What does it mean to “save the surplus”?

In the comments, Bruce Webb reacts to a line in the Wall Street Journal op-ed:

The whole notion that somehow Congress has been 'raiding', 'looting' or otherwise doing something nefarious with the Trust Fund derives entirely from the implication that the Special Treasuries are not in fact hard investments, which is to say one or more versions of the 'phony IOU' argument.
Well I am not buying. I believe in the Full Faith and Credit of the United States, further I have a pretty good idea of the political firestorm that would erupt at any suggestion that the General Fund as the representative of taxpayers at large would refuse to replay legal obligations to that subset of taxpayers that paid for all those surpluses to start with.

This raises the general question of what it means to "save the surplus" or "raid the trust fund." There are different definitions, and often disagreements over these issues arise from definitional, not empirical, differences.

Orszag and Stiglitz make a useful distinction between "narrow" and "broad" prefunding of pension benefits:

"Prefunding" can be used in a narrow or broad sense. In its narrow sense, prefunding means that the pension system is accumulating assets against future projected payments. In a broader sense, however, prefunding means increasing national saving.

Put in the Social Security context, it's possible to break the narrow versus broad prefunding question down even further. "Saving the surplus" can mean that a dollar of surplus Social Security taxes implies:

• A dollar increase in the Social Security trust fund: This is the narrowest definition of pre-funding, and in this sense the surplus is indisputably "saved." Any surplus taxes are by law used to purchase special issue Treasury bonds. These bonds carry a market rate of interest and are backed by the full faith and credit of the U.S. government. There is no possibility that the government will not honor these bonds, and there are no reform plans that propose that they not be honored.
  
• A dollar increase in the overall budget balance: This is an intermediate level of pre-funding, and most advocates would be satisfied if this level were achieved. If Social Security's cash balance improves by one dollar and nothing else changes in the rest of the budget, then the overall budget balance will improve by one dollar. Borrowing from the public will be reduced by one dollars (or, if the budget were in surplus, one dollar of existing debt could be repaid). At the least, this level of prefunding makes it easier for the government to repay the Social Security trust fund in the future, since the smaller government debt implies lower annual interest costs.
  
• A dollar increase in national saving: If an additional dollar of Social Security surplus adds to government saving, by the above process, and if individuals do not alter their saving behavior, then total saving in the economy will increase by one dollar. This saving adds to the stock of investment capital, such as factories, computers, etc., and this additional capital makes future workers more productive and increases economic output. This increased economic output makes it easier to repay the trust fund in the future: wages will be higher and thus tax receipts will be higher even with a constant tax rate. Thus, we could repay the trust fund without making future workers' after-tax wages lower than they otherwise would have been.
  

When we talk about "saving the surplus" it makes sense to be clear which definition of saving we're relying on. In the WSJ op-ed, I was implicitly referencing the second definition of prefunding: that an increase in the Social Security annual surplus, as would be produced by Senator Obama's proposal, would translate to an equal improvement in the overall budget balance, and therefore a reduction in government borrowing.

But is this likely to take place? A trio of econometric studies by well-respected economists have concluded that Social Security surpluses since the 1980s have not translated to improved budget balances. The basic analytical technique is to ask how changes in the Social Security balance correlated with changes to the overall budget balance, after adjusting for other factors. Kent Smetters of the Wharton Schol, who wrote the first such study, concludes:

"…there is no empirical evidence supporting the claim that trust fund assets have reduced the level of debt held by the public. In fact, the evidence suggests just the opposite: trust fund assets have probably increased the level of debt held by the public."

Barry Bosworth and Gary Burtless of the Brookings Institution, using a sample of OECD countries to supplement results focusing on the U.S., conclude:

"A large portion of the accumulation within national social insurance systems is offset for the government sector as a whole by larger deficits in other budgetary accounts. On average, OECD countries have been able to save only a small portion of any funds accumulated within their social insurance systems in anticipation of large expected liabilities when a growing fraction of the national population is retired. Between 60 and 100 percent of the saving within pension funds is offset by reductions in government saving elsewhere in the public budget."

In other words, a dollar of Social Security surpluses tends to be offset by 60 cents to one dollar in increased spending or reduced taxes in the non-Social Security portion of the budget.

John Shoven of Stanford and Sita Nataraj of Occidental College examined trust fund saving throughout the federal budget. Their conclusions are summarized as:

"The authors find a strong negative relationship between the surpluses: an additional dollar of surplus in the trust funds is associated with a $1.50 decrease in the federal funds surplus. This finding is not significantly different from a $1.00 decrease, which would suggest a dollar-for-dollar offset of trust fund surplus with spending increases or tax cuts; the authors are able to reject the hypothesis that the full dollar of trust fund surplus is saved by the government."

To sum up, the best evidence suggests that Social Security surpluses, rather than building savings to help pay future Social Security benefits, instead tend to subsidize present consumption. Put another way, Social Security surpluses allows current spending to be higher, or current taxes lower, than they otherwise would be. Several preliminary policy conclusions follow from these findings:

First, that it makes little attempt to increase Social Security surpluses in the near-term, unless a more reliable mechanism to save these surpluses is found. Investment in assets other than Treasury bonds might provide better prospects for broad saving; personal accounts also might do so. But these are questions for a different post.

Second, changes to Social Security taxes and benefits prior to the trust fund exhaustion date (currently 2040) can be justified. If surpluses since the 1980s had been "saved" in a broad budgetary sense, one could say that taxpayers during those years had fully "paid for" their future benefits, even if trust fund repayment exerted a burden on the non-Social Security budget in the years from 2017-2040. However, if Social Security surpluses were "spent" this implies that taxpayers since the 1980s enjoyed a higher level of government services or lower level of government taxes than would otherwise have been the case. Given this, their moral claim that benefits cannot be changed prior to the trust fund's exhaustion appears weaker.