Statement of Stephen G. Kellison and Marilyn Moon,
Public Trustees, Social Security and Medicare Boards of Trustees

Testimony Before the Subcommittee on Social Security
of the House Committee on Ways and Means

Hearing on the 1999 Annual Report of Bord of Trustees of the Social Security Trust Funds

April 15, 1999

MR. CHAIRMAN AND MEMBERS OF THE SUBCOMMITTEE:

It is our privilege to be here today to testify regarding the financial status of the Social Security Trust Funds as shown in the 1999 Annual Report of the Board of Trustees of those funds. As you know, the Public Trustees are part-time officials appointed by the President and confirmed by the Senate to represent the public interest in this important process of public accountability. In our normal activities, Mr. Kellison is an actuary and consultant and Ms. Moon is an economist and researcher, both with extensive public and private experience in Social Security and Medicare.

As Public Trustees, our primary activities are directed at assuring that the Annual Trust Fund Reports fully and fairly present the current and projected financial condition of the trust funds. To this end, we work closely with the Offices of the Actuary in the Social Security and the Health Care Financing Administrations to ensure that all relevant information is considered in the development of assumptions and methods used to project the financing of these vital programs. Mr. Chairman, we would note for the record what we are sure you and this committee know well: it is an extraordinarily complex task to make financing projections for these programs for the next 75 years. It is only through the high professionalism and decades of experience of the Social Security and Medicare actuaries that such projections are possible. But it is critical to remember always that these projections ultimately are only estimates and must necessarily reflect the uncertainties of the future.

Thus, the projections in the trustees reports are most useful if understood as a guide to a plausible range of future results. And, as this hearing illustrates, the reports serve as an early warning system that allows us the opportunity to make changes in a timely and responsible manner.

The Old-Age and Survivors Insurance Trust Fund

In the 1999 report, the Old-Age and Survivors Insurance (OASI) Trust Fund, which pays Social Security retirement and survivors benefits, shows a positive balance at the end of 1998 of $681.6 billion with a net increase in that year of $92.5 billion. The fund's assets now equal 2 years of projected benefit costs. The OASI fund has been taking in more in tax revenues than it has been spending for a number of years and is projected to continue in that mode for 15 years. As the baby boom generation begins to reach age 65 after 2010, however, OASI benefit costs each year will increase rapidly and, beginning in 2015, will exceed annual tax income.

However, the accumulated assets of the OASI fund, interest on those assets and tax revenues are projected to cover benefit outlays until 2036, two years longer than projected in the 1998 trustees report. Although the assets of the OASI fund would be exhausted at that time, tax income provided under current law would equal nearly three-quarters of full benefit costs in 2036. By 2073, however, the portion of benefits that tax income would cover is projected to decline to about two-thirds. Over the full 75-year period, the OASI fund shows a deficit of 1.70 percent of payroll, which is almost 13 percent of the projected summarized 75-year cost of the OASI program.

The Disability Insurance Trust Fund

Turning to the Disability Insurance (DI) Trust Fund, it also showed a net increase in 1998 of $15.4 billion and ended that year with a positive balance of $80.8 billion. As this committee is well aware, disability costs are more difficult to project than are retirement and survivors benefits. Historically, the Social Security Disability Insurance program has experienced periods of growth and decline for which causes cannot be established with certainty. In the early 1990's the number of workers applying for disability benefits increased rapidly, and there was great uncertainty whether this was a temporary or a long-term phenomenon. Actual experience since 1993 shows that applications for disability insurance benefits levelled off in 1994 and have actually declined slightly each subsequent year despite the fact that more people are moving into the prime ages for disabilities. It seem likely that the tight labor market has contributed to the lack of growth in disability insurance applications. The total number of disabled workers receiving benefits has continued to increase, however, because more people have come onto the rolls each year than have left.

The disability program has experienced significant and not fully explained fluctuations over the last two decades. The trustees therefore recommend that the program be monitored closely in coming years. The 1999 Trustees Report intermediate projections show that income to the DI fund will exceed expenditures through 2005, but that full DI benefits can be paid until the fund's assets are exhausted in 2020. Over the 75-year projection period, the DI fund shows a deficit of 0.36 percent of payroll, or about 16 percent of the program's projected 75-year cost.

If the DI and OASI trust fund projections are combined, the exhaustion date for the combined funds is 2034, 14 years later than for the DI fund and 2 years sooner than for OASI. On a combined basis, expenditures first exceed tax revenues in 2014. From 2015 through 2021 interest income will be needed to supplement current tax income to meet costs, and in 2022 through 2034, current tax income, interest income plus a portion of the trust fund assets will be needed to pay benefits. Considered together, the OASI and DI programs have a projected long-term deficit of 2.07 percent of payroll, which represents an decrease in the deficit of 0.12 compared to the 1998 projection.

The primary reasons for the reduction in the projected actuarial deficit in the 1999 trustees report are the continued good economic experience in 1998 and an improvement in the projected economic performance in the future. The major reason for the improved outlook was taking account of the announcement by the Bureau of Labor Statistics in 1998 that the measured cost-of-living will be reduced by 0.2 percent per year in 1999 and later due to the Bureau making changes in the measurement methodology it uses. We met with a variety of economic experts last year to perform a comprehensive review, particularly in light of the BLS change, of the economic assumptions used in this report. We were gratified that there was wide agreement on the range for the assumptions, but with full recognition of the uncertainty involved.

Is Legislative Action Needed?

The Board of Trustees has established both short-term (10 year) and long-term (75 year) tests of financial adequacy for the trust funds. Over the short range, if a fund has sufficient assets on hand at the beginning of each year to pay projected benefits for that year -- what is termed a trust fund ratio of 100 percent -- we considered its financing adequate. Both the OASI and DI trust funds are expected to maintain trust fund ratios above 100 percent throughout the next 10 years and thus meet the trustees short-term financing test. You will recall that the DI fund failed this short-term test early in this decade and the trustees wrote to the Congress, as they are required to do, to recommend legislative action, which was taken in 1994. Then, the Hospital Insurance part of Medicare failed the short-term test for several years until the Balanced Budget Act of 1997 was enacted. Based on the 1999 trustees reports, however, the OASI and DI, as well as HI, trust funds satisfy the trustees' short-term financing test.

Over the long range, the trustees' test of financial adequacy is that a trust fund projected actuarial costs be no more than 5 percent larger than projected income in the 75th year, or a proportionally smaller variance for shorter periods. Neither the OASI nor the DI trust fund meets this test, referred to as "close actuarial balance." Thus, the trustees recommend that legislative action be taken to bring these trust funds back into close actuarial balance and stress that it is important to address the long-range financing shortfalls in the OASI and DI funds soon in order to allow time for phasing in any necessary changes and for workers to adjust their retirement plans to take account of those changes. We would also note that there has been an alarming erosion of public confidence in the Social Security program over the past few years, particularly among younger generations. Early attention to Social Security's financing problems is important to restoring public confidence in the program.

Another important consideration regarding the timing of action on Social Security financing is that the sooner changes are enacted the more broadly can the burden of closing the financing deficit be distributed across different age groups. For example, if it were decided to raise payroll taxes now to eliminate the OASI projected deficit, employers and employees each would have to pay about 16 percent more in all future years (i.e., to about 6.2 percent rather than the 5.35 percent for 1999). If the change were not effective until 2010, the rate would have to be increased to 6.42 percent, and if delayed until 2025, the tax rate would have to be increased by almost one-third to 7.02 percent. Other types of changes would have similar increases in size if their effective dates were significantly delayed. Further, the longer we delay in making changes in either taxes or benefits, the more the burden of those changes will be concentrated on future workers and beneficiaries. Thus, while we have time to consider and plan carefully for necessary changes in Social Security, we should act as soon as a rational reform plan can be developed and support built for it.

So, in answer to the oft-asked question, "When is legislative action on Social Security financing needed?", on the basis of the 1999 trustees report projections we would respond, "The sooner the better!" But we would add that this program is too vital to every American to make hasty changes that are not fully thought out. Of course, Mr. Chairman, we recognize and appreciate that this committee has over the years exercised great diligence in assuring that changes in Social Security are as good as we can devise. We applaud the committee's efforts to investigate proposed reforms and build a record on which well-considered legislation can be based.

Is All-or-Nothing the Only Approach to OASI Financing Reform

As we have said many times, Social Security's financing deficit can be solved with OR without major structural change. Unfortunately, it appears at times that Social Security financing reform is presented as a choice between dramatic structural change or nothing. That is, those who support structural change have seemed to have an incentive to oppose any other change because it looked as though with each new trustees report the OASI and DI deficits would grow larger and the pressure for reform greater. Then, in both the 1998 and 1999 trustees reports the projected deficits under the intermediate assumptions were reduced somewhat, in considerable part due to the continued good performance of the U.S. economy. Given this set of historical circumstances, three points regarding long-term financing reform of Social Security strike us.

First, longer term change should not be driven by only a few years' experience. For example, in the early 1990s, the Social Security disability insurance rolls grew dramatically in 1991 and 1992, but then just a quickly stopped growing. Legislation based only on either of those periods would have been subject to error. Similarly, Social Security financing legislation enacted on the basis of only the poor economic performance of the U.S. economy in the 1970s would have been misdirected, just as basing legislation only on the last few years of economic experience could be misleading. The trustees, with the extraordinarily able assistance of the actuaries, have always tried to base their projections on long-run expected averages, and not on extremes in experience over short periods.

Second, aiming for a reform package that will "fix" the Social Security program's financing for as long as 75 years may be too ambitious and potentially can mislead policymaking. As the trustees note each year, the projections in their reports are not intended as predictions but rather as indicators of the expected trend and likely range of future income and outgo under a variety of plausible economic and demographic conditions. In recognition of the fact that we cannot predict the future perfectly, the trustees' long-range test of financial adequacy calls, as we described, for projected costs income and costs not to diverge by more than 5 percent. Implicit in this test is an allowance for change in the actuarial balance in each new annual trustees report without ringing alarm bells because the program's 75-year projected actuarial income and costs do not perfectly balance. Thus, we believe any Social Security financing legislation should evaluate changes on their merits, and not allow a 75-year point estimate to influence the type or degree of change.

Third, we would hope that when programmatic changes arise that make sense and can obtain substantial support, legislative action will not be delayed until one overarching reform package is developed. For example, a number of changes, such improved benefits for widows(ers), were contained in at least two of the reform plans offered by the 1996 Social Security Advisory Council, but the strong sense of need for changes in such areas is lost in the standstill over finding a comprehensive financing plan. Further, the danger of making policy changes in the context of seeking a specific level of savings or achieving perfect 75-year actuarial balance is that the policy change may be altered to fit the numbers rather than designing it on the basis of what makes the best sense. For example, the scheduled increase in the retirement age -- 2 months per year for 6 year, no change for 11 years, and then 2 months per year for 6 more years -- was an artifact of achieving the right level of savings rather than deciding the best way to phase in changes in the retirement age without creating unnecessary "notch" effects.

Conclusion

Based on our experience as trustees over just the last 4 years, it is overwhelmingly clear that Social Security cannot be insulated from social and economic change in our country in the future, just as it has not been in the past. The strength of the Social Security program has been that it can adapt as our national circumstances change. It is the acceptance of the necessity for change by all of us as individuals that is most difficult. This can be eased only by having the information we need to be able to understand why change is necessary and in which direction it should take us. This committee serves a crucial role in developing the necessary information for Social Security policy development, and we welcome the opportunity to participate in this hearing to discuss the dimensions of Social Security's financing problem.

We have attached the four-page "Message From the Public Trustees" that is included in the Summary of the 1997 Annual Reports, as well as our biographical information. We thank you for the opportunity to present our views and will be pleased to answer any questions.

THE PUBLIC TRUSTEES

Six people serve on the Social Security and Medicare Boards of Trustees: the Secretary of the Treasury, the Secretary of Labor, the Secretary of Health and Human Services, the Commissioner of Social Security, and two public members (of different political parties) appointed by the President with the advice and consent of the Senate. The Boards are responsible for reporting annually to the Congress on the financial operations of the Old-Age and Survivors Insurance (OASI) and Disability Insurance (DI) Trust Funds, the Hospital (HI) Insurance Trust Fund, and the Supplementary Medical Insurance (SMI) Trust Fund, and on the projected financial outlook of these funds for future years. The OASI and DI Trust Funds provide financing for the retirement, survivors, and disability benefits under Social Security, and the HI and SMI Trust Funds finance the Medicare program. In addition to the annual report to Congress, the Boards are required to notify the Congress immediately when the amount in one of the Trust Funds is unduly small and to review the general policies followed in managing the Trust Funds. The Public Trustees positions were created by the Social Security Amendments of 1983 for the purpose of increasing public confidence in the integrity of the trust funds. Stephen Kellison and Marilyn Moon began 4-year terms as Public Trustees on July 20, 1995.

Stephen G. Kellison

Stephen G. Kellison is Senior Vice President and Chief Actuary of American General Retirement Services of Houston, Texas. Mr. Kellison dealt extensively with a variety of public policy issues as Executive Director of the American Academy of Actuaries from 1976 to 1988. He has also served on the faculties of the University of Nebraska-Lincoln and Georgia State University. Mr. Kellison is a Fellow of the Society of Actuaries, a Member of the American Academy of Actuaries, and an Enrolled Actuary under the Employee Retirement Income Security Act of 1974. He served a Chairman of the Technical Panel of Actuaries and Economists to the 1991 Advisory Council on Social Security and as Chairman of the Committee on Social Insurance of the American Academy of Actuaries. He also has held leadership positions within the actuarial profession, serving on both the Board of Governors of the Society of Actuaries and the Board of Directors of the American Academy of Actuaries. Mr. Kellison holds A.B. and M.S. degrees from the University of Nebraska-Lincoln and is an author, speaker and expert witness in the areas of actuarial science, insurance, and employee benefits.

Marilyn Moon

Marilyn Moon is a Senior Fellow with the Health Policy Center of the Urban Institute in Washington, D.C. She is currently serving as Program Director for the Commonwealth Fund's Program on Medicare's Future. From 1986-1989, she served as Director of the Public Policy Institute of the American Association of Retired Persons. In the fall of 1989, she served as a consultant to the U.S. Bipartisan Commission for Comprehensive Health Care (the Pepper Commission). Earlier, she worked as a Senior Research Analyst at the Congressional Budget Office, and as an Associate Professor of economics at the University of Wisconsin-Milwaukee. Ms. Moon also is a founding member of the National Academy of Social Insurance and serves on its Board of Directors. Ms. Moon has written extensively on Medicare, poverty, health, income distribution, and long-term care issues. Her recent publications include "Will the Care Be There? Vulnerable Beneficiaries and Medicare Reform," and "Options for Aiding Low-Income Medicare Beneficiaries." She received her Ph.D. in economics from the University of Wisconsin.

FROM A SUMMARY OF THE 1999 ANNUAL REPORTS OF THE SOCIAL SECURITY AND MEDICARE BOARDS OF TRUSTEES, March 30, 1999

A MESSAGE FROM THE PUBLIC TRUSTEES:

We are privileged to take part in the thorough and careful process by which the Annual Reports are prepared to provide this vital public accounting. Our goal as Public Trustees is to ensure the integrity of the process by which these Reports are prepared and the credibility of the information they contain. Further, although we are of different political parties, we approach our work as Public Trustees on a bipartisan basis because this is the only way through which financial problems facing Medicare and Social Security can be solved.

1998: Strong Economic Performance Boosts the Trust Funds

Continued strong economic growth in 1998 caused income to the Social Security and Medicare trust funds to be higher than expected, strengthening the current financial condition of both programs. In addition, for Medicare the growth of benefits was lower than projected. The long-run financial outlook for both programs also has improved for the second consecutive year. The Social Security trust funds now are projected to run short of money to pay full benefits in 2034, rather than 2032 as projected last year, while the Medicare Hospital Insurance trust fund is projected to have insufficient funds in 2015, rather than 2008 as previously projected.

After many years of watching the outlook for both programs worsen without legislative action, two successive years of improvement is significant. Further, this reminds us that the demography of an increasingly older population with its resulting declining number of workers per retiree is not the only issue--that continued strong economic growth could make promised benefits more affordable in the future. We say "could" rather than "will" because we cannot prudently rely on economic growth continuing at this rate. Instead, it is essential to make the best projections possible based on the best available data and methods and to update those projections each year.

Projections Are Always Uncertain

One lesson we have come to fully appreciate is that projections are expert "guesses" about the future and not predictions of what will actually happen. Uncertainty is unavoidable because projections depend upon almost everything that happens in our society (marriage and divorce rates, birth rates, immigration rates, death rates, disability and recovery rates, retirement age patterns) and in our economy (the number of people working, their productivity and wages, inflation rates). Accurately predicting any one of these factors even for one year is difficult; projecting all of them for 75 years is mind-boggling.

Then why undertake such projections, especially for 75 years into the future? As the reports note, a 75-year period spans the working and retirement years of the vast majority of people now covered by these programs. And, the effects of demographic changes, such as the sharp increase in the birth rate after World War II that led to the "baby boom" generation, can be fully taken into account.

One way we as trustees deal with the inherent uncertainty in long range projections is each year to reexamine in light of recent experience all our assumptions about the factors that underlie Social Security and Medicare financing projections. During 1998 we met with a variety of economic experts to undertake a comprehensive review of the economic assumptions in these reports. We were gratified that outside reviewers were generally supportive of the assumptions we use. But even when modifications are needed, assumptions for a period as long as 75 years into the future should change only slowly over time. For example, two or three or even five years of poor or strong economic growth do not mean that we should assume such performance for 75 years.

Uncertainty, Politics and Reform of Social Security and Medicare

In each of our previous statements regarding the annual trustees reports, we have indicated the need for reforms in both Medicare and Social Security and the benefits of acting sooner rather than later. Like our predecessors in this job, we believe it is important to indicate that even with the uncertainty that exists in projections, changes will be needed to keep these programs on a solid financial footing. Last year an important national debate on Social Security was begun and a greater awareness of the problems facing that program was achieved. The National Bipartisan Commission on the Future of Medicare also worked over the past year to find a set of recommendations to send to the Congress for action but was unable to reach agreement on proposals for change. Thus, despite wide agreement that reforms should be made sooner rather than later, it is not at all certain that major changes in either program will be forthcoming in the near term.

Why is reaching agreement on change in these programs so difficult? Fear of change is instinctive, but it should be reassuring that Social Security and Medicare have been adjusted many times since they were enacted. And, there is no reason for us to think now that Social Security or Medicare should be frozen in place for the decades ahead. The economic and social factors that determine the financial health of Social Security and Medicare will change in the future as they have in the past. Thus, as citizens, we have to expect and accept the need to periodically adjust eligibility, benefits and financing for these programs.

How much of the reluctance to act is due to legitimate concerns about the inherent uncertainty of the financial projections, and how much to an inability to reach political consensus on what will be hard choices, is not clear. But the Bipartisan Medicare Commission's difficulty in reaching consensus raises the issue of whether it is wise to focus on finding one overarching solution to the problems these programs face, or whether to seek instead incremental changes on which agreement might be reached.

Medicare

Medicare costs are increasing both because new, more expensive (and effective) medical technology is being developed every year and because an aging U.S. population has greater medical care needs. As the slowing of spending in response to recent legislative changes indicates, more efficient health care delivery systems can moderate Medicare's cost growth. Even with these improvements, however, the system still faces major financial shortfalls because program costs are increasing much faster than the rest of the economy. A lack of consensus on sweeping reforms should not preclude measured changes to make Medicare a more streamlined and effective program. Additional substantial legislation needs to be enacted no later than 2007, the year that HI annual expenditures are projected to again exceed annual income. Once deficits begin, the financial outlook for the HI trust fund will dramatically worsen. The extension of the trust fund exhaustion date to 2015 should be welcomed as an opportunity to take the time to evaluate what options may mitigate the financing problem but also preserve the strengths of the program.

Social Security

The long-term financing problem facing Social Security is significant but could be solved by small gradual changes IF those changes are enacted soon. The public discussion of the last year has advanced the reform debate by bringing into sharper focus the limitations and administrative difficulties of replacing a major part of Social Security with individual savings accounts. One way not discussed in recent years to deal with uncertainty and political gridlock could be to enact modest changes in benefits or eligibility that would be triggered by changes in key indicators. For example, [in some way] tying the age of eligibility to life expectancy changes, or tying benefits to the growth in wages rather than prices, would help stabilize program financing. We are not proposing such indexing: a reasoned political debate reaching consensus would be the preferred solution. But we do note that a major step in the direction of indexing was taken in 1972 when automatic cost-of-living adjustments and automatic earnings-base indexing were added to replace ad hoc legislative adjustments made haphazardly, and that these changes have come to be valued as integral parts of the program.

Conclusion

We strongly believe that these Reports serve as an early warning of the need for changes to ensure continuation of Social Security and Medicare and not as evidence of their failure to protect future generations. Working cooperatively, with informed public debate, solutions can be found to the financing problems facing America as our population ages. It is time to begin that undertaking.