Wecker takes poultry showmanship

September 16, 2012

According to the United States Treasury, during the present week — Monday specifically — the U.S. government will have reached its debt limit of just under $14.3 trillion. As has likely been noticed by everyone, Republicans and Democrats are using this impending crisis to push their respective fiscal agendas. The Democrats indicate (though not unanimously) that given the fragile state of the economy, this is not the time to cut spending. Republicans generally feel that significant spending cuts must be agreed upon (in principle) before the debt limit can be increased.

Adding fuel to the fiscal fire were reports released last week on the financial soundness of two major social insurance programs: Medicare and Social Security. When the news of the “trust funds” associated with Social Security and Medicare is combined with debt ceiling limitations, it should given optimists reason to pause and financial pessimists reason to feel smugly insecure.

According to last week’s reports, Social Security — which combines the Old-Age and Survivors Insurance (OASI) and Disability Insurance (DI) funds — recorded an operational (excluding interest income) deficit of approximately $48.9 billion in 2010, which was aided by a small $2.4 billion transfer from the federal government’s general fund.

During the present year, the shortfall will continue, with a smaller projected operational deficit of $45.6 billion. However, the narrower deficit figure is based upon a huge general fund transfer to Social Security of over $105 billion. Thereafter, operational deficits will be recorded indefinitely into the future, with the Social Security Trust Fund (composed of a special class of U.S. Treasury securities) exhausted by 2036. It should be noted that the 2011 operational deficit is particularly large due to the temporary (one year) drop in the Social Security tax rate from 6.2 percent to 4.2 percent for wage earners.

In the case of Medicare, the most significant trust fund issue is Medicare Part A, which provides inpatient and related care for those requiring hospitalization. Such expenses are paid for through the 1.45 percent point tax on payrolls, with both employers and employees paying that same percentage. In 2008 the Hospital Insurance Trust Fund recorded its first operational deficit. According to estimates released last week, the HI Trust Fund (composed of a special class of Treasury securities) will be exhausted by 2024, a full five years earlier than estimates released just one year ago.

For both Social Security and Medicare Part A, once the trust funds are officially exhausted the systems will be able to pay only a portion of anticipated expenditures, with a new funding source (such as the General Fund or some new tax) required to make presently unfunded expenditures possible. As time progresses, these unfunded obligations as the law presently exists can amount to hundreds of billions of dollars per year depending upon the economic assumptions used in outlying years.

And just to more fully understand the urgency of the issues involved, consider the debt ceiling issue currently under debate. As matters now stand the Treasury estimates that Congress and the president have until early August before short term cash-management efforts make the U.S. government at risk of defaulting on its financial obligations to somebody, including holders of Treasury securities and/or citizens due to receive some sort of government payment.

One such payment would be those associated with Social Security checks sent monthly to qualified recipients. While such a decision may be unlikely, the U.S. government might be forced to reduce such payments even though retirees are entitled to such payments. One might wonder why the securities in the “trust fund” could not be sold to produce an income stream to allow the government to honor its covenant with seniors.

Sadly, as mentioned earlier with both Social Security and Medicare, the trust funds are stuffed with “special issue” U.S. Treasury securities. This is a fancy way of saying they are non-marketable financial instruments that can only be sold to the original issuer, which is to say, the U.S. government. And since the debt limit does not allow new securities to be sold, recovery of those funds is not possible, forcing the government to potentially default on its obligation to Social Security recipients.

To say the least, such a reality should finally put to rest the notion that Medicare and Social Security are on sound footing for years to come (2024 and 2036, respectively). That is only true with unlimited borrowing capabilities, and even the U.S. government can only push its borrowing capacity so far before bumping up against economic and financial market realities.

Dr. James Newton serves as chief economic advisor to Commerce National Bank and is an auxiliary faculty member in economics and statistics at Ohio State University-Marion.