Prefunding Social Security Benefits to Achieve Intergenerational Fairness: 

Can It Be Done in the Social Security Trust Fund? 

Randall P. Mariger* 

Staff Economist 

U.S. Department of Treasury, Office of Economic Policy 

Washington, DC 20551 

December 2008 

Abstract 

Being fair to future generations requires that Social Security be reformed in a manner that 

prefunds a significant share of future Social Security benefit payments. All serious reform plans 

have this property. Prefunding is done exclusively in the Social Security trust fund in some plans, 

and it is done partly in personal retirement accounts (PRAs) in others. 

The consequences of prefunding Social Security in the trust fund are controversial and not well 

understood. The key question is whether Social Security surpluses are offset by smaller nonSocial Security surpluses; if they are, and if the offset is 100 percent, then Social Security 

surpluses are not truly saved and prefunding intended to make Social Security fair to future 

generations is neutralized by a non-Social Security fiscal policy that is less fair to future 

generations. This paper makes this important point concrete by simulating the response of nonSocial Security fiscal policy to two alternative Social Security reforms that differ only with regard 

to the breakdown of prefunding in the trust fund and prefunding in PRAs. The reforms simulated 

are the Nonpartisan Reform Plan proposed by Jeffrey Liebman, Maya McGuineas, and Andrew 

Samwick, and a version of that plan that prefunds exclusively in the trust fund. If Social Security 

surpluses are not saved, it is found that NRP’s PRAs increase the net benefits of government to 

future generations by about 0.6 percent of GDP; that is, future generations enjoy some 

combination of lower non-Social Security taxes and higher non-Social Security government 

spending that amounts to about 0.6 percent of GDP in every year. 

The paper also reviews budget politics over the past 30 years and concludes that there is a 

substantial probability that trust fund accumulations are largely offset by reduced non-Social 

Security surpluses. 

The implications of these findings for Social Security reform are explored. If budget politics 

precludes the possibility that Social Security surpluses are saved, then large dividends would be 

paid if an alternative means of effectively prefunding Social Security could be found. If politics 

also precludes that possibility, then it would be rational to compromise other Social Security 

reform objectives so as to reduce trust fund accumulations. Specifically, relative to a first-best 

reform with effective prefunding, smaller benefit levels would be appropriate. 

________________________ 

*The analysis and conclusions set forth in this paper are those of the author and do not indicate 

concurrence by other members of the Treasury research staff or Treasury’s senior officials.
 1 

I. Introduction 

Being fair to future generations requires that Social Security be reformed in a manner that 

prefunds a significant share of future Social Security benefit payments. All serious 

reform plans have this property. Prefunding is done exclusively in the Social Security 

trust fund in some plans, and it is done partly in personal retirement accounts (PRAs) in 

others. 

A lot of confusion has arisen in recent years over whether Social Security trust fund 

accumulations represent real saving. On one side of the debate it is argued that trust fund 

accumulations do not represent real saving because they are comprised of special-issue 

government securities–government IOUs to itself. A prominent example of this view of 

the trust funds is contained in Congressional testimony given by the Congressional 

Budget Office’s Director and Deputy Director in February 1999: 

 “...the federal government’s trust funds are not trust funds in the traditional sense; that 

is, they do not set aside current income for future use. .....But the Treasury securities held 

by federal trust funds are nothing more than the government’s IOUs to itself. Look at it 

this way: if the government had truly invested trust fund net income for future use, the 

Treasury would currently be holding hundreds of billions of dollars of real assets that 

could be liquidated in the future to pay for future obligations. But the Treasury does not 

hold any net assets; in fact, all that remains from the so-called investment of trust fund 

surpluses is net debt to the public of $3.7 trillion. ..... Nor does it [the trust fund] affect 

the government’s ability to pay those benefits.”1

A narrow interpretation of this statement is true: Because the trust fund is not a claim on 

third parties, somehow losing the trust fund information would have no effect on the 

government’s ability to finance its operations going forward. However, the statement 

strongly implies an untruth that many find credible and take to be its point: That it is 

impossible for the government to set aside income for future use if the income is invested 

in “IOUs to itself” and trust fund accumulations therefore cannot under any 

circumstances increase the government’s capacity to pay future Social Security benefits. 

Advocates of prefunding Social Security in the trust fund make equally deceptive 

arguments. Many argue that the trust fund is real simply because a positive balance 

conveys the legislative authority to pay Social Security benefits, and dismiss the question 

of whether those balances represent real wealth as irrelevant. Others explicitly 

acknowledge a likelihood that the trust fund does not represent real wealth, and seem to 

view that as a problem, but they nevertheless advocate policies that would rely on trust 

fund accumulations to make Social Security solvent. For example, Bill Novelli, the 

President of AARP, writes: 

“By 2040, the trust fund will have run through its “stored up” assets and will depend 

entirely on the incoming payroll taxes from the smaller pool of workers at that time. The 

 

1

 Congressional Budget Office (1999). This example and several others are cited in President’s 

Commission to Strengthen Social Security (2001). 
 2 

problem is made even worse because the trust fund assets aren’t actually “stored up.” 

The Treasury bonds are there alright, backed by the full faith and promise of the U.S. 

government. But the actual money itself is borrowed and spent each year as part of the 

general budget. If instead, the money were used to pay down national debt, it would make 

the government borrowing cheaper when the time comes to pay out interest and principal 

on the Social Security bonds. Alarmists picture this scenario as bankruptcy for Social 

Security. It isn’t. ..... The system has enough money to pay benefits at current rates 

until 2040. ..... And if our elected officials act reasonably soon, full funding could be 

restored with a relatively small increase in the payroll tax, a reduction in benefits, or 

some mixture of both.”2

 

It is acknowledged that the “problem is made worse” because the trust fund is not truly 

saved, but nevertheless the policies advocated—payroll tax increases, benefit cuts, or 

both—are ones that make the system solvent largely by increasing trust fund 

accumulations. 

As serious observers of fiscal policy are aware, the issue is not how the trust fund is 

invested or whether a positive trust fund balance conveys legislative authority to pay 

benefits, but whether Social Security surpluses pay down debt held by the public. 

(Novelli alludes to this in the above quote but seems not to appreciate the implications.) 

If Social Security policy does not influence non-Social Security policy, then the trust 

fund balance at every date represents the amount by which past Social Security cash 

flows have reduced debt held by the public at that time. Reducing a liability in this 

manner is real saving that increases the government’s capacity to pay future Social 

Security benefits. In this case, the trust fund measures real wealth put aside to pay future 

Social Security benefits and reforms that rely on trust fund accumulations to make Social 

Security nominally solvent also make it truly solvent. 

On the other hand, many analysts believe that Social Security surpluses are offset all or in 

part by lower non-Social Security surpluses. If the offset is 100 percent, then Social 

Security surpluses do not increase the government’s capacity to pay future Social 

Security benefits. In this case, the trust fund is not a real store of value and reforms that 

rely on trust fund accumulations to make Social Security solvent do so at the expense of a 

less solvent non-Social Security policy. Because the policy fails to improve the overall 

fiscal balance, this paper refers to such policies as being nominally solvent but not truly 

solvent. 

This paper makes these important points formally and illustrates the importance of the 

distinction between nominal and true solvency by simulating the response of non-Social 

Security fiscal policy to two alternative Social Security reforms that differ only with 

regard to the breakdown of prefunding in the trust fund and prefunding in PRAs. The 

reforms simulated are the Nonpartisan Reform Plan (NRP) proposed in Liebman, 

McGuineas, and Samwick (2005), and a version of that plan that prefunds exclusively in 

the trust fund. If Social Security surpluses are not saved, it is found that NRP’s PRAs 

increase the net benefits of government to future generations by about 0.6 percent of 

 

2

 Novelli and Workman (2006), p. 197. 
 3 

GDP; that is, future generations enjoy some combination of lower non-Social Security taxes 

and higher non-Social Security government spending that amounts to about 0.6 percent of 

GDP in every year. 

The paper also reviews budget politics over the past 30 years and concludes that there is a 

substantial probability that trust fund accumulations are largely offset by reduced nonSocial Security surpluses. 

Lastly, the paper considers the implications for policy of being constrained to attempt 

prefunding in the trust fund when such prefunding is offset with smaller non-Social 

Security surpluses. It is concluded that relative to a first-best reform with effective 

prefunding, a second-best policy with ineffective prefunding calls for lower benefits 

levels. 

Before proceeding, the terms “nominal solvency” and “true solvency” merit further 

clarification. A Social Security policy that is projected to result in a positive trust fund 

balance into perpetuity but which causes lower non-Social Security surpluses is referred 

to as nominally solvent and not truly solvent. With a nominally solvent Social Security 

system, the non-Social Security budget would be stressed at such time as the Social 

Security system draws on trust fund accumulations to pay benefits. How fiscal policy 

should adapt in those circumstances is beyond the scope of the paper. In particular, it is 

not suggested that all or some of the adaptations should be in the Social Security budget. 

Indeed, the paper’s simulations assume that all of the adaptations are in the non-Social 

Security budget. The important point is that no matter how overall fiscal policy adapts, 

future generations suffer if Social Security accumulations are not truly saved. 

II. Trust fund Accounting to Aid Fiscal Policy Planning

This section demonstrates that the trust fund balance is an accounting entry that gives 

fiscal policy planners information enabling them to easily break down fiscal policy 

planning into a Social Security part and an independent non-Social Security part. Only if 

fiscal policy planners rationally utilize that information is the trust fund balance an 

accurate measure of wealth put aside for the purpose of paying Social Security benefits. 

In that case, the trust fund is real in the sense that it measures the amount of real wealth 

put aside to pay future Social Security benefits. 

We begin by deriving the government’s overall budget constraint, and then break down 

that constraint into a Social Security part and a non-Social Security part. 

 

A. The Overall Government Budget Constraint

A fiscal policy is feasible if publicly held debt never gets so large that it is impossible to 

repay. Publicly held debt in some year t is impossible to repay if choosing maximal 

primary surpluses in every subsequent year would be insufficient to stabilize debt as a 

share of GDP. Hence, a feasible fiscal policy is defined by the condition: 
 4 

(1) lim / kk k →∞ D GDP < +∞ , 

where D and GDP denote publicly held debt and GDP, respectively. It is well known 

that this condition is satisfied if and only if present value of all taxes is at least as large as 

the present value of all government purchases, where discount rates reflect the actual time 

profile for the government borrowing rate.3 Letting T, G, and R denote taxes, 

government purchases, and the government borrowing rate, respectively, and denoting 

the first year for which there are any taxes or purchases as year 0, the budget constraint 

is: 

(2) lim / kk k →∞ D GDP < +∞ ↔

0 j jv j

T C ∞

∑ = → ≥

0 j jv j

G C ∞

∑ = →

where the valuation year v can be any year and Cq v → is a factor converting year q dollars 

to year v dollars: 

(3) Cq v → = 

1 1 (1 ) q

iv i R − − Π + = if q v > , 

 = 

1

(1 ) v

iq i R − Π + = if q v < , 

 = 1 if v = q. 

If the possibility that the limiting value of the debt to GDP ratio is infinitely negative is 

also ruled out, then the present value of taxes must precisely equal the present value of 

purchases: 

(4) lim / −∞ < < +∞ ↔ kk k →∞ D GDP

0 j jv j

T C ∞

∑ = → = 0 j jv j

G C ∞

∑ = →

At any date t, the budget constraint can also be expressed in terms of debt held by the 

public at that date and future taxes and purchases: 

(5) lim / −∞ < < +∞ ↔ kk k →∞ D GDP j jt j t

T C ∞

∑ = → = Dt−1 + j jt j t

G C ∞

∑ = →

where the valuation year is t and Dt−1 is debt held by the public at the end of year t-1: 

(6) Dt−1 = 1

0

t

j jt j

G C −

∑ = → - 1

0

t

j jt j

T C −

∑ = →

 

3

 A derivation is in Mariger (1999). 
 5 

B. Dividing the Budget Into Social Security and Non-Social Security Parts for 

Planning Purposes 

If the budget is divided into two parts, one for Social Security and one for the remainder 

of government, a sufficient condition for satisfying (5) is that a version of (5) holds for 

both parts of the budget. Defining S T as Social Security net taxes that begin in 1937 

(benefits are a negative tax), O T as non-Social Security taxes, and O G as non-Social 

Security government purchases, and assuming Social Security purchases are essentially 

zero, sufficient conditions for a feasible overall fiscal policy (i.e., for (5) to hold) are: 

(7a) lim / S −∞ < < +∞ ↔ kk k →∞ D GDP S

j jt j t

T C ∞

∑ = → = 1

S Dt−

(7b) lim / O −∞ < < +∞ ↔ kk k →∞ D GDP O

j jt j t

T C ∞

∑ = → = 1

O Dt− + O

j jt j t

G C ∞

∑ = →

where 1

S Dt− and 1O Dt− are publicly held debt at the end of year t-1 attributable to past Social 

Security and non- Social Security cash flows, respectively: 

(8a) 1

S Dt− = 1

0

t S

j j t j

T C −−∑ = →

(8b) 1

O Dt− = 1

0 ( ) t O O

j j jt j

G TC −

∑ = − →

Adding equations (7a) and (7b) yields (5), so the fiscal balance condition for overall 

fiscal policy holds if both (7a) and (7b) hold. And because 1

S Dt− is minus the trust fund 

balance 1 ( ) −TFBt− , 1

O Dt− is total publicly held debt plus the trust fund balance: 

(9a) 1

S Dt− = − TFBt−1

(9b) 1 111 11 1 1 1

O OS S OS D D D D D D TFB D TFB t ttt tt t t t − −−− −− − − − =+−≡++ ≡+

Equations (7a) and (7b) along with (9a) and (9b) are the rationale for Social Security trust 

fund accounting. If the non-Social Security budget ultimately balances on its own 

account (i.e., (7b) holds), a necessary and sufficient condition for overall fiscal policy to 

be feasible is that Social Security cash flows satisfy (7a). Substituting −TFBt−1 for 1

S Dt−

in (7a), that budget constraint is: 

(10) lim / −∞ < < ∞ ↔ k kk →∞ TFB GDP 1 0 S

j jt t j t

AB T C TFB ∞

∞ →− = ≡ ∑ + =

where AB∞ is the infinite horizon actuarial balance that is reported each year in the Social 

Security Trustee Report. Current budget rules are more stringent than (10). Those rules 
 6 

require that the trust fund balance never fall below one year’s projected benefit payments, 

whereas (10) allows for negative trust fund balance provided future Social Security 

surpluses are sufficient to keep the implied borrowing from the public finite as a share of 

GDP. While political economy considerations can explain the current prohibition against 

borrowing against future Social Security tax revenues to pay benefits, that prohibition 

goes beyond the requirement that Social Security be self-financing. In any case, current 

budget rules ensure that (10) is satisfied, so it remains true that a sufficient condition for a 

feasible overall fiscal policy is that Social Security budget rules are satisfied and that 

non-Social Security policy satisfies (7b). 

For the rational planner of non-Social Security policy, (9b) shows that the pertinent debt 

concept is publicly held debt plus the trust fund balance, which is reported in the federal 

budget as “gross federal debt.” If non-Social Security policy is to be planned 

independently of Social Security policy, no distinction should be made between how 

much the non-Social Security budget owes the public and how much it owes the trust 

fund. If that is in fact the case, the trust fund balance measures the amount by which 

Social Security cash flows reduce publicly held debt at each point in time, and trust fund 

accumulations therefore increase the government’s capacity to issue public debt in the 

future to finance benefit payments. 

III. Non-Social Security Fiscal Policy Planning 

It has been demonstrated that the trust fund balance is merely an accounting entry 

conveying useful information. It is not a claim on third parties, so somehow losing the 

information would have no implications for the government’s ability to finance its 

operations going forward. But that fact has no bearing on the question of whether the 

trust fund represents real wealth. If fiscal policy planners rationally take account of the 

trust fund accounting information when planning non-Social Security fiscal policy, then 

the trust fund balance accurately measures wealth accumulated for the purposes of paying 

future Social Security benefits. 

To make these points concrete, this section offers simple models of optimal and 

suboptimal non-Social Security fiscal policy planning 

A. Optimal Forward-Looking Planning of the Non-Social Security Budget 

The rational planner of non-Social Security fiscal policy chooses a path for non-Social 

Security expenditures and taxes that satisfy the budget constraint (7b). This section 

considers an illustrative optimal non-Social Security fiscal plan that aims to hold the nonSocial Security primary surplus share of GDP constant. Absent wars and other 

temporary special circumstances, such a policy has a reasonable claim of fairly 

distributing fiscal burdens across generations. 

For purposes of calculating this plan, it is useful to bring all terms of (7b) to the lefthand-side and divide byGDPt−1 . The budget constraint then becomes: 
 7 

(11) 1 [(1 ) /(1 )] 0 O O ti

t i i t

d sr η ∞ −

− = + ++ = ∑ , 

where the real government borrowing rate and the growth rate of real GDP are each 

assumed to be constant at r and η , respectively; i i i

O di = (D + TFB ) / GDP is the nonSocial Security publicly held debt share of GDP; and ( ) / O OO

i ii i s T G GDP = − is the nonSocial Security primary surplus share of GDP. Letting β = (1 ) /(1 ) + + r η , the constant 

non-Social Security primary surplus share of GDP satisfying (11) is: 

(12) O

i s% 1 ( 1) Ot β d = − − ,i tt = + , 1.....

Noting that 1

O OO

i ii d ds = − β − ; , 1..... i tt = + , it can be verified that the non-Social Security 

primary surplus rule (10) implies that the non-Social Security debt-to-GDP ratio forever 

stays constant at 1

O

t d − . This is true only under the assumption that r and η (and hence 

β ) are unchanging over time; otherwise, holding the non-Social Security primary surplus 

share of GDP constant over time implies a fluctuating non-Social Security debt share of 

GDP. 

Same Plan Formulated Without the Aid of Trust Fund Accounting 

Policymakers need not understand trust fund accounting to derive spending rule (11) 

provided they project Social Security cash flows that are consistent with a self-financing 

Social Security system. In this case, planners pay attention to the unified budget 

constraint (5). By analogy with (11), that constraint can be written: 

(13) 1 ( )0 O S ti

t ii i t

d ss β ∞ −

− = + += ∑

where S

i s is the year-i Social Security primary surplus share of GDP. If the Social 

Security system is self-financing (i.e., (7b) holds), then: 

(14) 1 1 / S ti

i tt i t

s TFB GDP β ∞ −

− − = ∑ = − .

If policymakers make projections for Social Security primary surpluses consistent with 

(14), then (13) reduces to (11), the budget constraint observed by the planner who 

understands trust fund accounting. 

It is important to understand that this planning method requires projecting Social Security 

cash flows that are consistent with a self-financing system. If the projected Social 

Security cash flows were projections of current law scheduled taxes and benefits, then the 

implied budget constraint for the non-Social Security budget would be too stringent. 
 8 

B. A Plausible Suboptimal Non-Social Security Budget Planning Strategy 

The rational forward-looking non-Social Security fiscal plan (11) is independent of 

Social Security fiscal policy, which implies that all Social Security surpluses pay down 

publicly held debt relative to what would be the case if there had never been a Social 

Security system. 

If Social Security surpluses are not truly saved, then non-Social Security spending and 

taxes are undoubtedly set with reference to their implications for unified budget totals. A 

very simple fiscal planning strategy with this property sets non-Social Security primary 

surpluses so as to target a unified primary surplus equal to some fixed share of GDP in all 

years. If such a plan starts in year t, then (13) implies it is viable if the unified primary 

surplus share of GDP is set equal to 1( 1) t d − β − in all years: 

(15) 1 1 ( 1) ( 1) , , 1,.... OS O S

jjt j t j s s d s d s j tt % % + = −→ = −− = + − − β β

This plan implies that publicly held debt forever stays constant as a share of GDP 

( 1 1 11 ( ) ( 1) O S

j j jj j j j d d ss d d d = − + = −− = β ββ − − −− % ). The plan can therefore be expressed: 

(16) 1( 1) , O S

j j j sd s % = −− − β

 1 ( ) O S

j j jj d d ss = −+ β − % , j tt = , 1,.... +

The fiscal planning strategy (16) is equivalent to the rational forward-looking planning 

strategy (12) if the Social Security primary surplus share of GDP was to stay constant at 

its year t level in all future years. In that case, both the Social Security and non-Social 

Security primary surplus shares of GDP stay forever constant. But the fact is that 

S s ultimately declines over time under any reasonable Social Security reform that 

prefunds exclusively in the trust fund, so the spending rule (16) results in a constant 

public debt share of GDP and an increasing non-Social Security primary surplus share of 

GDP. The failure to rationally take account of future Social Security finances results in a 

suboptimal non-Social Security policy with primary surpluses that grow over time. 

Growing non-Social Security primary surpluses imply a fiscal policy is more beneficial to 

current generations and less beneficial to future generations than is the corresponding 

rational forward-looking plan given by (12). 

To generalize (16), it is useful to interpret it as a rational planning strategy under the 

assumption the Social Security primary surplus will be forever constant at its current 

level. This interpretation captures the essence of the problem; political constraints 

prevent invoking austerity measures in the present to prepare for declining Social 

Security surpluses in the future. It is as if planners pretend that the future budget 

pressures will not occur. But allowing no foresight beyond the current year is extreme. 

The federal budget makes projections for five years and sometimes ten years ahead and 

Congress often invokes procedural rules targeting multi-year budget totals. Hence, we 
 9 

generalize the model so that the non-Social Security surplus share of GDP in year j is set 

to the level that would be permanently sustainable (i.e., satisfies (13)) if Social Security 

primary surpluses were to equal actual levels through to year j+N-1 and the actual year 

j+N-1 level in all subsequent years, where N is a non-negative integer than can be varied. 

In this case, the model is: 

(17) O

j s% 1 1

1 1 ( 1)[ ] j N Sji S Nj i jN i j β d ss β β + − − − −

− +− = =− − − ∑ 

 1

O S

j j jj d d ss = −− β − % j tt = , 1,.... + 

This model is such that the non-Social Security primary surplus rises or falls in year j 

depending on whether projections on which planning is based worsen ( 1 2

S S

jN jN s s +− +− < ) or 

improve ( 2 2

S S

jN jN s s +− +− > ). In a prefunded system, Social Security primary surpluses 

ultimately fall and adjustments to the non-Social Security primary surplus are on balance 

positive. As a result, non-Social Security primary surpluses are too low initially and 

gradually rise over time in response to worsening projections. 

Finally, the model is modified to allow for the possibility that politics precludes full 

upward adjustments to the non-Social Security primary surplus in response to worsening 

projections. Specifically, the plan is modified to include two regimes given by (17) 

when (17) calls for an unchanging or declining non-Social Security primary surplus share 

of GDP, 

(18a) ˆ

O

t s = Ot s% 1, O Ot t if s s ≤ − %

and which otherwise reverts to a damped version of (17): 

(18b) ˆ

O

t s = 1

O

t s − 1 ( ) O O

t t λ s s + − − % 1, O Ot t if s s > − %

where ˆ

O

t s is the modified plan, Ot s% refers to the one-regime plan (17), and λ ∈[0,1] is a 

parameter reflecting resistance to rises in the non-Social Security primary surplus share 

of GDP. The debt to GDP ratio evolves according to: 

(19) 1 ˆ

O S

t t tt d d ss = −− β −

The model simulated in Section IV is (17), (18a), (18b), and (19) generalized to allow for 

time varying ' β s as documented in Appendix A. The model simulates the time path for 

the non-Social Security primary surplus share of GDP given an initial value for the debt 

to GDP ratio and time paths for β and the Social Security primary surplus share of GDP. 

IV. Simulated Implications of Not Saving Trust Fund Accumulations 

To illustrate the potential importance of taking account of suboptimal fiscal planning 

when designing a Social Security reform, this section utilizes the Section III fiscal 
 10 

planning model to simulate the response of non-Social Security fiscal policy to two 

alternative Social Security reforms that differ only with regard to the breakdown of 

prefunding in the trust fund and prefunding in PRAs. The reforms simulated are the 

Nonpartisan Reform Plan (NRP) proposed in Liebman, McGuineas, and Samwick 

(2005), and a version of that plan that prefunds exclusively in the trust fund. The 

simulations quantify the benefits to future generations of prefunding in PRAs rather than 

in the trust fund under various assumptions about non-Social Security fiscal policy 

planning. 

NRP calls for substantial cuts to defined benefits that are partly made up by benefits 

payable from personal retirement account (PRA) balances. PRA contributions are 3 

percent of current-law covered earnings, where half of PRA contributions are diversions 

of payroll tax revenues and half are mandatory out-of-pocket participant contributions. 

The second plan simulated is the same as NRP except that PRA contributions accumulate 

in the trust fund and PRA benefits are paid from the trust fund. To isolate the effect 

PRAs might have on fiscal planning, PRAs are assumed to earn the same rate of return as 

do trust fund assets. 

The Social Security actuary has scored NRP through to 2080 (Social Security 

Administration, (2005)). After 2080, it is assumed that net contributions to the trust fund 

and to PRAs are forever constant as a share of GDP and are such that PRA balances and 

trust fund balances are also constant as shares of GDP. These assumptions of course 

imply that Social Security is forever self-financing. Estimation details are given in 

Appendix B. 

Figure 1 shows the assumed time path of Social Security primary surpluses under NRP 

and NRP excluding PRAs (NRP-EX). As total contributions are the same under both 

plans, the difference between the primary surplus under NRP-EX and NRP is net PRA 

contributions (gross PRA contributions less benefits payable from PRAs). By 

construction, both time paths for the Social Security primary surplus are just feasible in 

the sense that Social Security’s infinite horizon actuarial balance is zero. 

Total benefits would also be the same under both plans if NRP’s PRAs were invested 

exclusively in federal debt and PRAs do not add to administrative costs. Under those 

assumptions, the only difference between the plans is that PRA balances under NRP 

augment trust fund accumulations under NRP-EX, and benefits paid from PRAs under 

NRP are paid from the trust fund under NRP-EX. 

Figure 1 assumes that post-2080 primary surpluses are flat at the levels that put Social 

Security into an immediate steady state. The NRP primary surplus share of GDP is 

assumed to drop 0.26 percentage points in 2081 and to then stay constant so as to put the 

trust fund balance in a steady state equal to 10.6 percent of GDP. As is documented by 

Table 1, there is no such discontinuity in the assumed primary surplus share of GDP 

under NRP-EX because of an offsetting discontinuity in NRP’s 2081 PRA contributions 

that occurs by chance. NRP-EX cash flows are equal to NRP’s primary surplus plus net 

contributions to NRP’s PRAs, and those net contributions rise by 0.23 percent of GDP in 
 11 

2081 so as to put the PRA balance share of GDP in a steady state equal to 44.1 percent of 

GDP. 

Figure 2 shows the base-case simulations of the non-Social Security primary surplus time 

path under both policies starting from 1969 initial conditions for debt and the non-Social 

Security primary surplus. The simulations assume that the resistance to rising non-Social 

Security surpluses accords with λ = 0.5 , that the look-ahead period for Social Security 

surpluses is N = 5 years, and that the reform plans are not anticipated until 2007, one 

year before they affect Social Security cash flows. (See Table 2 for details concerning 

assumed policymaker expectations). Also, it is assumed that the government borrowing 

rate (also the assumed trust fund rate of return) and the GDP growth rate accord with 

actual values through 2004, 2005 Trustee Report projections for 2005 to 2080, and the 

2080 Trustee Report values for all years thereafter, and that these values are perfectly 

anticipated. The government borrowing rate and trust fund return in years prior to 2005 

is set equal to the U.S. Treasury one-year constant maturity index for the first week of 

each fiscal year. Details of how the model generalizes to the case of varying interest 

rates and GDP growth rates are given in Appendix A. 

The simulations are premised on the assumption that the non-Social Security primary 

surplus share of GDP would be constant if not for the influence of Social Security 

surpluses. Because this assumption is not generally correct, the simulations should not 

be expected to track history. What is important is how Social Security policy affects the 

simulated paths as measured by the difference between the simulations of the optimal 

path and the suboptimal paths associated with NRP and NRP-EX. It is reasonable to 

suppose that this difference would be little affected by how policymaker objectives are 

modeled. 

The optimal policy shown in Figure 2 applies to both NRP and NRP-EX. It calls for a 

constant non-Social Security primary surplus equal to 0.26 percent of GDP. This surplus 

path is just sufficient to service outstanding debt in 1969 that was attributable to nonSocial Security policy, which was 33.8 percent of GDP. (Publicly held debt was 30.2 

percent of GDP and the trust fund balance was 3.6 percent of GDP.) 

The two suboptimal policies begin diverging in 2007 when Social Security reform is first 

anticipated. Relative to the optimal path, simulated non-Social Security surpluses are too 

large between 1969 and 1980 and are too small between 1981 and 2012 under NRP and 

between 1981 and 2030 under NRP-EX. The brief period of simulated austerity in the 

non-Social Security budget between 1969 and 1980 is due to negative Social Security 

primary surpluses between 1973 and 1985 (Figure 1). 

Near-term non-Social Security surpluses are much larger under NRP than under NRPEX. NRP’s PRAs reduce the Social Security primary surplus share of GDP by an 

average of 0.75 percentage points between 2008 and 2047, and the effect on non-Social 

Security fiscal policy is to increase the non-Social Security primary surplus share of GDP 

by an average of 0.72 percentage points between 2007 and 2044. As shown in Figure 3, 
 12 

NRP’s PRAs are simulated to reduce debt attributable to non-Social Security policy by 

about 39 percent of GDP in steady state. 

A useful indicator of the intergenerational fairness of non-Social Security policy is the 

steady-state non-Social Security primary surplus share of GDP. This surplus is 0.43 

percent of GDP under NRP and 1.00 percent of GDP under NRP-EX (Figure 2). These 

surpluses are just sufficient to service steady-state non-Social Security debt, debt that is 

30 percent of GDP under NRP and 69 percent of GDP under NRP-EX. By reducing 

non-Social Security debt accumulation, NRP’s PRAs make possible some combination of 

lower taxes and higher spending that amounts to 0.57 percent of GDP in steady state. 

The implications for the steady-state of other assumptions for the inertia parameter λ and 

the look-ahead period N are reported in Table 3. Higher values of λ result in lower 

steady-state non-Social Security primary surplus (and non-Social Security debt) under 

each policy, but the difference between the two policies is only modestly affected byλ . 

The look-ahead period is more important; relative to the base case, the effect of NRP’s 

PRAs on the simulated steady-state non-Social Security primary surplus is cut by about 

19 percent if N =10 , and is increased by 14 percent if N =1. 

When making judgments as to the most appropriate parameter values, it is important to 

understand that N and λ are meant to reflect political constraints, not information 

available to policymakers. Policymakers have all the information they need to optimally 

plan non-Social Security policy. The optimal non-Social Security policy can be 

implemented simply by ignoring Social Security surpluses and treating the trust fund 

balance as a liability to the non-Social Security budget no different than debt held by the 

public. 

A. “Transition Debt” Associated with PRAs 

Figure 4 shows that total publicly held debt is a very misleading indicator of the fairness 

of fiscal policy when PRAs are in the mix. Despite the fact that NRP leads to essentially 

the same Social Security cash flows for participants and a substantially smaller steadystate non-Social Security primary surplus than NRP-EX, the steady-state publicly held 

debt to GDP ratio is five percentage points higher under NRP than under NRP-EX. This 

apparent contradiction is explained by differences in implicit liabilities to pay Social 

Security defined benefits: This difference–44 percent of GDP in steady state—is the 

difference between the NRP and NRP-EX optimal time profiles of publicly held debt 

shown in Figure 4. 

Increased publicly held debt is the mechanism by which NRP’s PRAs benefit future 

generations. It is by converting implicit liabilities to pay defined benefits into explicit 

publicly held debt that policymakers are induced to choose more responsible non-Social 

Security fiscal policies. And because non-Social Security fiscal policy is more 

responsible under NRP than NRP-EX, the difference between the suboptimal time 

profiles of publicly held debt under NRP and NRP-EX is much smaller than the 

difference between the corresponding optimal profiles. 
 13 

Ironically, many view the “transition” debt caused by PRAs as a negative. This point of 

view reflects a simplistic view that the additional publicly held debt necessarily absorbs 

saving that would otherwise finance real capital investment. This thinking ignores the 

fact that PRAs directly increase privately managed wealth by precisely the same amount 

as they increase publicly held debt, so the direct effect of PRAs on capital formation is nil 

(Mariger, (1999)). And beyond this direct effect on capital formation is an indirect 

effect–PRAs indirectly increase national saving by encouraging a more prudent nonSocial Security fiscal policy. The implication, of course, is that PRAs should cause 

national saving to rise and interest rates to fall despite the increase in publicly held debt. 

The presumption that “transition” debt is undesirable is due to a fundamental 

misunderstanding of how fiscal policy affects the economy. As Laurence Kotlikoff as 

argued for many years and in many different contexts, what matters is how fiscal policy 

transfers wealth across generations, and officially measured deficits and publicly held 

debt are very imperfect measures of those transfers (e.g., Kotlikoff, Auerbach, and 

Gokhale (1991)). NRP is more generous to future generations than NRP-EX, yet it 

results in more steady-state publicly held debt. 

As is argued in Section IV, the flawed logic that underlies the notion that transition debt 

worsens government finances also contributes to policymakers’ focus on the unified 

budget rather than the non-Social Security budget when making fiscal choices. 

B. Intergenerational Fairness and National Saving 

It is noteworthy that the optimal (and suboptimal) fiscal plans shown in Figures 2-4 are 

derived without any explicit regard for national saving. Those plans assume that 

policymakers care only about how fiscal burdens are shared across generations. All 

policymakers need to know to pursue intergenerational fairness is the time paths for the 

government borrowing rate and GDP. 

How fiscal policy allocates fiscal burdens does nevertheless have important implications 

for national saving. When deciding how much fiscal burden to impose on current 

generations relative to future generations, the terms on which those burdens can be traded 

against each other depend on interest rates. For example, if the real government 

borrowing rate is always 3 percent, an additional $1 surplus in 2009 makes possible a 

$4.38 ($1.0350) smaller real surplus in 2059. If policymakers choose to make that trade, 

increased national saving is the vehicle that makes the trade possible. But policymakers 

need not concern themselves with those details any more than an individual must concern 

themselves with national saving when they decide how much to save. They need only 

concern themselves with whether they have accurately projected rates of return and 

whether the trade is a good one. 

With regard to Figure 3, NRP boosts national saving relative to NRP-EX, and that is 

reflected in the lower steady-state non-Social Security primary surplus. Specifically, the 
 14 

reduced steady-state primary surplus is precisely the annual dividend made possible by 

the increased national saving. 

The time path of national saving does have some direct importance for policy choices 

because it helps determine the time paths of interest rates and GDP. However, the 

feedback of national saving on interest rates and GDP actually attenuates the amount of 

national saving a fiscal policy targeting intergenerational fairness generates. In general, 

shifting fiscal burdens from future generations to current generations causes national 

savings to rise, interest rates to fall, and future GDP to rise. Both feedback effects cause 

policymakers to want to put less fiscal burden on current generations, as the feedback 

effects of increasing the fiscal burden on current generations make future generations 

wealthier and worsen the terms on which current fiscal burdens substitute for future fiscal 

burdens (Cutler, Poterba, Sheiner, and Summers, (1990)). By causing policymakers to 

place less fiscal burden on current generations and more on later generations, feedback 

effects attenuate the amount of national saving the plan generates. 

A recent analysis in Diamond and Orszag (2004) illustrates the fallacy of thinking in 

terms of national saving rather than intergenerational fairness when evaluating fiscal 

policy. When considering whether Social Security surpluses are truly saved, those 

authors argue that what matters is how Social Security surpluses affect both government 

saving and private saving. They argue that to the extent that Social Security surpluses are 

offset by smaller non-Social Security surpluses, the negative implications are muted to 

the extent that private saving increases as a result. They then offer a scenario where such 

increases in private saving come about via changes in the distribution of taxes within 

generations. But even if the suggested scenario were true, changes in savings that come 

about because of changes in the distribution of taxes within generations can do little to 

ameliorate the implications of fiscal policy for the distribution of net taxes between

generations that are shown in Figure 3.4

 

V. Thirty Years of Budget Politics

Given that so much rides on the question of whether or not trust fund accumulations pay 

down federal debt, it is important to carefully consider the evidence. That evidence is of 

two general types: formal analysis of historical budget data, and informal observations of 

budget politics. Mariger (2008) considers the budget data and concludes that it weakly 

supports the hypothesis that trust fund accumulations are largely offset by increased nonSocial Security deficits. That evidence is weak because there is little independent yearto-year variation in Social Security surpluses, which makes it difficult to get precise 

 

4

 Imposing a larger fiscal burden on current generations so that a lower fiscal burden is imposed on future 

generations benefits future generations because they pay lower net taxes and less importantly because 

increased national saving increases their wages. Inducing current generations to save more on their own 

account can benefit future generations only via the less important second channel. Moreover, additional 

national saving comes about from reduced near-term national consumption, and that reduction in national 

consumption is shorter lived when it is due to individuals consuming less early in life so they can consume 

more later in life than if it is due to current generations consuming less so that distant future generations 

can consume more. 
 15 

statistical measures of how those surpluses influence other variables. The most 

definitive evidence therefore stems from recent budget deliberations. 

The remainder of this section is organized into two subsections. The first subsection 

offers some conjectures on what policymakers and voters must know in order to save 

Social Security surpluses. That discussion suggests that the level of sophistication 

demonstrated by policymakers is a relevant part of recent budget history. The second 

subsection discusses specific post-1980 fiscal policy developments. 

A. What Policymakers and Voters Must Know in Order to Save Social Security 

Surpluses 

In order to truly save Social Security surpluses, it is reasonable to infer that policymakers 

and voters must understand how trust fund accounting information can be used to plan 

Social Security and non-Social Security policy entirely independently of each other 

(Section III). With that understanding, non-Social Security policy would be planned with 

reference to its implications for the path of gross federal debt—debt held by the public 

and by the trust fund—and annual changes in that debt concept—the non-Social Security 

deficit. While it is possible to rationally plan non-Social Security policy in the context of 

the unified budget (Section III), that approach adds the unnecessary complication of 

projecting primary Social Security surpluses associated with a solvent system. Someone 

understanding the second planning method would also understand the first, and hence 

would elect the relatively easy first option. 

There is little evidence that policymakers or budget experts view trust fund accounting as 

information useful for planning non-Social Security fiscal policy. To the contrary, 

several reputable sources describe trust fund accounting in a way that suggests it has no 

useful purpose other than to automatically authorize Social Security benefit payments. 

Descriptions of the trust funds offered in recent Congressional testimony given by the 

Congressional Budget Office and the General Accountability Office are very similar to 

the description that has been in the Federal budget since at least 1997:

The holdings of the trust funds are not assets of the Government as a whole that can be 

drawn down in the future to fund benefits. Instead, they are claims on the Treasury. When 

trust fund holdings are redeemed to pay benefits, Treasury will have to finance the 

expenditure in the same way as any other Federal expenditure: out of current receipts, by 

borrowing from the public, or by reducing benefits or other expenditures. The existence 

of large trust fund balances, therefore, does not, by itself [emphasis added], increase the 

Government’s ability to pay benefits. 5

 

 

5

 Federal Budget FY2008, Analytical Perspectives, p. 345; Government Accountability Office (2005), p. 2; 

Congressional Budget Office testimony cited in footnote 1. The General Accountability Office testimony 

qualifies its description with the heading: “trust fund solvency alone is not sufficient” but does not explain 

the circumstances under which trust fund solvency implies true solvency. The Congressional Budget 

Office testimony offers no qualifiers. As the FY1997 budget includes essentially the same statement as the 

FY2008 budget, it is inferred that all intervening budgets did as well. 
 16 

The key qualifier “by itself” is not explained. The debate over the meaning of trust fund 

accounting would be greatly elevated if it were explained that “by itself” translates to 

“holding publicly held debt constant,” that trust fund accumulations do in fact increase 

the government’s capacity to pay benefits if they pay down publicly held debt, and that if 

Social Security surpluses pay down publicly held debt dollar for dollar, then the trust 

fund balance at each date is a precise measure of the amount by which Social Security 

has reduced publicly held debt. 

Also telling is the fact that OMB and CBO do not provide information necessary to plan 

non-Social Security policy independently of Social Security policy, at least not on a 

regular basis. Their long-range budget analyses exclusively take a unified perspective. 

In those analyses, Social Security revenues and outlays are lumped with other revenues 

and outlays for purposes of measuring fiscal imbalances, and policymakers are offered no 

metric of how much non-Social Security fiscal policy must change to make it alone 

sustainable. (For example, see Congressional Budget Office (2005) and Office of 

Management and Budget (2002).) 

In one special case—when there are baseline unified surpluses—policymakers and voters 

act as though they comprehend what it means to save Social Security surpluses in the 

context of a unified budget. In that case, it is relatively easy to infer that the unified 

surplus up to the amount of the Social Security surplus is saved for Social Security. But 

while this perceived understanding potentially enables Social Security surpluses to be 

saved, the understanding is flawed, as it is possible to save the entire Social Security 

surplus while running a unified surplus substantially smaller than the Social Security 

surplus. This latter possibility can be comprehended only when thinking in terms a nonSocial Security budget that is entirely separate from the Social Security budget. 

B. Specific Budget Developments 

Gramm-Rudman-Hollings 

The Balanced Budget and Emergency Deficit Control Act of 1985 (Gramm-RudmanHollings) was a desperate attempt to get deficits down from unprecedented peacetime 

levels. The Act set unified deficit targets for FY1987 to FY1991 that steadily declined 

and reached $0 in FY1991. The targets were revised up and extended to FY1993 in a 

1987 amendment, and again the terminal target was $0. The fact that the targets were in 

terms of unified rather than non-Social Security deficits is telling. Blinder (1990) and 

others have argued that the targets could easily have been non-Social Security deficit 

targets that were translated to unified targets, but if that were so, why didn’t the targets 

extend further into the future and terminate at a unified surplus equal to the projected 

Social Security surplus? And expressing non-Social Security deficit targets in terms of 

unified deficit targets has a cost, as projection errors for Social Security surpluses 

illogically relax or strengthen the implied non-Social Security deficit targets. 

It might be argued that because the Gramm-Rudman-Hollings deficit targets were not 

met, it would not have made any difference what Congress or voters thought was the best 
 17 

measure of fiscal prudence. This view is taken by Diamond and Orszag (2004). They 

suggest that the deficit reduction in the late 1980s and early 1990s “was driven mostly by 

the qualitative view that the deficit was excessive, instead of being calibrated to the exact 

size of some measure of the deficit” and therefore “it seems plausible to us that increases 

in the Social Security surplus did not generate significant increases in the non-Social 

Security deficit.” This argument seemingly denies any rationality in the choice of target 

and actual deficits. If the target and actual deficits were rationally chosen, they’d take 

account of the fact that each person’s most preferred policy equates the perceived 

marginal benefits and costs of deficit reduction, and the perceived marginal benefits of 

deficit reduction would surely be larger if perceived fiscal prudence corresponded with 

the non-Social Security deficit than if it corresponded to the unified deficit. 

The Threat to Return Social Security To Pay-As-You-Go Financing 

The bipartisan National Economic Commission was created by Congress in 1987 to 

recommend ways to reduce the federal deficit. It included two Senators, two House 

members, and ten members from the private sector. As the Republican and Democratic 

members could not find common ground, the 1989 report was split into a Republican 

Majority Report and a Democratic Minority Report. The concluding section of the 

Minority Report included this statement: 

Let no one suppose that a Democratic Congress will much longer allow a payroll tax to be 

used to service a $2 to $3 trillion debt owned in vastly disproportionate amounts by wealthy 

individuals and institutions. It already requires nearly one-half the revenues of the income 

tax to pay interest. This surely is the largest transfer of wealth from labor to capital in the 

history of our political arithmetic. But at least this is a graduated tax. By 1992 the trust 

fund reserves will have reached 100 percent of annual outlays; a considerable reserve. By 

1994 the proportion reaches 150 percent. If, in the next five years, no arrangements are 

made to save the future incomes of the funds, Congress – you may depend on it – will 

return to pay-as-you-go financing. 

Two years later, Senator Moynihan, a Democratic member of the Commission, 

introduced a bill in the Senate Finance Committee that would have made good on this 

threat. The bill would have increased the maximum taxable payroll and adjusted tax rates 

so as to achieve approximate pay-as-you-go financing of Social Security benefits. The 

bill had ten sponsors and cosponsors, four of them Republicans. The identical 

companion bill in the House had 37 sponsors and cosponsors, 14 of them Republicans. 

Neither bill got out of committee.6

The Push for a Balanced Budget Amendment to the U.S. Constitution 

The fact that the Gramm-Rudman-Hollings deficit targets were expressed in terms of 

unified deficits rather than non-Social Security deficits might be excused by the fact that 

substantial Social Security surpluses were a relatively new phenomenon. But a proposed 

1995 Balanced Budget Amendment to the Constitution that was passed the House of 

 

6

 S.11 and HR.524 were both introduced to their respective Houses of Congress on January 14, 1991. 
 18 

Representatives and was narrowly defeated in the Senate also targeted unified budget 

balance. It is probable the amendment would have passed in the Senate if it had been 

modified to appease some Democrats who wished to target non-Social Security budget 

balance rather than unified balance so as to protect Social Security from austerity 

measures.7

 The same dispute arose in a 1997 Senate debate over a proposed balanced 

budget amendment. Republicans were again opposed to targeting non-Social Security 

budget balance. The Republican Chairmen of the Senate and House Budget committees 

offered objections suggesting a profound misunderstanding what it means to save Social 

Security surpluses and what would be gained: 8 

“If it is true that excluding Social Security from the balanced-budget amendment would force 

us to “save” the short-term surplus, it is equally true that excluding Social Security would 

allow us to run massive budget deficits... beginning in 2019 ....Ironically, these massive and 

unprecedented deficits would be specifically sanctioned by an amendment to the 

Constitution.” (Pete V. Domenici, Senate Budget Committee Chairman) 

“There are no trust funds. There's not a stack of bonds, there's IOUs.” (John R. Kasich, 

House Budget Committee Chairman.) 

Of course, the point of saving the Social Security surpluses is to make room for publicly 

held debt issuance (i.e., deficits) when the old-age dependency ratio is higher than it is at 

the time of the surpluses. And while the trust funds might be just IOUs not representing 

real saving under the status quo, the point of a balanced budget amendment for the nonSocial Security budget is to ensure that Social Security surpluses are in fact saved. 

“Save Social Security First” – The Clinton FY2000 Budget 

The Clinton FY2000 budget projected baseline unified surpluses in every year of the tenyear budget window extending to FY2009 and non-Social Security surpluses starting in 

FY2001. In order to “save Social Security first,” the budget proposed to transfer 62 

percent of the unified surplus in the FY2000-FY2014 period to the trust fund despite the 

fact that most of the projected unified surplus were Social Security surpluses that would 

be credited the trust fund once already.9

 Three Administration insiders explain this as a 

strategy for avoiding the logical alternative means of preserving Social Security 

surpluses: Start with the baseline non-Social Security surpluses and explicitly allocate 

them to various policy proposals (Elmendorf, Liebman, and Wilcox (2001)). This latter 

strategy was rejected because the Administration’s policy proposals were too expensive 

and would have dissipated not only the baseline non-Social Security surpluses but also 

some of the Social Security surpluses. Either the Administration thought that making 

proposals that would eat into Social Security surpluses was not consistent with saving 

Social Security surpluses (not necessarily true), or they thought voters would think so. 

 

7

 Wildavsky and Caiden (1997), p. 303. 

8

 Congressional Quarterly Weekly Report (1997) 

9

 The budget included baseline surplus estimates for only ten years. Over that period, 70 percent of the 

projected unified surpluses were Social Security surpluses. 
 19 

As a result of stronger-than-expected receipts in the first half of 1999, the FY2000 

Midsession Review boosted the baseline ten-year unified surplus projection 21 percent 

above the levels projected in the budget. This development enabled a revised budgeting 

strategy. Social Security surpluses would be preserved in their entirely, and non-Social 

Security surpluses would be explicitly allocated to various uses. One line item in the 

allocation of non-Social Security surpluses was a general revenue transfer to the trust 

fund equal to the estimated net interest savings that would come about if the post-1999 

Social Security surpluses paid down federal debt. Unacknowledged in the Midsession 

Review or in Elmendorf, Liebman, and Wilcox (2001) is the fact that this would also 

constitute a double-credit to the trust fund, as interest paid to the trust fund represents net 

interest savings that come about if Social Security surpluses pay down federal debt. 

The Administration presumably made a calculated decision to obscure the issues to 

increase the likelihood that the baseline surpluses would be preserved. But those tactics 

could have been effective only for as long as there were baseline unified surpluses that 

could be allocated in part to Social Security. Once projected baseline unified surpluses 

disappeared, policymakers and voters were again without clear guidelines as to what it 

means to save Social Security surpluses. If the Administration had instead proposed 

planning non-Social Security policy based on gross federal debt and its year-to-year 

changes, its PR campaign might have had a more lasting effect. 

Social Security “Lock Boxes” 

The Republican response to the Clinton save-social-security-first campaign was Social 

Security “lock-boxes.” The more stringent proposed lock-box mechanisms called for 

creating a limit on debt held by the public in addition to the current limit that applies to 

gross public debt (publicly held debt plus trust fund debt). The proposed limit on debt 

held by the public would have declined in accordance with projected Social Security 

surpluses (Koitz, Kollmann and Nuschler (2001)). It is revealing that an equivalent and 

simpler mechanism for achieving the same end was not proposed–set unchanging limits 

on gross publicly held debt. If it was understood that gross publicly held debt is the 

pertinent debt concept for planning non-Social Security fiscal policy, this second option 

would have been the natural choice. 

Like with the Clinton Administration approach to saving Social Security surpluses, Lock 

Boxes aren’t a useful tool for saving Social Security surpluses when baseline unified 

surpluses are negative. In that case, the artificial bright line between saving and not 

saving Social Security surpluses (when the unified surplus is larger or smaller than the 

Social Security surplus) disappears and fiscal policy is once again without clear 

navigational beacons. 
 20 

The Return to Baseline Unified Deficits 

The G.W. Bush Administration initially adopted a policy of maintaining unified surpluses 

at least as large as Social Security surpluses. But this policy was abandoned when the 

economy went into recession and national security outlays increased after the September 

11, 2001 terrorist attacks. The 2003 tax cuts were justified by Republicans as a means to 

lift the economy out of recession, but there was no impetus from Republicans to restore 

the lost revenues after the economy recovered. Likewise, the increase in national security 

expenditures was largely permanent, yet there was little effort to find permanent offsets. 

Also revealing is the fact that the Administration’s deficit reduction targets have been 

stated in terms of the unified deficit rather than the on-budget deficit. Specifically, the 

goal set in the FY2005 federal budget was to achieve a FY2009 unified deficit half as 

large as the FY2004 unified deficit. 

The Recent Social Security Reform Debate 

The debate spawned by the G.W. Bush administration’s Social Security reform efforts 

has exposed fundamental misunderstanding of how Social Security affects long-term 

fiscal balance and the economy. Specifically, the meaning of the date when Social 

Security’s cash flows first become negative–currently projected to be 2017—has been 

confused, as has the meaning of so-called “transition debt” associated with introducing 

PRAs. These confusions cast serious doubt on the possibility that policymakers and 

voters understand what it means to plan non-Social Security policy independently of 

Social Security policy. 

Policymakers who believe Social Security surpluses are not saved invariably measure the 

Social Security’s fiscal imbalance with reference to Social Security’s cash flows rather 

than the trust fund balance. For example, the August 2000 interim report of the 

President’s Commission to Strengthen Social Security states: “In 2016, the program’s 

benefit obligations will exceed its annual tax revenue. While the government will 

continue to pay benefits, 2016 is the beginning of a long-term financing problem for the 

government.” The point of this statement is that Social Security reform is more urgent 

than the trust fund balance projections suggest. Recent General Accountability Office 

congressional testimony makes the same point (General Accountability Office (2005)). 

As it stands, this thinking leads to contradictions. It would imply that reforms that divert 

payroll tax revenues to PRAs and reduce defined benefits in an actuarially fair manner 

would worsen long-term fiscal imbalances. It would also imply that increasing payroll 

tax revenues so as to postpone the negative cash flow date would improve long-term 

federal finances. But assuming Social Security surpluses are not saved, both inferences 

are wrong. In the first instance, the government’s long-term finances are entirely 

unaffected except that non-Social Security surpluses would presumably rise. In the 

second instance, the additional revenues only make it possible for non-Social Security 

policy to be irresponsible for longer. 
 21 

The problem with simply citing the negative cash flow date as an indicator of Social 

Security’s financial imbalance is that it gets the timing of fiscal problems wrong and it 

confuses imbalance in the non-Social Security budget for imbalances in the Social 

Security budget. If the premise that Social Security surpluses are not saved is accepted, 

then the negative cash flow date does not signal the beginning of fiscal problems; the 

fiscal problem is that Social Security surpluses now, in the past, and in the future cause 

correspondingly lower non-Social Security surpluses. It is an ongoing problem, and it is 

a non-Social Security budget problem that has only been facilitated by Social Security 

budget policy. 

The simulations of the Social Security reform NRP-EX in Section IV make these points 

concrete. Recall that this plan relies on trust fund accumulations to make Social Security 

nominally solvent. Under that plan, the Social Security primary surplus share of GDP 

stays about flat through to 2017 and then commences a steady decline, turning negative 

in 2033 and reaching a steady state of –0.8 percent in 2080 (Figure 1). Prior to the steady 

state, near-term Social Security primary surpluses are always larger than surpluses in the 

more distant future, and this causes policymakers to choose a smaller non-Social Security 

primary surplus than they would if they had better foresight. The problem, summarized 

by publicly held debt attributable to non-Social Security policy as a share of GDP (Figure 

3), gets ever worse before peaking in steady-state. Nothing special happens in 2033 

when the Social Security primary surplus turns negative. 

The fixation with Social Security’s negative cash flow date reflects a more general 

fixation with cash flows and publicly held debt as indicators of the stance of fiscal policy. 

Currently, it appears that Social Security is greatly holding down federal liabilities. But 

any reasonable measure of the Social Security benefit accruals would show that current 

Social Security liabilities far exceed outstanding publicly held debt. If it were understood 

that Social Security benefit promises are an implicit liability that have approximately the 

same implications for the economy and long-term fiscal balance as do explicit liabilities 

taking the form of publicly held debt, it would be understood that the government’s fiscal 

problems are ongoing and that the negative cash flow date has little significance.10

The belief that the key fiscal policy indicators are cash flows and publicly held debt is 

also at the root of misguided concern about “transition debt” associated with PRAs. For 

example, the PRAs proposed in the G.W. Bush FY2007 budget would have subtracted 

substantially from the government’s near- and mid-term cash flows but would 

nevertheless have left the government’s long-term fiscal position only slightly 

compromised. For every dollar contributed to the PRA, publicly held debt would rise by 

a dollar, but the present value of the government’s obligations to pay defined benefits 

would be reduced by about $0.94.11 And the $0.06 net worsening of the government’s 

 

10 Because publicly held debt is tradable and promises to pay defined benefits are non-tradable, there may 

be some second-order differences in the economic implications of implicit and explicit government 

liabilities. 

11 The Administration’s proposed PRAs would have been combined with cuts in traditional benefits equal 

to the annuity value of a notional PRA balance computed as if PRAs earned an annual return 0.3 percentage 

points less than the real government borrowing rate. Assuming a 3 percent real government borrowing rate 

and real PRA contributions growing at a 1.1 percent annual rate between age 25 and 65, an individual’s 
 22 

long-term budget balance would presumably be made up with other Social Security 

reforms. Yet many if not most policymakers expected that this transition debt would 

have the same effects on the economy and government finances as would debt issued for 

the purposes of financing additional federal purchases. Even presumably disinterested 

professional economists at the International Monetary Fund offered this assessment: 

“The Administration’s proposal for personal retirement accounts (PRAs) would not help 

place the system on a sustainable basis and would significantly raise federal deficits and 

debt in coming decades.” (International Monetary Fund (2005)) 

Despite prodding from U.S. Treasury staff, the IMF document made no attempt to 

explain that the proposed PRAs would have reduced the government’s implicit liabilities 

by almost as much as it increases its explicit liabilities. 

The fact that many PRA supporters are concerned about transition debt is especially 

curious. The major advantage of PRAs is that they increase unified deficits so that they 

better approximate the annual net increase in true government liabilities while not 

changing those liabilities. It is only by increasing unified deficits so as to make 

policymakers better aware of the true state of fiscal policy that PRAs would facilitate a 

more responsible non-Social Security budget policy. 

VI. Implications for Social Security Reform

If trust fund accumulations are not truly saved, then the possibilities for making Social 

Security fair to future generations are greatly limited. Large dividends would be paid, 

therefore, if an alternative effective prefunding mechanism could be found. Full-fledged 

PRAs are only one such option. But other possibilities exist. For example, simple nofrills PRAs invested exclusively in federal debt and administered by a semi-autonomous 

government entity very possibly would succeed at making it obvious to policymakers and 

voters that the PRA balances are not available to fund non-Social Security programs. 

If political constraints dictate that attempted prefunding take place in the trust fund, and if 

such prefunding is offset with smaller non-Social Security surpluses, then it would be 

rational to skew Social Security reform in the direction of limiting trust fund 

accumulations in a manner that benefits future generations. Relative to a first-best reform 

with effective prefunding, it is argued below that a second-best policy with ineffective 

prefunding calls for lower benefits levels. The argument has two parts: First, two high 

level policy choices that determine the level of trust fund accumulations are identified, 

and then the effects on the welfare of future generations of modifying those choices are 

analyzed. 

 

 notional PRA balance at retirement would be 94 percent as large as the increase in federal debt attributable 

to the individual’s lifetime PRA contributions. 
 23 

Two Key High-Level Policy Choices 

It is shown in Mariger (1999) that Social Security’s payroll taxes can be interpreted as a 

combination of forced saving and pure taxes necessary to service an implicit government 

debt that arose because of wealth transfers made to generations that now are either retired 

or deceased (roughly individuals born prior to 1930). For example, if an individual pays 

lifetime payroll taxes with a present value of $200,000 and receives lifetime benefits with 

a present value of $150,000, then the $200,000 of lifetime payroll taxes divide into 

$150,000 of forced saving and a $50,000 pure tax. Note that the level of forced saving 

determines the level of benefits.12

Two key Social Security policy decisions are: (1) How should the pure taxes necessary 

to service Social Security’s implicit debt burden be distributed across the generations that 

will be subject to reform, and (2) how large should be benefits (forced saving). Together, 

these two choices determine the amount and timing of trust fund accumulations. Relative 

to a first-best reform, the choices can be skewed so as to reduce trust fund accumulations 

if benefit levels are reduced while holding pure tax burdens constant, or if the share of the 

Social Security pure tax burden that is imposed on early birth cohorts is reduced while 

keeping benefit levels constant. However, as is discussed below, only the first method of 

reducing trust fund accumulations would benefit future generations. 

Reducing Benefit Levels While Holding Pure Tax Burdens Constant 

An inability to prefund Social Security benefits has an important effect on the decision of 

how large to make benefits. Compared with a reform that would be best overall if trust 

fund accumulations were truly saved, lowering each person’s taxes paid while working 

and benefits received in retirement in an actuarially fair manner (that is, reducing forced 

saving) would greatly reduce trust fund accumulations without affecting Social Security’s 

solvency or changing the distribution of Social Security’s pure taxes across birth cohorts 

or income groups within birth cohorts. This policy change would have little effect on the 

well-being or retirement incomes of individuals who increase their private saving by the 

amount of their tax reductions— such people would do less forced saving through Social 

Security but make it up by saving more on their own. Individuals who do not save their 

tax reductions, however, might have inadequate income in retirement. That downside 

must be weighed against the increased fairness of overall fiscal policy toward future 

generations. 

 

12 What is important for this discussion is pure taxes and forced saving aggregated across members of the 

various birth cohorts. For birth cohorts, Social Security will levy a positive pure tax on all birth cohorts. It 

is worth noting, however, that the division of Social Security payroll taxes into pure taxes and forced 

saving makes sense for a low-income individual receiving a net lifetime transfers from Social Security. 

Such an individual receives lifetime transfers from other members of his or her birth cohort, and forced 

saving is equal to payroll taxes plus transfers received. 
 24 

Changing the Distribution of the Pure Tax Burdens While Holding Benefit Levels 

Constant 

Suppose the level of benefits (that is, forced saving) is held constant. Then trust fund 

accumulations could be reduced by shifting pure tax burdens only if payroll taxes were 

reduced for early birth cohorts and increased for later birth cohorts. But while this policy 

would reduce trust fund accumulations, it clearly would not benefit future generations.13 

VII. Summary and Conclusion 

The essential points made in this paper are: 

• Trust fund accounting is merely accounting, but accounting that matters if 

policymakers and voters understand how it can be used to independently plan 

Social Security and non-Social Security fiscal policy. 

• If non-Social Security policy is planned independently of Social Security policy, 

then: (i) the trust fund balance at each date is a precise measure of how much 

Social Security has reduced publicly held debt as of that time, (ii) by reducing 

publicly held debt issuance when the old-age dependency ratio is relatively low, 

Social Security surpluses make it possible to issue additional publicly held debt in 

the future to help pay Social Security benefits when the old-age dependency ratio 

is relatively high, and (iii) the trust fund, while not itself constituting financial 

claims on third parties, accurately measures real wealth that has been put aside to 

pay future Social Security benefits. 

• Whether or not Social Security surpluses are saved has extremely important 

implications for fiscal policy planning. If Social Security surpluses are not saved, 

then Social Security reform that relies on trust fund accumulations to make Social 

Security fair across generations is neutralized by a non-Social Security fiscal 

policy that is less fair across generations. In this case, large dividends would be 

paid if an effective alternative means of prefunding Social Security could be 

found. 

• Non-Social Security policy can be independent of Social Security policy only if 

non-Social Security budget decisions are guided solely by their implications for 

gross federal debt (publicly held debt plus the trust fund balance) and its changes 

as measured by the non-Social Security deficit. This would imply that planners of 

non-Social Security policy view non-Social Security liabilities held by the trust 

fund as every bit as real as debt held by the public. 

• If planners of non-Social Security policy view Social Security surpluses as 

reducing the need to reduce non-Social Security deficits, then Social Security 

 

13 However, it is worth noting that shifting the payroll tax burden from early to later generations would also 

not harm later generations if trust fund accumulations are not truly saved. To see this, suppose payroll 

taxes are reduced in the near term and increased in the longer term so that the present value of payroll tax 

revenues is unchanged, and that the near-term payroll tax increases are exactly offset by higher non- Social 

Security revenues in every year. Then the amount of publicly held debt that future generations inherit 

would not be changed, and nor would their benefit payment obligations. It follows that those generations 

are made no better or worse off by the policy change. 
 25 

surpluses are not wholly saved. The perception of a reduced need to reduce nonSocial Security deficits might be due to an illusion that current Social Security 

surpluses are more permanent than they are, or an illusion that the unified deficit 

is a better measure of fiscal policy’s effect on the economy than is the non-Social 

Security deficit. 

• A common-sense interpretation of recent budget history suggests that the odds 

that Social Security surpluses are not saved are very significant. 

• If political constraints demand that Social Security prefunding be attempted in the 

trust fund and such prefunding is undone with smaller non-Social Security 

surpluses, then it would be rational to compromise other Social Security reform 

objectives so as to reduce such attempted prefunding. Specifically, relative to a 

first-best reform with effective prefunding, smaller benefit levels would be 

appropriate.
 26 

Appendix A 

The Simulation Model Generalized to the Case of Varying 

Interest Rates and GDP Growth Rates 

To ease exposition, the Section III models specialize to case where the real government 

borrowing rate and the growth rate of real GDP are constant. The simulations in Section 

IV, on the other hand, assume historical values for these variables through to 2004 and 

projections thereafter and hence are based on a more general model that is derived in this 

appendix. 

The Non-Social Security Budget Constraint 

A straight-forward generalization of the non-Social Security budget constraint (11) is: 

(A1) 1

1 [ ]0 O O i

t ik i t k t

d s β ∞ −

− = = + = ∑ ∏

where (1 ) /(1 ) kkk β =+ + r η depends on the year-k real government borrowing rate kr and 

real GDP growth rate ηk . 

The Optimal Non-Social Security Primary Surplus Path 

The constant non-Social Security surplus share of GDP satisfying (A1) is: 

(A2) O

i s% 1

O

t t z d = − ,i tt = + , 1.....

where the series 1 1 , , 1,.... j

m k j m k m z m tt β − − ∞

= = = =+ ∑ ∏ and , , 1,.... mz m tt = + can be 

calculated recursively as follows:

(A3) 11 11 1

11 1 (1 ) (1 ) j

mm k m m j m k m z z β ββ −− −− − ∞

−− − = = =+ =+ ∑ ∏ 1 1

1 1(1 ) mm m z z β − − ↔= + − −

Once in steady-state with β unchanging, z is also unchanging and equal to 1 β − . 

Working back from the first steady-state year, the entire time profile for z can be 

computed using (A3). 

Suboptimal Non-Social Security Primary Surplus Path When There is No Budget 

Inertia 

The λ =1 suboptimal non-Social Security primary surplus path , , 1,.... O

ms m tt % = + is 

planned in the context of the unified budget constraint. By analogy with (A1), that 

budget constraint is: 

(A4) 1

1 ( )[ ] 0 O S i

t ii k i t k t

d ss β ∞ −

− = = ++ = ∑ ∏
 27 

The simulation model assumes the planner makes accurate projections of the Social 

Security primary surplus for years t, t+1, ..., t+N-1, but assumes surpluses beyond year 

t+N-1 are equal to the year t-N-1 projection. Hence, the planned non-Social Security 

primary surplus for year t O

t s% satisfies: 

(A5) 1 1 11

1 11 [] 0 t N i S SO

t i k tN tN t t i t k t d s s z sz β + − − −−

− +− +− = = + + += ∑ ∏ %

which implies: 

(A6) 1 1 1

1 11 [ [] ] O SS t N i

t t t i k tN tN i t k t s zd s s z β + − − −

− +− +− = = % =− + + ∑ ∏

Suboptimal Non-Social Security Primary Surplus Path When 0 1 < λ <

If there is resistance to increases in the non-Social Security primary surplus, then the 

suboptimal plan takes the form: 

(A7) ˆ ˆ

OO OO

tt tt s s if s s = ≥ % %

 1 11 ˆ ( ) O O OO O O

t t tt t t s s s s if s s =+ − < − −− λ % %
 28 

Appendix B 

 Social Security Primary Surplus Projections Under NRP and NRP-EX 

I. NRP Estimates 

The Social Security actuary has made 75-year projections of NRP’s effects on 

government cash flows and trust fund balances (Social Security Administration (2005)). 

The simulation model assumes that the annual government borrowing rate and the trust 

fund yield are the same, as must be true if the government’s overall budget constraint 

divides neatly into a Social Security part and a non- Social Security part. For the period 

1969-2004, this return is measured as the U.S. Treasury constant one-year constant 

maturity index for the first week of each fiscal year. As this rate is not precisely the same 

as the trust fund yield, simulated historical trust fund balances do not equal actual 

balances. In 2004, the simulated trust fund balance share of GDP is 11.4 percent, which 

compares with the actual balance equal to 14.4 percent. 

After 2004, the government borrowing rate and the trust fund return are set to the 2005 

Trustee Report projections for the trust fund return. 

In 2080, projections of the trust fund balance and the primary surplus as shares of GDP 

are 10.56 percent and 0.11 percent, respectively. To put Social Security in an immediate 

steady-state in 2081, it is assumed the primary surplus share of GDP falls to -0.15 percent 

in that year and forever stays at that level. 

II. NRP-EX Estimates 

NRP-EX makes NRP’s PRA cash flows part of government cash flows. Hence, 

government cash flows under NRP-EX are NRP cash flows explained above plus NRP 

PRA cash flows. 

NRP’s PRA cash flows are based on the Social Security actuary’s projections for PRA 

contributions and PRA balances through to 2080. Given contributions to PRAs, PRA 

balances, and the assumed PRA rate of return, it is possible to back out estimates of 

benefits paid from PRAs. The PRA benefit estimates are then multiplied by a factor of 

1.067 to adjust to the assumption that PRAs earn the same return as the trust funds. That 

estimate is based on the evolution of PRA balances for a hypothetical individual whose 

real contributions grow at 1.1 percent annually between ages 25 and 65 and who either 

earns a 2.7 percent real annual return (the Social Security actuary’s assumption) or a 3.0 

percent real annual return (the assumed real government borrowing rate). The age-65 

PRA balance is 6.7 percent higher in the latter case than in the former. 

In 2080, projections of PRA balances and net contributions as shares of GDP are 42.47 

percent and -0.89 percent, respectively. To put the PRAs in an immediate steady-state in 

2081, it is assumed the net contribution share of GDP rises to -0.62 percent in that year 

and forever stays at that level. 
 29 

Primary 

Surplus*

Prefunding

Balance**

Primary

Surplus

Prefunding

Balance**

NRP Trust Fund 0.11 10.56 -0.15 10.56

NRP PRAs -0.87 44.11 -0.64 44.11

NRP-EX Trust Fund 

= NRP + NRP PRAs -0.76 54.67 -0.80 54.67

Table 1

Post-2080 Steady-State Assumptions*

(Percent of GDP)

NRP

Component

*PRA primary surplus equals actuary's estimate of contributions less inferred PRA benefits. PRA benefits 

are inferred from actuary's estimated PRA balances, contributions, and rate of return equal to the Trust Fund 

return less 0.3 percentage points, and are then augmented by 7 percent to account for the assumption of a 0.3 

percentage point higher annual rate of return.

**PRA balances are inferred from net PRA contributions (see * above) and an assumed rate of return equal 

to the Trust Fund rate of return.

2080 Inferences 2081+ Steady State

1970-2004 2005-2007 2008+

1970-2006 Actual values

2005 Trustee Report

projections*

= assumed actuals

2005 Trustee Report

projections*

2007+ na na

Actuary's scorings of 

reform plans

= assumed actuals

Year

Expectation 

Held

*2005 Trustee Report projections are assumed because the actuary's scorings of NRP is based on the 

economic and demographic assumptions of that report.

Table 2

Policymaker Expectation of Social Security Primary Surpluses 

Within the Look-Ahead Period

Year in Which Look-Ahead Period Expected Surplus Occurs
 30 

0.1 0.5 1 0.1 0.5 1 0.1 0.5 1

1 0.70 0.43 0.39 1.40 1.08 1.03 0.70 0.65 0.64

5 0.66 0.43 0.40 1.27 1.00 0.96 0.61 0.57 0.56

10 0.65 0.44 0.41 1.17 0.90 0.87 0.51 0.46 0.45

1 48.35 29.74 27.01 96.25 74.16 71.12 47.9 44.4 44.1

5 45.39 29.65 27.34 87.26 68.61 66.07 41.9 39.0 38.7

10 44.76 30.48 28.49 80.07 62.10 59.62 35.3 31.6 31.1

Table 3

Simulated Steady-State Non-Social Security Surplus and Publicly-Held Debt 

Attributable to Non-Social Security Policy

(Percent of GDP)

Look

Ahead

Period N

(Years) -------------------------------------Non-Social Security Surplus------------------------------------------

---------------------Publicly-Held Debt Attributable to Non-Social Security Policy-------------

NRP, 

Inertia Parameter λ=

NRP-EX, 

Inertia Parameter λ=

NRP-EX Less NRP, 

Inertia Parameter λ=
 31 

Figure 1

Social Security Primary Surplus Share of GDP Under NRP and NRA ex PRAs*

-1

-0.5

0

0.5

1

1.5

1973

1977

1981

1985

1989

1993

1997

2001

2005

2009

2013

2017

2021

2025

2029

2033

2037

2041

2045

2049

2053

2057

2061

2065

2069

2073

2077

2081

20

Year

Percent

 NRP

Net PRAcontributions NRP-Ex PRAs** 

*NRP policy through 2080 as projected by Social Security actuary. After 2080, the net Social Security contribution share of GDP (including PRA net assumed constant at the level that is consistent with both the Trust Fund and PRA balances as share of GDP being in steady-state. Total Social Seccontributions (including PRA contributions and distributions) are the same under both policies, and Social Security's infinite horizon actuarial balance zero. To isolate the effect PRAs have on fiscal planning, PRAs are assumed to earn the same rate of return as the Trust Fund (imply no PRA admin
 32 

Figure 2

Simulated Non-Social Security Primary Surplus Share of GDP Starting 

From 1969 Initial Conditions

-1

-0.5

0

0.5

1

1.5

1973

1977

1981

1985

1989

1993

1997

2001

2005

2009

2013

2017

2021

2025

2029

2033

2037

2041

2045

2049

2053

2057

2061

2065

2069

2073

2077

2081

208

Year

Percent

Optimal, Independent of Social Security Policy

NRP, Suboptimal, Lambda = .5

NRP-EX, Suboptimal, Lambda = .5, 
 33 

Figure 3

Simulated Time Path for Public Debt Attributable to Non-Social Security Policy

(Percent of GDP)

1020304050607080

1973

1977

1981

1985

1989

1993

1997

2001

2005

2009

2013

2017

2021

2025

2029

2033

2037

2041

2045

2049

2053

2057

2061

2065

2069

2073

2077

2081

208

Year

Percent

Suboptimal, NRP-EXOptimal

Suboptimal, N
 34 

Figure 4

Simulated Time Path for Total Publicly-Held Debt

(Percent of GDP)

-40-30-20-10

0

102030

1973

1977

1981

1985

1989

1993

1997

2001

2005

2009

2013

2017

2021

2025

2029

2033

2037

2041

2045

2049

2053

2057

2061

2065

2069

2073

2077

2081

208

Year

Percent

Suboptimal

Optimal, NRP-EX

Suboptimal, NRP

Optimal, NRP
 35 

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