June 15, 2024

The question rife on everyone’s minds: Is the most prevalent retirement plan in the U.S. simply elaborate scam? The truth maybe startling.

No other social policy in our nation supports the economic stability of Americans as robustly as Social Security does. The Center on Budget and Policy Priorities demonstrates through data from the U.S. Census Bureau that an impressive 22.7 million individuals are pulled out of poverty annually due to the reliable payments provided by Social Security. This figure includes approximately 16.5 million elderly citizens aged 65 and above.

However, despite the role Social Security plays in providing necessary income to its beneficiaries, it is not impervious to flaws.

Image source: Getty Images.

Social Security is grappling with an over $22 trillion long-term funding deficit

For more than eight decades, the Social Security Board of Trustees has rolled out an annual report reflecting on the program’s existing financial status and speculating short-term (a decade) and long-term (75 years) future projections based on possible modifications in fiscal and monetary policies and demographic changes.

Since its inception in 1985, each Trustees Report has underscored that Social Security would hitherto face a deficit in fulfilling its long-term funding liability. To put it simply, the funds collected would fall short of the expenses incurred, mainly benefits including cost-of-living adjustments, and the cost to run the program over the next 75 years.

The 2023 Social Security Board of Trustees Report proposed that the program’s funding liability deficit had escalated to a staggering $22.4 trillion through 2097. This denoted a $2 trillion augmentation since the 2022 estimate that projected the program’s long-term cash deficit through 2096.

What’s indeed alarming is the potential impact on benefits for retired workers and survivors in less than ten years.

The Trustees theorize that the Old-Age and Survivors Insurance Trust Fund (OASI), accountable for disbursing monthly checks to retired workers and survivor beneficiaries, might exhaust its asset reserves by 2033. In case the OASI’s asset reserves run dry, large-scale benefit cuts of up to 23% might be essential to evade further payout reductions through 2097. For an average retired worker, a 23% reduction in benefit would mean an estimated annual income loss of $6,638 by 2033.

A businessperson holding a stack of one hundred dollar bills behind their back, with their fingers crossed.

Image source: Getty Images.

Is the foremost retirement plan in America essentially a Ponzi scheme?

The deteriorating financial health of Social Security has set off a buzz on social media platforms about its mirroring a massive Ponzi scheme.

With Ponzi schemes, existing investors receive payouts from funds accumulated from new investors, making it essentially investment fraud. The individuals running these scams may not invest the money they collect and often embezzle a portion for themselves. Bernie Madoff and Allen Stanford were perpetrators of the most notorious Ponzi schemes Wall Street has seen.

But, is Social Security really just an elaborate Ponzi scheme? Looking beyond the chatter on social media, you will find that this insinuation has absolutely no grounding.

Firstly, Social Security is not an investment medium, a crucial criterion of a Ponzi scheme. Rather, the program is a social investment aimed at safeguarding the financial health of our retired workers, survivors of deceased workers, and individuals with long-term disabilities. Social Security was not created with the intention of producing a profit or enriching its beneficiaries but to provide a financial safety net for individuals unable to support themselves.

Secondly, the definition of a Ponzi scheme includes using the money collected from new investors to pay the existing ones. Social Security does not fit this definition as not all payouts come from present workers.

In 2022, 90.6% of the $1.222 trillion collected by Social Security was via the 12.4% payroll tax on earned income (not including investment income) of working Americans. The remaining 9.4% ($115 billion) came from interest income earned on Social Security’s asset reserves and benefits taxation.

Importantly, Ponzi schemes involve the scam artists taking customers’ fund. In contrast, Social Security maintains transparent financial records through the Trustees Reports that fully account for the program’s $2.8 trillion combined OASI and Disability Insurance Trust Fund (DI) asset reserves.

By law, Social Security is obliged to invest any surplus cash into extremely safe, special-issue government bonds that generate interest income. The program’s investment holdings are updated monthly, and an in-depth analysis of bonds, along with maturities, can be found in the annual Trustees Report.

Though there is a superficial similarity in terms of the substantial percentage of benefits obtained by current beneficiaries being provided by today’s workers, Social Security decidedly does not meet the definition of a Ponzi scheme.

US Old-Age and Survivors Insurance Trust Fund Assets at End of Year Chart

Depletion of the OASI’s asset reserves could lead to massive benefit cuts for retired workers and survivor beneficiaries by 2033. US Old-Age and Survivors Insurance Trust Fund Assets at End of Year Data from YCharts.

The Real Issues with Social Security

Besides the misrepresentation of Social Security as a Ponzi scheme, various false claims have been circulating on social media, such as implying that “Congress stole from Social Security”, and “undocumented workers are receiving benefits.” Not one of these allegations holds any truth about why Social Security is facing a $22.4 trillion long-term funding deficit.

Demographic changes largely contribute to the financial hurdles of Social Security.

Some of these changes are known widely. The gradual retirement of baby boomers, for example, reduces the worker-to-beneficiary ratio over time. Similarly, life expectancy has significantly increased since the distribution of the first retired-worker check in January 1940, a scenario initially not anticipated by Social Security.

However, less apparent demographic changes are wreaking more havoc.

Legal immigration into the U.S., for instance, has reduced for 25 consecutive years. The majority of these immigrants are young, contributing via payroll tax to the program for decades before drawing their own benefits. With net migration into the U.S. showing a steep decline, this negatively impacts the health of Social Security.

Another concern for the leading retirement program in America is the unprecedented drop in U.S. birth rates. Although currently not problematic, it will pose an issue in the next generation with a further dip in the worker-to-beneficiary ratio.

Additionally, income inequality presents a challenge. In 1985, the payroll tax was accountable for 88.9% of total income. However, by 2021, only 81.4% of earned income fell within taxation, allowing more earned income to avoid taxation over time.

Finally, Congress, despite being fully aware of the issues looming over Social Security, has failed to cooperate with the opposing party to address it. The longer this inaction persists, the more severe the eventual solution will be for working Americans and Social Security beneficiaries.