For years, Social Security has been known as the ‘third rail’ of American politics: any legislator that touches it risks ending his political life. President Franklin D. Roosevelt designed it this way. Workers pay into the Social Security program via payroll taxes and, in return, expect the program to provide for them when they retire or if they become disabled.
As a result, voters are usually very wary of any changes to the Social Security program. This has protected Social Security from lawmakers who might have wanted to scuttle the program, but it has also made it difficult to reform. Unfortunately, Social Security’s current budgetary trajectory is unsustainable. If lawmakers want to preserve the Social Security program, they should act now to bolster its financial health.
This blog post will examine the Social Security program in three graphs. It will briefly discuss the program’s history, describe the program’s funding structure, and then examine the program’s financial health. Finally, this post will conclude that, given that Social Security’s costs will likely rise faster than its revenue for the foreseeable future, legislators must raise revenue, pare back benefits, or employ some combination of the two in order to meet its obligations to elderly and disabled Americans.
The first graph depicts how the number of workers covered by Social Security, and therefore the number of workers paying into the program, has changed from year to year. As you can see, Social Security grew rapidly in its early years, mainly due to Congress expanding the types of workers that the program covers.
When President Franklin D. Roosevelt signed the Social Security Act in 1935, it only covered commerce and industry workers under the age of 65. Congress and President Roosevelt marginally expanded coverage four years later by eliminating the age limit and adding covered workers’ families to the program, but it was not until the 1950s that the federal government began to expand the program in earnest. Presidents Harry S. Truman (in 1950) and Dwight D. Eisenhower (in 1954 and 1956) extended Social Security coverage to agricultural workers, the military and other uniformed services, and to certain state and local government officials (as long as the government in question opted into the program).
Also, in 1956, Eisenhower established Social Security Disability Insurance, which expanded the scope of the Social Security program to include providing benefits to disabled covered workers. Two years later, he extended these benefits to disabled workers’ dependents, as well.
You can see these large expansions clearly in this first graph. Subsequent presidents extended Social Security to other workers, such as to federal and non-profit employees, but the number of active workers paying into Social Security has, on average, grown at a slower rate since the 1950s. This is significant, as the number of workers paying into Social Security at any given time greatly affects the program’s financial viability.
To understand why, we’ll take a look at how the government funds Social Security. It does so in two main ways, through:
- Tax revenue (roughly 88 percent of current Social Security receipts); and
- Interest income (roughly 12 percent of current Social Security receipts).
Workers and employers pay the majority of these taxes (96 percent) through payroll taxes. The remaining 4 percent of tax revenue comes from income taxes levied on retirees’ Social Security benefits. Any tax revenue that comes in above what the government needs to pay out to Social Security beneficiaries gets put into the ‘Social Security Trust Fund.’ The government uses this excess ‘Trust Fund’ revenue to buy special U.S. Treasury Bonds from itself and to accrue interest as a second source of revenue for the Social Security program. Additionally, the government can redeem these special bonds at any time, if the Social Security program needs more revenue.
For now, though, we’ll focus on tax revenues. Consider the fact that around 85 percent of Social Security’s total annual revenue comes from payroll taxes that covered workers and their employers pay. This makes Social Security’s finances sensitive to the number of covered workers in the system at any given time. More covered workers means more people paying into the system; less covered workers means fewer people paying in.
This is not necessarily a problem, as long as the money that covered workers and their employers pay into the system still covers retirees’ benefits, as it has for most of Social Security’s existence. However, consider what might happen if the number of retirees grows faster than the number of workers helping pay for their benefits. In this case, Social Security will end up taking in less money than it needs cover their costs because there will not be enough workers to support the number of retirees drawing down Social Security benefits.
The second graph, which shows year-over-year percentage change in the number of covered workers and beneficiaries, illustrates this exact scenario.
As we can see, the number of covered workers grew robustly from the 1960s through the 1980s, as the ‘baby boom’ generation started entering the workforce. For much of this period, the numbers of workers and beneficiaries grew at roughly similar rates; at some points, the number of workers grew faster, at other points the number of beneficiaries did.
However, starting in the late 2000s, we see the growth rate of workers and beneficiaries diverge. The growth rate of beneficiaries rises and stays consistently higher than that of covered workers as the baby boom generation retires and the much smaller succeeding generations take their place in the workforce.
Another common way to understand this demographic shift is by thinking about the worker-to-beneficiary ratio. This measures how many covered workers there are in the Social Security system for each single beneficiary, and it can give us a rough idea of how many covered workers contribute to the costs of one beneficiary. Since the 1960s, this ratio has equaled three or four covered workers to for each individual Social Security beneficiary. Within a decade, this ratio is projected to decrease to two workers for every one beneficiary. With the growth of the retiree population outpacing that of the covered workers, Social Security’s financial health with continue to suffer.
The second graph also demonstrates the effect the economy has on Social Security’s financial health. As discussed, payroll taxes constitute the vast majority of Social Security funding. The more workers employed, the more payroll tax Social Security takes in; the higher workers’ wages, the higher Social Security’s revenue. During recessions, however, a fall in business activity can cause employers to lay off workers and withhold raises. When this happens, Social Security’s payroll tax revenue drops — although, unless Congress legislates otherwise, its payouts to beneficiaries remains constant.
The graph illustrates the relationship between Social Security receipts and the economy by showing that the number of covered workers slows or even shrinks (that is, the percentage change becomes negatives) when the economy enters a recession. At the same time, the number of beneficiaries often continues to rise (or even begins to rise at a faster rate). A slow economy and a difficult job market can push unemployed workers who may have otherwise stayed in the labor force for another few years into early retirements. When faced with slim job prospects, they retire and draw upon their Social Security benefits for income. The longer an economy remains sluggish, the stronger one would expect this effect to be.
If a worker is too young to retire, unemployment and slow economic growth can push her or him onto the Social Security Disability Insurance (SSDI) rolls, as well. Congress created SSDI to provide assistance to disabled workers, but tough economic times (and loosened SSDI eligibility criteria) can encourage healthy workers to apply after they have exhausted their unemployment benefits and become discouraged about their prospects of finding a job. A slow economy can also encourage injured workers who otherwise might have found a job that accommodated their medical needs to join the SSDI rolls too. This further increases the number of Social Security beneficiaries and decreases the number of covered workers.
Both demographic and economic forces collided during the Great Recession. The recession began in 2007 and turned into a full-blown financial crisis in 2008. The subsequent recovery has been especially sluggish. The second graph shows a large loss of covered workers during this period. It also shows that the number of beneficiaries grew faster than at any other time since the 1970s, in part because workers retired early and applied for disability. The year 2008 did not just feature the financial crisis, it also marked the first year baby boomers could seek early retirement — and faced with a dim economic outlook, many did just that.
This situation — slower growth in tax revenues and faster growth in benefit payouts — has begun to threaten Social Security’s financial health, as we can see in the third graph.
Since 2010, Social Security has cost the government more than it takes in through tax revenues, forcing the government to rely on both tax revenues and interest income. Although interest income has helped cover the total program cost as tax revenues have dipped below required payouts, using interest income to cover the difference can only be, at best, a short-term solution to the long-term financial sustainability of the program.
If the government continues to operate Social Security in a way that ensures tax revenues are lower than the program’s costs, its corresponding interest income (which is generated from interest on U.S. Treasury bonds — which, in turn, comes from other taxes that the government levies) will continue to dwindle. With the current revenue structure unable to support the program’s costs, the government will be forced to cover the shortfall by cashing in the U.S. Treasury bonds it holds in the Social Security Trust Fund. Eventually, if revenues do not rebound, both the Trust Fund and the interest income it generates will run out and the government will be unable to cover all of its Social Security liabilities through annual program revenues alone.
As it stands, the Social Security Trustees Report projects that without significant changes, the Social Security Trust Fund could run out by 2033.
This government has faced this situation before: the last time Social Security tax revenues fell below program costs was in 1983. In response, President Ronald Reagan and the Congress shored up Social Security’s finances by increasing the payroll tax rate, increasing the retirement age, and bringing more workers into the Social Security system, among other things.
As the third graph shows, Social Security’s financial trends were heading in the wrong direction in the early 1980s. The 1983 Social Security reform boosted the program’s revenue, which allowed it to both cover its annual expenses and bulk up the Social Security Trust Fund. However, the late 2000s saw the Social Security program’s revenue fall, for reasons discussed earlier (the Great Recession and demographic shifts). Revenues have already begun to recover and grow again, but so have the program’s expenses. Social Security’s costs seem likely to continually outpace its revenues going forward, as the number of beneficiaries receiving payouts grows quicker than the number of covered workers paying into the system.
Unless the government acts to restore Social Security’s financial stability (or the economic and demographic situation improve drastically), the government may be unable to fully meet its Social Security obligations in the coming decades. The Social Security Trustees Report estimates that, over the long term, Social Security’s shortfall will be about 4 percent of future taxable payrolls, or 1.4 percent of GDP. Congress and the president will have to decide whether they want to cover this shortfall by raising taxes, cutting benefits, or employing some combination of the two. They will also have to decide whether they want to act now to shore up the program or continue to let its finances deteriorate.
President Roosevelt considered Social Security the crown jewel of his New Deal agenda and he expected it to become a lasting American institution. To that end, he recognized the important role payroll taxes play in sustaining the program, both financially and politically. By requiring workers to pay part of their paycheck into Social Security in return for promised future pension benefits, Roosevelt ensured the program’s survival. Workers would now expect that, after paying into Social Security for years, they would receive their pensions when they retired.
As Roosevelt said, “with those taxes in there, no damn politician can ever scrap my Social Security program.” The president shrewdly designed the Social Security program in a way that blocked future politicians from ending it through the legislative process — but not, it seems, from ending the program by doing absolutely nothing at all.
 In 2011 and 2012, the federal government attempted to stimulate the economy through, among other things, a ‘payroll tax holiday‘ that temporarily cut the payroll tax rate workers pay by 2 percentage points (from 6.2 percent to 4.2 percent). In order to cover this temporary cut, Congress reimbursed the Social Security program through the general fund. After several extensions, the payroll tax holiday expired at the end of 2012.
 The ‘baby boom’ describes the high birth rate that the U.S. experienced in the immediate post-World War II period. Many Americans returned home from the warfront and began to start large families. The resulting rise in the U.S. birth rate can be seen in the graph below.
 Total bond holdings in the Social Security Trust Fund started to decrease in the 1970s and 1980s, when the program’s costs were greater than its tax revenues. The Trust Fund then rebounded after President Reagan and Congress reformed the Social Security program and raised its income in 1983. Today, Social Security faces a similar situation: Social Security’s tax revenues have fallen below its costs. Unless this situation changes, the Trust Fund may run out by 2033, as seen in the graph below.
“2013 OASDI Trustees Report,” Social Security Administration, 2013.
Scott, Christine. “Social Security: What Would Happen If the Trust Funds Ran Out?” Congressional Research Service, 21 October 2013.
Nuschler, Dawn & Sidor, Gary. “Social Security: The Trust Fund.” Congressional Research Service, 4 June 2013.
Nuschler, Dawn. “Social Security Primer.” Congressional Research Service, 17 June 2013.
“Report of the National Commission on Social Security Reform (Greenspan Commission).” Social Security Administration, January 1983.
“The 2013 Long-Term Budget Outlook.” Congressional Budget Office, September 2013.
Meyerson, Noah & Dacey, Sheila. “How Does Social Security Work?” Congressional Budget Office, 19 September 2013.
Meyerson, Noah & Topoleski, Julie. “Medicare and Social Security Payroll Taxes and Benefits for People in Different Birth Cohorts.” Congressional Budget Office, 20 September 2013.
Morton, William R. “Social Security Disability Insurance (SSDI) Reform: An Overview of Proposals to Reduce the Growth in SSDI Rolls.” 29 April 2013.
Social Security Issue Briefs, U.S. Department of the Treasury.
“The Social Security Act of 1935.” Social Security Administration.
Kollmann, Geoffrey. ”Social Security: Summary of Major Changes in the Cash Benefits Program.” Congressional Research Service, 18 May 2000.