SOCIAL SECURITY, HISTORY AND OPERATIONS

Enacted in the midst of the Great Depression of the 1930s, Social Security—the Old-Age, Survivors, and Disability Insurance program (OASDI)—protects virtually every American. The nation’s central retirement income program is also its most important disability and life insurance program. After discussing the historical development of Social Security, this entry briefly describes the structure of the program, including revenue sources, benefits, and its importance to different groups of Americans. Contemporary Social Security policy issues are then identified.

History

In seeking to provide widespread and basic protection against what President Franklin D. Roosevelt called ‘‘the vicissitudes of life,’’ the Social Security Act of 1935 initiated two social insurance programs, three public assistance programs (i.e., welfare), and several public health and social service programs. Until 1950, Social Security, which was initially a social insurance program providing protection against loss of income in retirement, was neither the largest nor the most popular of the act’s programs. It was the state-run welfare programs included in the act, which provided aid to widows with dependent children, the old, and the blind, that gained swift public acceptance, mainly because they quickly sent funds to states to distribute to these needy groups. In contrast, and in keeping with social insurance principles in which the right to a benefit is based on the prior payroll tax contribution of employees and their employers, the Social Security program began collecting taxes during the late 1930s—though the program was not scheduled to pay its first benefits to retirees until the early 1940s. Where welfare programs seek to give immediate relief to those in extreme financial distress, the Social Security Act’s social insurance programs—Social Security, Unemployment Insurance, and later, Medicare—seek to prevent financial distress.

The ‘‘genius’’ of Social Security and related social insurance programs is that they represent, and build upon, a compromise between sometimes conflicting political values; the concern that all Americans should have adequate protection against selected contingencies (e.g., retirement) and a commitment to the work ethic. Near universal coverage assures widespread protection. Social insurance provides a social and work-related means of pooling risks. In exchange for making modest work-related contributions over many years, the social insurance approach provides individuals and their families with an earned right to protection against predictable risks. Social Security, for example, is structured in a manner that seeks to provide benefits that are adequate to maintain basic living standards, especially for low and modest income persons. However, in keeping with the principle of individual equity, persons who have paid more in Social Security taxes generally receive larger monthly benefits.

Incremental expansion characterized the development of Social Security from 1939 through the mid-1970s. The 1935 Act provided for benefits to workers in manufacturing and commerce who retired at age sixty-five or later. Benefits were added in 1939 for the wives of retired workers and for the surviving wives and children of deceased workers. These benefits were made available to men in 1950. Importantly, the 1950 Amendments to the Social Security Act defined social insurance as the nation’s dominant public policy approach to protecting older Americans against loss of income in retirement. These amendments expanded coverage to include regularly employed domestic and farm workers and increased benefits, assuring that Social Security benefits would generally be more available and more beneficial to receive than benefits provided through the federal/state Old Age Assistance program, also funded under the Social Security Act.

Disability insurance protections for permanently and severely disabled workers age fifty to sixty-four were added to the Social Security program in 1956, and extended to all workers under age sixty-five in 1960. The 1956 amendments also gave women the right to accept permanently reduced retired workers benefits between ages sixty-two and sixty-four, an option that was extended to men in 1961. The high rate of poverty and near-poverty among the old combined with a growing economy to provide political rationale for substantial benefits increases from 1965 through 1972, greatly improving the economic status of elderly Americans. In 1972, the automatic cost-of-living allowance (COLA) was incorporated into the law. Beginning in 1974, benefits were adjusted annually for changes in the cost of living. This new provision assured that, once received, benefits would maintain their purchasing power no matter how long a beneficiary lived. While critically important for helping to assure stable incomes for the old, disabled, and surviving family members, this provision is expensive and made financing the program more sensitive to economic change.

In the mid-1970s the focus shifted to program financing, followed a few years later by a political climate that challenged the support for the traditional Social Security program. Unanticipated economic changes (i.e., high inflation, lower than anticipated wage growth, a slowed economy) created short-term financing problems in the mid-1970s and again in the early 1980s. Demographic changes—including declining birth rates, increased life expectancies, and the anticipated aging of 76 million baby boomers born from 1946 through 1964—fueled long-term financing problems. Legislation was crafted in 1977 and 1983 involving modest benefit reductions and tax increases, spreading the pain of these changes across many constituencies, including working persons, employers, and current and future beneficiaries (especially those most well-off). By the mid-1980s, when the rest of the federal government began running large annual deficits, the Social Security program began accumulating large yearly surpluses, a trend expected to continue through about 2020. Even so, the impending retirement of the baby boomers, a declining ratio of workers to beneficiaries, and anticipated increases in longevity mean that financing reforms will be needed to assure the timely payment of benefits after 2038 or thereabouts.

Social Security is arguably the nation’s most successful and popular public policy. A favorable climate incubated its expansion through the mid-1970s. Even during the financing problems of the late 1970s and the 1980s, little support existed for substantially reducing benefits or retreating from the social insurance principles that guided the program. Except for a few advocates on the extreme outskirts of American politics, the voices favoring means-testing Social Security (limiting benefit receipt to persons whose incomes and/or assets fell below certain levels) were silent until the early 1990s. Similarly, during the early 1980s virtually no one in the political mainstream was giving serious consideration to privatizing aspects of the program. For example, in 1982, a commission headed by Federal Reserve Chairman Alan Greenspan unanimously agreed that Congress ‘‘should not alter the fundamental principles of the Social Security Program’’ (National Commission on Social Security Reform, 1983). This commission also rejected ‘‘proposals to make the Social Security program a voluntary one, or to transform it into. . . a program under which benefits are conditioned on the showing of financial need.’’ But persistent claims that Social Security is unfair to the young, false claims that the program is financially unsustainable, a soaring stock market, and growing skepticism (especially among the young) about whether the program will meet people’s needs, combined with the deficit politics of the 1980s and 1990s to spawn an environment that legitimized calls to radically transform the program. Indeed, irrespective of their validity, by the year 2001 proposals to partially privatize Social Security were being given very serious consideration.

Today’s Social Security program

Who benefits? Social Security has achieved its goal of providing widespread protection against financial risks associated with retirement, disability, and survivorship. Coverage is virtually universal, with 152 million workers (over 95 percent of the workforce) and their families included in the program. In February 2001, monthly benefits were paid to over 45 million persons, including almost 29 million retired workers; nearly 5 million surviving aged widows and widowers; 400,000 surviving mothers and fathers; 5 million disabled workers; and 3 million children under eighteen, mostly survivors or dependents of disabled workers.

Social Security’s benefits bridge the generations. The main source of survivor and disability protection for America’s families, for a ‘‘typical’’ twenty-seven year old couple with two children under age four, Social Security is the equivalent of a term life insurance policy in excess of $300,000 and a disability policy in excess of $200,000. The only pension protection available to six out of ten working persons in the private sector, it provides the equivalent of $12.1 trillion dollars in life insurance protection, more than the entire value ($10.8 trillion) of all the private life insurance protection in force (Ball, 1998). Even retirement benefits have clear cross-generational value. Assuming that one accepts the view that the United States government cannot renege on its commitment to provide benefits to future retirees, then, by making Social Security payroll tax contributions, younger workers earn the right to benefits when they retire. Also, by providing benefits to today’s elderly persons, Social Security frees up resources that allow the adult children of retirees to invest more in the education of their own children (or their own retirements), rather than in the financial support of their aged parents.

Social Security has transformed old age in America. While government employee pensions and private pensions, annuities, assets, and earnings provide important sources of cash income for many elderly persons age sixty-five and older, Social Security remains the heart of the retirement income system. In part, because of the progressive nature of the benefit formula, more than 70 percent of the income going to aged households in the bottom 60 percent of the elderly income distribution comes from Social Security (see Table 1). Only for those in the highest 20 percent of the elderly income distribution do other sources of income, such as earnings and assets, eclipse Social Security in terms of their aggregate contribution to household income (U.S. Department of Health and Human Services, 2000). Occupational pensions make significant contributions to the aggregate incomes going to households in the three highest quintiles, but this source of income falls well short of Social Security for these households. While not unimportant, the aggregate contribution of cash welfare benefits (9.8 percent) to the 4.9 million aged units with less that $8,792 in annual income in 1998 was substantially less than that of Social Security (82.1 percent). Moreover, without Social Security, the poverty rate among Social Security beneficiaries age sixty-five and older would jump from 9 percent to 48 percent; for unmarried older beneficiaries, it would jump from 15 percent to 58 percent; and for older African-American beneficiaries the poverty rate would rise from 24 percent to 75 percent.

Financing and administering Social Security. Retirement, survivor, and disability protections are earned through the payment of payroll taxes by working persons and their employers. Today, most people know that their payroll taxes do not go into a special savings account earmarked for particular workers and their families. Current benefits are funded largely from the taxes paid by current workers, with the promise that the current workers will themselves receive benefits when they become eligible for them. Additional revenues come from treating a portion of Social Security benefits as taxable income and from the interest earned from investing the growing OASDI trust fund assets in government bonds. Social Security financing is held together primarily by the taxing power of the government and the public’s (and hence politicians’) strong interest in maintaining the program.

The Social Security Administration maintains a record of the earnings on which workers have paid payroll taxes. This record provides the basis for establishing eligibility to program benefits and determining the size of those benefits. Interestingly, each year less than 1 percent (0.9 percent) of trust fund revenues is spent on the administration of OASDI.

Employed persons contribute 6.2 percent of their earnings (with an equal employer match) up to a maximum taxable ceiling ($76,200 in 2000) into two trust funds—one for Old-Age and Survivors Insurance (OASI) and one for Disability Insurance (DI)—which are often referred to as the combined OASDI trust fund. Self-employed persons make contributions equivalent to those made by regularly employed persons and their employers. The maximum taxable ceiling is adjusted each year for changes in average wages. Another 1.45 percent payroll tax goes to Medicare’s Hospital Insurance (HI) trust fund.

Social Security benefits. Elaborate rules link contributions to benefits. Four general rules are worth keeping in mind. First, persons who have worked for ten years or more (that is, earned credit for forty quarters) in covered employment are almost always eligible to receive retirement benefits at age sixty-two or later and their survivorship protections are in force. One credit for a quarter is actually given (a maximum of four per year) for having $830 of earnings in covered employment. Second, for disability protections to be in force, workers generally need to have worked for five out of the previous ten years. Third, there are exceptions to these basic rules. Younger workers, for example, are subject to far less restrictive eligibility requirements for survivorship and disability protections.

The fourth basic rule is that, in keeping with the program’s goal of providing widespread and adequate protection, the Social Security benefit formula works to assure that long-term, low-wage workers receive a proportionately larger benefit (relative to their contributions) than high-wage workers. The increased payroll tax contributions of high-wage workers is recognized by a larger monthly benefit, but such workers receive a proportionately smaller benefit. This is done through a benefit formula that replaces a smaller percentage of covered earnings as a worker’s average covered earnings rise. For example, for workers retiring at age sixty-five in January 2001, Social Security replaces about 28 percent of earnings for those with earnings consistently at the maximum taxable ceiling, compared to about 58 percent for those whose earnings were consistently at 45 percent of median wages, and 42 percent for those with average earnings. The monthly retired workers benefit for this maximum earner would be $1,538 compared to $637 for the low earner and $1,051 for the average earner.

Nearly all covered workers are eligible to accept actuarially reduced early retirement benefits at age sixty-two or full benefits at the normal retirement age—in 2002, age sixty-five and scheduled to gradually increase to age sixty-seven by 2027. Workers electing to postpone benefits past the normal retirement age receive credits that permanently increase the value of their monthly benefits. The surviving spouses of retired workers may receive reduced survivor benefits at age sixty (or age fifty if severely disabled) or full benefits at age sixty-five or later. Severely disabled workers are also eligible to receive monthly benefits if their condition meets the disability eligibility criteria. Other dependents of retired, deceased, or disabled workers (even, in some cases, financially dependent grandchildren, divorced spouses caring for dependent children, or adult children who were disabled prior to age nineteen) may also be eligible for monthly benefits. (Note: additional benefit information can be found by accessing the Social Security Administration’s Web site: www.ssa.gov.)

Contemporary issues

How to address the projected Social Security shortfall, while also maintaining (and even strengthening) the social protections the program offers is one of the most pressing domestic policy issues of the twenty-first century. Even though Social Security is running substantial yearly surpluses ($155 billion in 2000), the long-term financial stability must be addressed.

The most commonly accepted estimates of Social Security actuaries suggest that the program has sufficient funds to meet all its obligations through 2038. After that, its projected revenue stream will be sufficient to pay 72 cents of every dollar promised through 2075 (estimates made in 2000 extend only for seventy-five years). These estimates suggest that tax revenues (payroll tax receipts and receipts from taxation of benefits) will be exceeded by outlays in 2015, but that income from all sources, including interest on trust fund investments in U.S. government obligations, is expected to exceed expenditures through about 2025 (Board of Trustees). After that, timely payment of benefits would require drawing down the assets of the OASDI trust fund until its depletion in 2037. Of course, the size of the actual problem could be larger or smaller. The SSA’s more pessimistic estimates project a shortfall beginning in 2026 that is roughly 150 percent larger than its most commonly accepted estimates. On the other hand, its more optimistic estimates project that the OASDI trust funds can meet all its obligations through 2074.

Theoretically, the long-term financing problem could be addressed by immediately raising the Social Security payroll tax on employers and employees from 6.2 to 7.2 percent, or by immediately reducing all future benefits by about 14 percent. While this provides a sense of the size of the problem, no one is seriously suggesting either approach.

Social Security’s estimated shortfall is not highly disputed, but the perceived implications of the shortfall fuels a lively policy debate (see Aaron and Reischauer; Peterson). Conflicting approaches to reform reflect differing views of the extent to which individuals, rather than the national community, should be responsible for preparing for their retirement, disability, or survivorship. The traditional view emphasizes providing widespread and adequate protection as Social Security’s fundamental purpose. Hence, stabilizing financing while assuring adequate benefits that are not subject to erosion by inflation, business cycles, and market fluctuations are central reform concerns. Strong commitment exists for the moderate redistribution inherent in the benefit structure as a means of assuring that those who have worked for many years at relatively low wages will have minimally adequate incomes. In contrast, those seeking to shift Social Security towards a more private savings model draw on their strong belief in individual responsibility, limited taxation, and freedom of choice. They tend to emphasize maximizing rates of return and shrinking the role of government. While safeguards may be built in for some of the most disadvantaged, these proposals tend to be most beneficial to persons with higher earnings. For instance, most women would not fare well under a privatized retirement income savings program because women tend to have more intermittent work histories and lower earnings, and they live longer.

As in the past, incremental changes in benefits and financing can effectively address the projected financing problem. The large annual surpluses projected through about 2020 provide an opportunity to buy down the federal debt, arguably strengthening the economy in preparation for the retirement of the baby boomers. If the savings from interest the government would otherwise have to pay on the federal debt were then transferred to the Social Security trust funds (essentially a general revenue transfer after 2036), the program would be able to meet its obligations through about 2050. Diversification of trust fund investments, allowing for a small portion of the trust fund assets to be invested by an independent board in a broad selection of private equities, could help address the program’s financing while also improving rates of return. There are many other proposals which, if done in moderation, would not greatly compromise the fundamental purposes of the program. These include raising the ceiling on wages subject to the payroll tax, increasing the normal retirement age, bringing the rest of state and local government employees into the program, small payroll tax increases, a technical adjustment in the COLA, and other small benefit reductions. As in the recent past, such changes will not be pain-free. But, given the larger goal of assuring financial stability of this popular program, the public is likely to accept such changes, especially if the burdens of change are viewed as being distributed equitably.

Because OASDI provides widespread protection across all income classes, and because it is especially important to low- and moderate- income groups, it is especially important to carefully assess the distributive implications of various policy options. Certain changes, such as COLA reductions or retirement age increases, especially if done in the extreme, will have a more deleterious effect on low-income persons who rely more heavily on Social Security for their retirement income. Also, in the context of reforming Social Security’s financing, it will be important to explore what can be done to improve the benefit for persons who continue to be at financial risk during their old age. For example, many women, especially divorced or very old widowed women, are very much at risk today, and, absent changes, this will also be the case for future cohorts of older women (Smeeding, Esters, and Glasse).

Too often, media, politicians, and analysts have reduced Social Security discussions to mere accounting exercises about the financial cost of the program, overlooking the benefits this program provides and the real consequences of possible changes to the well-being of individuals and families. Social Security is an institution that has strengthened the nation’s families and communities. As Social Security continues to evolve, it will be important to not lose sight of the moral dimension of a program that gives expression to and reinforces the values that hold us together as a nation and a people.

Eric R. Kingson

See also Disability, Economic Costs and Insurance Protection; Economic Well-Being; Generational Equity; Social Security Administration; Social Security, and the U.S. Federal Budget; Social Security, Long-Term Financing and Reform; Welfare State; Widowhood: Economic Issues.

BIBLIOGRAPHY

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National Commission on Social Security Reform. Report of the National Commission on Social Security Reform. Washington, D.C.: NCSSR, 1983.

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Social Security Administration, Office of Policy, Office of Research, Evaluation and Statistics. Income of the Population 55 and Over. Washington, D.C.: SSA, 2000. Available at www.ssa.gov

Social Security Administration, Office of Policy, Office of Research, Evaluation and Statistics. Fast Facts and Figures about Social Security. Available on the World Wide Web at www.ssa.gov

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