $2.6 trillion in trust fund assets. It is the complete lack of return on the $6.6 trillion in money needed in the trust fund, let alone the money itself! Certainly if the return assumptions on the $2.6 trillion could be appreciably increased, that would lower the $6.6 trillion. But in an environment when interest rates are 0%, if anything real returns over the next few decades are going to go down across all asset classes once interest rates inevitably go up. [Note: When interest rates go up, the total value of bonds go down, something most retail investors do not appreciate.]
7. Myth: These issues can be solved by Ben Bernanke and the Federal Reserve "printing money" to cover the obligations.
This brings us to the final myth, myth 7 - that Benron Bernanke can print money out of thin air to solve the problem. This apparently seems to be the conventional wisdom of our politicians. Actually you can print away a debt problem. The United States could print $15 trillion tomorrow and eliminate the debt, a nominal obligation, overnight. Obviously one destroys the currency through inflation if one doubles the money supply over night to accomplish such a feat, but that can be done. However, you cannot print $30 trillion to eliminate an unfunded future obligation on entitlements. The reason is entitlements are not a nominal obligation, they are a real obligation, changing dynamically with inflation. If one printed $30 trillion, and say the current declined in value by 67%. That represents prices going up by a factor of three in hyperinflation. The problem is those 75 years of social security payments are actually indexed to inflation, so those have to go up by a factor of 3 as well. Medical costs would triple as well. The actual unfunded liability of $30 trillion might actually more than triple since one has to deal with not only current year's inflation, but the expectation of 75 years of future unabated inflation as the government prints money.
You cannot print your way out of real obligations, and since these obligations are multiples of our GDP, it is unlikely one would be able to tax one's way out of them as well (especially given the Laffer Curve -- at a certain point higher marginal tax rates decrease total tax revenues due to disincentives to working -- something one should explain to someone like Obama who has never worked a day in the private sector in his life). The only way to get out of them is to cut or eliminate the benefits. The is the true reality that we need to confront.
Beware of anyone who has any "quick fixes" to the program. I would suggest that the best way of dealing with entitlements is to incrementally eliminate them (means testing, raising retirement age, eliminating it for workers below a certain age) to nothing in a way that causes the least amount of pain for the elderly while avoiding a hyperinflationary default, if that is even possible now. If one does not transition away from the problem, but lets it go, the seniors are going to be worse off because the resulting bond market collapse would destroy their pensions in addition to their government entitlement benefits. I know this is not something pleasant to say, but the math does not lie. One can only live in cognitive dissonance for so long.
