The United States is projected to undergo a demographic shift as the aging of the baby boomers causes an unprecedented increase in the fraction of the population that is retired. Coupled with rising life expectancy, this means, under current policy, a steady increase in the portion of the population that is both out of the workforce and receiving social insurance benefits from the government. At the same time, the cost of health care has persistently outpaced income growth, and may continue to do so while an aging population is utilizing more health care. If left unattended, this situation poses serious challenges for the government's fiscal position and the economy as a whole. Following the financial crisis, the budget deficit reached 10% of gross domestic product (GDP) in 2009 and 9% of GDP in 2010, a level that cannot be sustained in the long run. Concerns about long-term fiscal sustainability depend on the projected future path of the budget, absent future policy changes. While the recent growth in the budget deficit was due to short-term developments unrelated to entitlement spending on the elderly, the projected path of the budget in the long run primarily depends on the future path of entitlement spending. This report analyzes the long-run path of the federal budget; for a discussion of the current fiscal situation, see CRS Report R40770, The Sustainability of the Federal Budget Deficit: Market Confidence and Economic Effects . Social Security and Medicare are financed primarily on a pay-as-you-go basis: benefits paid to today's elderly are based on dedicated payroll taxes collected from today's workers. Under current policy, expenditures are projected to grow much more rapidly than revenues because of the increase in retirees relative to workers. The worker to recipient ratio for Social Security is shown in Figure 1 and is projected to fall from 3.0 workers per recipient in 2009 to 2.1 workers per recipient in 2035. (The worker to recipient ratio for Medicare is slightly lower than for Social Security, but exhibits the same pattern over the long-run projection.) The projected decline in the worker to recipient ratio is driven by the retirement of the baby boomers, declining fertility, and increasing life expectancy, which means that, under current policy and retirement patterns, workers will be spending a larger fraction of their lives in retirement (assuming workers do not voluntarily work longer relative to retirement age). Thus, the increases in spending are not projected to subside after the baby boomers have passed away. Worker to recipient forecasts are subject to large margins of uncertainty, represented by the high and low lines in the graph. But even under the most optimistic of assumptions about population growth, the worker to recipient ratio will fall well below historical levels in coming years. For elderly entitlement spending to keep in line with revenues in light of these demographic changes, some combination of expenditures reduction and revenue increase will be required. Social Security and Medicare are financed through dedicated revenues: the payroll (FICA) tax. As shown below, diverting existing general revenues to entitlement spending cannot realistically cover the financing gap because of the sheer magnitude of the gap relative to total government revenues. Thus, the financing problem should not be thought of as a programmatic problem, but rather as a government-wide problem, and is best analyzed relative to economic output (GDP). (The role of the Social Security and Medicare trust funds will be discussed below.) Figure 2 illustrates the projected increase in Social Security spending from the present to 2035. Social Security is putting little immediate pressure on the budget—its dedicated revenues are almost balanced with its outlays. Because it is mainly financed on a pay-as-you-go basis, it will put pressure on the budget in the future, however. Projected spending increases from 4.8% of GDP in 2010 to 6.1% of GDP in 2035, whereas revenues are projected to stay fairly constant as a proportion of GDP. However, there is a high degree of uncertainty surrounding these projections. The Congressional Budget Office (CBO) estimates that there is a 10% chance that spending will exceed 7.3% of GDP by 2035, and a 10% chance that spending will be below 5.3% of GDP that year. By contrast, revenue projections show a very narrow degree of uncertainty as a share of GDP, so that under almost any scenario a large shortfall between revenues and spending is projected. Social Security projections are based on straightforward assumptions because benefits are determined by specific rules and formulas and demographic projections. By contrast, there is no obvious way to project federal health spending into the future because widely differing assumptions can be made about how much will be spent per beneficiary under current law. CBO's projections of federal health spending include Medicare, Medicaid, Children's Health Insurance Program (CHIP), and health care exchange subsidies; Medicare and Medicaid account for most of these outlays. While there are fairly reliable projections of the number of, say, Medicare beneficiaries, and current law broadly specifies the medical services that Medicare and Medicaid will cover, little can be known about how medical treatments, costs, and technologies will evolve in the future, or what new treatments will become available in the future. New technologies could potentially lower costs through productivity gains, but they could also potentially raise costs by making new treatments available that are both more effective and more expensive. In recent history, the latter has occurred, and as a result health spending has risen more rapidly than GDP (referred to as excess cost growth ). However, there is no guarantee that this pattern will continue in the future. In fact, it is unreasonable to extrapolate historical excess cost growth indefinitely, because that would result in health care eventually consuming 100% of GDP. Unfortunately, although there is great uncertainty about what future rate of excess cost growth above growth in GDP per capita is reasonable, federal health spending projections are highly sensitive to this assumption. To illustrate the sensitivity, Figure 3 compares CBO's projection of federal health spending to two other scenarios: that the historical growth rates of 2% persisted and that excess cost growth is eliminated. The difference between 0% and 2% excess cost growth equals almost 2.5% of GDP by 2035. CBO's projection is based on an assumption that excess cost growth will eventually will slow from 1.7% in 2022 to zero in 2085. In CBO's projection, federal health spending increases from 5.6% in 2011 to as much as 10.3% in 2035. Medicare's dedicated revenues are also projected to stay relatively constant, so if excess cost growth continues, these programs would put a serious strain on general revenues under current policy. Even with the assumption that excess cost growth will slow, total health spending (private and public) would rise from one-sixth to more than a quarter of GDP by 2035. Although most of the policy debate in the past has focused on ways to reform Social Security, it is Medicare and Medicaid that place a far larger strain on the federal budget. Between now and 2035, Social Security spending is projected to increase by 1.3 percentage points, whereas federal health spending is projected to increase by as much as 4.8 percentage points of GDP. After the baby boomer retirement is complete, Social Security's shortfall does not significantly worsen, whereas federal health spending continues to grow relative to GDP. From 2035 to 2080, Social Security spending as a share of GDP under benefits scheduled by law is projected to level out, whereas federal health spending is projected to continue to grow by an additional 9.1 percentage points of GDP. Other government spending programs will also be affected by an aging society, including Supplemental Security Income (SSI) and health and pension spending for civil servants and veterans. Some analysts fear that the finances of the Pension Benefit Guarantee Corporation, a government agency that insures private defined benefit pension plans, could also be negatively affected if firms do not take steps to improve their pension reserves. (On the other hand, government spending on the young could fall as a share of GDP as our society ages, although much of that spending is done at the state level.) The increase in projected spending for these programs is small as a share of GDP compared with the increases in Social Security, Medicaid, and Medicare spending, however. It is also unclear what assumptions should be made to project current tax policy in the long run. If current law were followed, the 2001 and 2003 tax cuts would expire and about half of taxpayers would be subject to the alternative minimum tax (AMT) by 2035 due to inflation. Under these assumptions, which CBO calls the "extended-baseline scenario," revenues are projected to rise relative to GDP to much higher levels than they have been historically because of "bracket creep," meaning that as prices and incomes rise, taxpayers on average shift into higher tax brackets. Because policymakers have not allowed these provisions to expire in the past, CBO presents an "alternative fiscal scenario" projection more consistent with current tax policy that assumes most of these provisions are extended at their 2009 level until 2020, and thereafter holds revenues at a fixed share of GDP. Likewise, discretionary spending is set annually through the appropriations process, so many valid assumptions could be made about its future size. The "alternative fiscal scenario" assumption that nondefense discretionary spending will stay close to its pre-recession share of GDP is consistent with historical trends and seems reasonable for a long-term projection. Figure 4 illustrates spending as a share of GDP through 2035 under this scenario. Under the alternative fiscal scenario assumptions about current policy and future excess cost growth, the increase in entitlement spending would not be matched by increases in general revenues or decreases in other spending, and would need to be entirely deficit financed. By 2047, Social Security and federal health spending alone are projected to exceed total revenues.