G. LONG-RANGE ACTUARIAL ESTIMATES

The long-range financial estimates provided in this section generally relate to the OASI and DI Trust Funds on a combined basis. However, because the OASI and DI programs are legally separate, a final assessment of the financial status of these funds must be provided on a separate basis, as is done later in this section. More detailed estimates for these trust funds, both separately and combined, can be found in section II.F2 of this report.

Each year estimates of the financial and actuarial status of the OASDI program are prepared for the next 75 years. Although financial estimates for periods as long as 75 years are inherently uncertain, the results can provide valuable information for policymakers. In particular, such estimates can indicate whether the program--as seen from today's vantage point--is considered to be in satisfactory financial condition.

As mentioned previously, a number of different measures are useful in evaluating the financial status of the trust funds over the next 75 years. In addition to the actuarial balance and the trust fund ratio, emphasis is placed on the relationship between the estimated future levels of tax income and expenditures for each year. The year-by-year patterns of this relationship are of particular interest. Another key component of the assessment of the actuarial status of each program is a formal test for long-range "close actuarial balance."

1. Annual Income Rates, Cost Rates, and Balances

A comparison between past and estimated future OASDI income (from payroll taxes on covered earnings and income taxes on OASDI benefits) and annual OASDI expenditures (for benefits and administrative expenses credited to OASI and DI Trust Funds) is presented in figure I.G1. Included are historical data for the past 15 calendar years (1985-99) and estimates for the 75-year long-range projection period (2000-74) under the three alternative sets of assumptions. These income and expenditure amounts are shown relative to the earnings in covered employment that are taxable under the OASDI program--referred to as "taxable payroll." The ratio of tax income (including both payroll taxes and income from taxation of benefits) to taxable payroll is called the "income rate" and the ratio of expenditures to taxable payroll is the "cost rate."

For calendar year 2000, the income rate for the OASDI program is estimated to be about 12.65 percent of taxable payroll. This rate is the sum of the combined tax rate payable by employees and employers, 12.40 percent, and the revenue from the income taxation of OASDI benefits that is credited to the trust funds, equivalent to 0.25 percent of taxable payroll. Since OASDI payroll tax rates are not scheduled to change in the future under present law, payroll tax income as a percentage of taxable payroll remains constant at about 12.40 percent. Income from the taxation of benefits will gradually increase as a percentage of taxable payroll, primarily because a greater proportion of benefits will become subject to taxation. Thus, the income rate is projected to increase somewhat from its current level, reaching about 13.34 percent of taxable payroll by 2074, under the intermediate, alternative II assumptions. The income rate projection shown in figure I.G1 is based on the intermediate set of assumptions (alternative II) only; the projections under the low cost and high cost sets of assumptions (alternatives I and III, respectively) are very similar.

As figure I.G1 indicates, the pattern of the estimated cost rates is much different from that of the estimated income rates. Costs as a percentage of taxable payroll are estimated to rise slowly until about 2010 and then to increase rapidly for about the next 20 years. Thereafter, cost rates are estimated to grow less rapidly (or to decline somewhat, in the case of alternative I). By 2074 the cost rate is estimated to reach 13.92 percent, 19.47 percent, and 28.10 percent under alternatives I, II, and III, respectively.

The primary reason that the estimated OASDI cost rate increases rapidly after about 2010 is that the number of beneficiaries is projected to increase more rapidly than the number of covered workers. Because the cost rate expresses expenditures (primarily payments to beneficiaries) as a percentage of taxable payroll (the taxable earnings of covered workers), there is a close relationship between the demographic characteristics of the population and the OASDI cost rate.

Figure I.G2 shows the estimated number of covered workers per OASDI beneficiary. In 1999, there were about 3.4 workers for every beneficiary. As indicated, this ratio is expected to decline substantially in the future under all three sets of assumptions. The most rapid decline will occur as the relatively large number of persons born during the "baby boom" (from the end of World War II through the mid-1960s) reaches retirement age and begins to receive benefits. At the same time, the relatively small number of persons born during the subsequent period of low fertility rates will comprise the labor force. Between 2030 and 2050, the projected number of workers per beneficiary is relatively stable as the "baby-boom" generation diminishes in size. After 2050, this ratio will continue to decline at a slower pace for the intermediate and high cost projections, reflecting the increasing numbers of beneficiaries due to projected increases in life expectancy. Based on the low cost assumptions, a slow increase in this ratio is projected to occur after 2035. By the end of the 75-year projection period, the number of workers per beneficiary is projected to decline to 2.5, 1.9, and 1.4 under the low cost (alternative I), intermediate (alternative II), and high cost (alternative III) assumptions, respectively.

The difference between the income rate (which excludes interest income) and the cost rate in a given year is referred to as the "annual balance" for that year. The pattern of the projected OASDI annual balance depends significantly on the economic and demographic conditions assumed to occur in the future. Income rates are estimated to exceed cost rates through 2019, 2014, and 2009, under alternatives I, II, and III, respectively, resulting in positive annual balances. Thereafter, under the intermediate assumptions, the annual deficit is projected to rise rapidly, reaching 4.26 percent of taxable payroll for 2030 and 6.13 percent for 2074. Under alternative I, annual deficits rise to a peak of 2.05 percent of payroll for 2033, and decline steadily thereafter through 2074, falling below 1 percent by 2063. Under adverse conditions, as assumed in alternative III, the deficit would grow very rapidly, to over 14 percent of taxable payroll by 2074.

2. Summarized Income Rates, Cost Rates, and Balances

It is useful to consider the income and cost rates on a summarized basis over the three 25-year subperiods that make up the 75-year projection period. For this purpose, the annual income rates are summarized by calculating the present value of tax income for the subperiod in question, and expressing it as a percentage of the present value of taxable payroll for that subperiod. ("Present values" are used in financial analysis to calculate the lump-sum equivalent value, at a particular point in time, of a series of future amounts or transactions. See the Glossary for additional information.) Similarly, a summarized cost rate is calculated, as the present value of expenditures for the subperiod, expressed as a percentage of the present value of taxable payroll for that subperiod. The following table shows these summarized rates for the OASDI program for the three 25-year subperiods.

A small positive balance is shown under the intermediate alternative II assumptions for the first subperiod; thereafter, the program is projected to experience substantial deficits, for the reasons outlined previously. Under the low cost alternative I assumptions, summarized tax income would also exceed summarized costs only for the first 25-year subperiod, with deficits diminishing to relatively low levels in the third subperiod. (The less favorable outlook for the second subperiod occurs under the low cost assumptions because the "baby-boom" generation is retired throughout this period, while the assumed higher ultimate fertility rates have not yet had their full effect on the estimated numbers of workers.) If the high cost conditions of alternative III are experienced, substantial deficits are projected to occur for all three subperiods.

To assess the overall financial balance for the long range, it is customary to calculate summarized income rates and cost rates for the full 75-year valuation period. For this purpose, summarized income and cost rates are calculated on a present-value basis, as before. In addition, the summarized income rate is augmented by the value of trust fund assets on hand at the beginning of the period. Similarly, the summarized cost rate is adjusted to include the additional cost of accumulating end-of-period assets equal to 100 percent of the following year's expenditures. The results of this calculation are shown in the following table.

The difference between the summarized income and cost rates for the 75-year valuation period is called the "actuarial balance" and ranges from a positive actuarial balance of 0.38 percent of taxable payroll under the low cost assumptions to a deficit of 5.00 percent under the high cost assumptions. Based on the intermediate assumptions, an actuarial deficit of 1.89 percent is projected, representing the difference between the summarized income rate of 13.51 percent and the corresponding cost rate of 15.40 percent.

The estimated actuarial deficit is smaller than the corresponding deficit of 2.07 percent of payroll in last year's report. If the only change for this year's report had been to change the long-range valuation period from 1999-2073 to 2000-74, the deficit for this year's report would have risen to 2.14 percent of payroll. However, there are a number of other changes that have the net effect of more than offsetting the increase in the deficit which results from the change in valuation period. The principal changes contributing to the improved actuarial balance are: more favorable economic assumptions for the long term, stronger economic growth in the near term than was expected in last year's report, updates and improvements in projection methods, and less favorable demographic assumptions for the long term. See section II.F2g for complete details on the change in actuarial balance from last year's report.

The size of the actuarial balance for any valuation period represents a measure of the program's financial adequacy for that period. The actuarial balance can be interpreted as the amount of change which, if made to the payroll tax rates scheduled under present law for each year in the period, would bring the program into exact actuarial balance. For example, if the 75-year actuarial deficit of 1.89 percent under intermediate assumptions were to be addressed by raising scheduled tax rates by 0.95 percent for employees and employers, each, and by 1.90 percent for the self-employed, then OASDI assets at the beginning of 2000, together with income from payroll taxes, interest, and other sources, would be just sufficient to meet all expenditures for the long-range period and leave a trust fund level at the end of the period equal to about 100 percent of the following year's expenditures. Of course, there are numerous other changes to tax rates, revenue provisions, or benefit provisions that could also result in the elimination of the long-range actuarial deficit.

The 75-year actuarial balance is a convenient and widely used measure of the OASDI program's overall financial status. It is important to remember, however, that this summary measure reflects the combined effects of several very different periods, as previously described. Thus, while the use of summary measures such as the actuarial balance is often convenient, such measures should not be used as a substitute for a more complete understanding of the underlying year-by-year outlook.

3. Trust Fund Ratios

As noted previously, the total income of the OASDI program currently exceeds total expenditures by a substantial margin. As a result, the assets of the combined trust funds are increasing rapidly. Under the intermediate alternative II assumptions, tax income is expected to exceed expenditures until 2015, by which time the cost of the program will have already started to increase more rapidly due to the retirement of the "baby-boom" generation. Beginning with 2015, the tax income projected under present law is expected to be insufficient to cover program expenditures, making it necessary to draw upon the trust funds to make up the shortfall. Total income, including interest earnings, is expected to exceed expenditures until 2025. Thus, the amount needed from the trust funds is projected to be less than interest earnings through 2024. After 2024, it will be necessary to draw amounts from the trust funds that exceed interest earnings, thus reducing the dollar level of trust fund assets. If no corrective action is taken, trust fund assets are projected to be exhausted by the end of 2037. At that time, the annual tax revenues of the combined trust funds would be sufficient to cover about 72 percent of annual expenditures. The resulting pattern of combined OASI and DI assets, expressed as a percentage of annual expenditures, is illustrated in figure I.G3 under each of the three alternative sets of assumptions.

At the beginning of 2000, the combined assets of the OASI and DI Trust Funds represented about 218 percent of combined expenditures estimated for the year. Based on the intermediate assumptions, assets would accumulate to a peak of 421 percent of expenditures in 2013, and would then decline steadily until exhaustion in 2037. Based on the intermediate estimates in last year's report, the peak fund ratio for the combined funds was estimated to be 364 percent in 2013 and the year of exhaustion was estimated to be 2034.

For OASI and DI, separately, the peak fund ratios based on the intermediate assumptions are 473 and 243 percent, respectively, in this year's report as compared to 415 percent and 213 percent, respectively, in last year's report. The following table presents a summary of the projections in this year's report for OASI, DI, and the combined trust funds under the three sets of assumptions for the period 2000 through 2074.

Under the low cost alternative I assumptions, the combined trust fund ratio rises rapidly until the retirement of the "baby-boom" generation and begins declining during the retirement years of the "baby-boom" generation. However, this decline ceases after 2045 and the ratio rises slowly after 2060, even though annual balances remain negative at a level around 1 percent of payroll. This occurs because the projected trust fund interest earnings are high enough to offset the annual deficits and still keep the trust funds growing nearly as fast as annual outgo. For the high cost alternative III, the combined trust fund is permanently exhausted in 2026.

Trust fund assets are generally invested in special Treasury securities so that the excess of cash receipts over expenditures is borrowed from the trust funds by the general fund of the Treasury and used to help meet various Federal outlays, or to reduce the amount of publicly-held Federal debt. These securities are backed by the full faith and credit of the U.S. Government, the same as other public-debt obligations of the U.S. Government. The assets of the trust funds can be redeemed for cash at any time if required to meet program expenditures. The redemption of a Treasury security held by a trust fund requires that the Treasury transfer cash--obtained from another revenue source, such as income taxes or borrowing from the public--to the trust fund. Thus, the investment operations of the trust funds result in various cash flows between the trust funds and the general fund of the Treasury.

The excess of OASDI tax income over outgo during the next 15 years, under the intermediate assumptions, will result in a substantial build-up of the combined OASI and DI Trust Funds. This increase in trust fund assets is in turn borrowed by the general fund, resulting in a substantial net cash flow to the general fund. After the next 15 years, increasingly larger amounts of annual interest income must be used to meet benefit payments and other expenditures and the general fund of the Treasury will be drawn upon to provide the necessary cash. The accumulation and subsequent redemption of substantial trust fund assets has important economic and public policy implications that go well beyond the operation of the OASDI program itself. Discussion of these broader issues is not within the scope of this report.

4. Test of Long-Range Close Actuarial Balance

Because the OASI and DI programs, both separately and combined, have actuarial deficits that are more than 5 percent of the corresponding summarized cost rates over the next 75 years under the Trustees' intermediate (alternative II) assumptions, they do not meet the requirements of the Trustees' formal test for long-range close actuarial balance. (This test is described in detail in section II.F titled "Actuarial Estimates" later in this report.)