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Cypen & Cypen

MAY 4, 2012

Stephen H. Cypen, Esq., Editor

1.     STATUS OF THE SOCIAL SECURITY AND MEDICARE PROGRAMS:      Each year the Trustees of the Social Security and Medicare trust funds report on the current and projected financial status of the two programs.  The following summarizes the 2012 Annual Reports.  The long-run actuarial deficits of the Social Security and Medicare programs worsened in 2012, though in each case for different reasons.  The actuarial deficit in the Medicare Hospital Insurance program increased primarily because the Trustees incorporated recommendations of the 2010-11 Medicare Technical Panel that long-run health cost growth rate assumptions be somewhat increased.  The actuarial deficit in Social Security increased largely because of the incorporation of updated economic data and assumptions.  Both Medicare and Social Security cannot sustain projected long-run program costs under currently scheduled financing, and legislative modifications are necessary to avoid disruptive consequences for beneficiaries and taxpayers.  Lawmakers should not delay addressing the long-run financial challenges facing Social Security and Medicare.  If they take action sooner rather than later, more options and more time will be available to phase in changes so that the public has adequate time to prepare.  Earlier action will also help elected officials minimize adverse impacts on vulnerable populations, including lower-income workers and people already dependent on program benefits.  Social Security and Medicare are the two largest federal programs, accounting for 36 percent of federal expenditures in fiscal year 2011.  Both programs will experience cost growth substantially in excess of GDP growth in the coming decades due to aging of the population and, in the case of Medicare, growth in expenditures per beneficiary exceeding growth in per capita GDP.  Through the mid-2030s, population aging caused by the large baby-boom generation entering retirement and lower-birth-rate generations entering employment will be the largest single factor causing costs to grow more rapidly than GDP.  Thereafter, the primary factors will be population aging caused by increasing longevity and health care cost growth somewhat more rapid than GDP growth. 
Social Security
Social Security’s expenditures exceeded non-interest income in 2010 and 2011, the first such occurrences since 1983, and the Trustees estimate that these expenditures will remain greater than non-interest income throughout the 75-year projection period.  The deficit of non-interest income relative to expenditures was about $49 billion in 2010 and $45 billion in 2011, and the Trustees project that it will average about $66 billion between 2012 and 2018 before rising steeply as the economy slows after the recovery is complete and the number of beneficiaries continues to grow at a substantially faster rate than the number of covered workers.  Redemption of trust fund assets from the General Fund of the Treasury will provide the resources needed to offset the annual cash-flow deficits.  Since these redemptions will be less than interest earnings through 2020, nominal trust fund balances will continue to grow.  The trust fund ratio, which indicates the number of years of program cost that could be financed solely with current trust fund reserves, peaked in 2008, declined through 2011, and is expected to decline further in future years.  After 2020, Treasury will redeem trust fund assets in amounts that exceed interest earnings until exhaustion of trust fund reserves in 2033, three years earlier than projected last year.  Thereafter, tax income would be sufficient to pay only about three-quarters of scheduled benefits through 2086. 
A temporary reduction in the Social Security payroll tax rate reduced payroll tax revenues by $103 billion in 2011 and by a projected $112 billion in 2012.  The legislation establishing the payroll tax reduction also provided for transfers of revenues from the general fund to the trust funds in order to “replicate to the extent possible” payments that would have occurred if the payroll tax reduction had not been enacted.  Those general fund reimbursements comprise about 15 percent of the program’s non-interest income in 2011 and 2012. 
Under current projections, the annual cost of Social Security benefits expressed as a share of workers’ taxable earnings will grow rapidly from 11.3 percent in 2007, the last pre-recession year, to roughly 17.4 percent in 2035, and will then decline slightly before slowly increasing after 2050.  Costs display a slightly different pattern when expressed as a share of GDP.  Program costs equaled 4.2 percent of GDP in 2007, and the Trustees project these costs will increase gradually to 6.4 percent of GDP in 2035 before declining to about 6.1 percent of GDP by 2050 and then remaining at about that level. 
The projected 75-year actuarial deficit for the combined Old-Age and Survivors Insurance and Disability Insurance (OASDI) Trust Funds is 2.67 percent of taxable payroll, up from 2.22 percent projected in last year’s report.  This is the largest actuarial deficit reported since prior to the 1983 Social Security amendments, and the largest single-year deterioration in the actuarial deficit since the 1994 Trustees Report. This deficit amounts to 20 percent of program non-interest income or 16 percent of program cost.  The 0.44 percentage point increase in the OASDI actuarial deficit and the three-year advance in the exhaustion date for the combined trust funds reflect many factors. The most significant factor is lower average real earnings levels over the next 75 years than were projected last year, principally due to:  1) a surge in energy prices in 2011 that lowered real earnings in 2011 and is expected to be sustained, and 2) slower assumed growth in average hours worked per week after the economy has recovered. An additional significant factor is the one-year advance of the valuation period from 2011-85 to 2012-86. 
While the combined OASDI program continues to fail the long-range test of close actuarial balance, it does satisfy the test for short-range financial adequacy.  The Trustees project that the combined trust fund assets will exceed one year’s projected cost for more than ten years, through 2027. 
However, the Disability Insurance (DI) program satisfies neither the long-range test nor the short-range test.  DI costs have exceeded non-interest income since 2005, and the Trustees project trust fund exhaustion in 2016, two years earlier than projected last year.  The DI program faces the most immediate financing shortfall of any of the separate trust funds; thus lawmakers need to act soon to avoid reduced payments to DI beneficiaries four years from now. 
The Medicare HI Trust Fund faces depletion earlier than the combined Social Security Trust Funds, though not as soon as the Disability Insurance Trust Fund when separately considered.  The projected HI Trust Fund’s long-term actuarial imbalance is smaller than that of the combined Social Security Trust Funds under the assumptions employed in this report. 
The Trustees project that Medicare costs (including both HI and SMI expenditures) will grow substantially from approximately 3.7 percent of GDP in 2011 to 5.7 percent of GDP by 2035, and will increase gradually thereafter to about 6.7 percent of GDP by 2086. 
The projected 75-year actuarial deficit in the HI Trust Fund is 1.35 percent of taxable payroll, up from 0.79 percent projected in last year’s report.  The HI fund again fails the test of short-range financial adequacy, as projected assets are already below one year’s projected expenditures and are expected to continue declining.  The fund also continues to fail the long-range test of close actuarial balance.  The Trustees project that the HI Trust Fund will pay out more in hospital benefits and other expenditures than it receives in income in all future years, as it has since 2008.  The projected date of HI Trust Fund exhaustion is 2024, the same date projected in last year’s report, at which time dedicated revenues would be sufficient to pay 87 percent of HI costs.  The Trustees project that the share of HI expenditures that can be financed with HI dedicated revenues will decline slowly to 67 percent in 2045, and then rise slowly until it reaches 69 percent in 2086.  The HI 75-year actuarial imbalance amounts to 36 percent of tax receipts or 26 percent of program cost. 
The worsening of HI long-term finances is principally due to the adoption of short-range assumptions and long-range cost projection methods recommended by the 2010-11 Medicare Technical Review Panel.  Use of those methods increases the projected long-range annual growth rate for Medicare's costs by 0.3 percentage points. The new assumptions increased projected short-range costs, but those increases are about offset, temporarily, by a roughly 2 percent reduction in 2013-21 Medicare outlays required by the Budget Control Act of 2011. 
The Trustees project that Part B of Supplementary Medical Insurance (SMI), which pays doctors’ bills and other outpatient expenses, and Part D, which provides access to prescription drug coverage, will remain adequately financed into the indefinite future because current law automatically provides financing each year to meet the next year’s expected costs.  However, the aging population and rising health care costs cause SMI projected costs to grow rapidly from 2.0 percent of GDP in 2011 to approximately 3.4 percent of GDP in 2035, and then more slowly to 4.0 percent of GDP by 2086.  General revenues will finance roughly three quarters of these costs, and premiums paid by beneficiaries almost all of the remaining quarter. SMI also receives a small amount of financing from special payments by States and from fees on manufacturers and importers of brand-name prescription drugs. 
Projected Medicare costs over 75 years are substantially lower than they otherwise would be because of provisions in the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010 (the "Affordable Care Act" or ACA).  Most of the ACA-related cost saving is attributable to a reduction in the annual payment updates for most Medicare services (other than physicians’ services and drugs) by total economy multifactor productivity growth, which the Trustees project will average 1.1 percent per year.  The report notes that sustaining these payment reductions indefinitely will require unprecedented efficiency-enhancing innovations in health care payment and delivery systems that are by no means certain.  In addition, the Trustees assume an almost 31-percent reduction in Medicare payment rates for physician services will be implemented in 2013 as required by current law, which is also highly uncertain. 
The drawdown of Social Security and HI trust fund reserves and the general revenue transfers into SMI will result in mounting pressure on the Federal budget. In fact, pressure is already evident.  For the sixth consecutive year, the Social Security Act requires that the Trustees issue a “Medicare funding warning” because projected non-dedicated sources of revenues -- primarily general revenues -- are expected to continue to account for more than 45 percent of Medicare’s outlays, a threshold breached for the first time in fiscal year 2010. 
Lawmakers should address the financial challenges facing Social Security and Medicare as soon as possible.  Taking action sooner rather than later will leave more options and more time available to phase in changes so that the public has adequate time to prepare. 
2.      ANALYZING SOCIAL SECURITY REFORM ISSUES:    American Academy of Actuaries has written “A Guide to Analyzing the Issues:  Social Security Reform.”  The Social Security Board of Trustees issues an annual report on the Old-Age and Survivors, Insurance and Federal Disability Insurance trust funds, which provides a detailed assessment of the financial condition of Social Security program for the next 75 years.  As can be seen above, the 2011 trustees’ report shows that benefits and administrative expenses exceeded payroll tax income in 2011.  That report projects that, based on the trustees’ intermediate or best estimate assumptions, deficits will continue indefinitely into the future.  As a result, the Social Security trust funds that have been built up by past surpluses of taxes over expenses are projected to run out of money in 2036.  Once the trust funds are depleted, benefit payments will be limited to what can be funded by tax revenues at that time.  The Academy’s Social Security Committee has previously published a monograph entitledSocial Security Reform Options, which provides a comprehensive overview of Social Security reform options and a series of issue briefs analyzing recent and current proposals for reforming Social Security, including their impacts on benefits and solvency.  That campaign guide applies the concepts from those publications to those proposed changes to the Social Security system being debated or discussed by presidential and congressional candidates, and poses questions that should be asked of these candidates on the topic of Social Security solvency.  The Academy encourages readers to access these documents at a more in-depth analysis.  It is important to keep in mind that addressing Social Security’s long-term financial challenges may involve a combination of changes from some or all types of reform presented in the guide.  When evaluating candidate proposals, be sure to consider the effect of any proposed changes to the Social Security program with respect to the program’s projected deficit, the trust fund income and outgo and the program’s overall financial solvency.  Readers also should consider how the changes will affect various demographic groups (i.e., women compared with men, low income compared with high income or young compared with elderly).  Subjects dealt with in the new guide include changes to financing, changes to benefit formula, changes to taxation of benefits, means testing, raising the retirement age and individual account proposals.


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Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.

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