Social Security: Congress is Playing Chicken with a Train
Advisor Perspectives welcomes guest contributions. The views presented here do not necessarily represent those of Advisor Perspectives.
As the debt limit negotiations near resolution, the specter of a default recedes. But the lesson is that both sides were willing to play chicken with the train.
In terms of Social Security, the media has given considerable space to the possibility that benefit checks going to seniors might be disrupted in July. But that possibility should be the least of your clients’ concerns about the exhaustion of the government’s line of credit.
The much larger question is what will happen to Social Security if the economy is pulled into a recession, via the debt crisis or some other means. That problem has received no attention in D.C.
The issue of missed Social Security payments: A matter of choice
The question of how Social Security payments would be completed in the event of a debt crisis has been around for 10 years. The answer has been around for 30 years. If benefit payments do not go out on time and in full in July, it is a crisis of choice.
Beyond the procedural options available to the Treasury Department, the Social Security trust funds will redeem roughly $200 billion in Treasury securities on June 30, 2023. This sum should cover the July payments, provided that the Treasury doesn’t immediately reinvest the proceeds on June 30th. Again, it would be a crisis of choice.
The Treasury is allowed to refinance debt held by Social Security, because the process of adding and retiring debt effectively neutralizes any change in the overall debt.
The larger problem for seniors
What happens to Social Security in the case of recession? To the extent that any deal to extend the debt ceiling affects wages and jobs, it will impact Social Security’s longer-term stability. Long story short, the promise that Social Security will pay scheduled benefits until 2033 and 77% of scheduled benefits thereafter would be reduced to trivia.
The larger problem for the rest of us
Any discussion of the debt ceiling forces the question of refinancing the debt held by the Social Security trust fund, which is one of the largest holders of government securities in the world.
Over the last four decades, Social Security has provided Congress a steady supply of trapped capital from which to draw cash for the on-going needs of Congress. The special relationship between Congress and the Social Security trust fund was largely shaped by legislative reforms to Social Security in 1977 (which increased taxes) and 1983 (which reduced benefit levels). Combined, those changes turned Social Security into the best customer of the United States Treasury, allowing it to accumulate nearly $3 trillion in debt.
That relationship changed in 2021. For the first time in 40 years, Social Security did not pay a penny towards financing the broader government. In fact, it redeemed $50 billion of its past purchases. Moreover, the program will redeem another projected $50 billion this year, and it gets worse from there.
When the Social Security trust fund redeems a bond for cash, the Treasury Department has two options: It can increase taxes to buy the debt or sell new debt to a new lender. This refinancing burden arrives at the exact time that Social Security is reducing its role as the nation’s private banker.
If you owned a shoe store, and your best client was leaving you, it would be a worrisome event. The problem in this case is your largest and best client is leaving you so that he can open his own shoe store next door to yours.
Not just an accounting device
At the end of June, the government will owe Social Security $200 billion for maturing securities. This sum cannot be spent on other priorities. So Social Security will be working fine as the rest of the government implodes.
By law, the money will move to the accounts of Social Security on June 30. Also by law, June 30 is the annual investment for the Social Security program, when all excess cash will be reinvested into longer term bonds, earning a market rate based on the average market yield of government securities at the end of May. This is just the way the system works.
Combined, June 1 is just a bad day for the Social Security trust funds to trigger the debt ceiling. The Interest rate for the purchases on June 30 is set based on the pre-default market of May 31. Essentially, we have set the system to invest all available cash income based on the most unpredictable day of the year.
That rate will be applied to the excess cash invested on June 30 in an all-in bet. That puts Social Security in a very precarious situation.
Brenton Smith is a policy advisor for The Heartland Institute, an Illinois-based think tank.