Whenever the subject of Social Security comes up, I feel I should set my watch to time how long it takes someone to mention how Social Security trust funds are a myth and how scandalous it is the government spends taxes collected in the name of Social Security.
The thing is this isn’t really what happens and it isn’t scandalous at all.
The first thing to remember is the government doesn’t actually spend Social Security dollars. It confiscates dollars from workers through payroll taxes. But its spending isn’t actually related in any way to the dollars it collects.
When Social Security taxes are collected, the Treasury Department simply credits its accounts with dollars equal to those taxes and credits the Social Security trust fund with special issue bonds equal to those taxes.
The bonds are a kind of savings account for the trust fund.
Imagine for a minute that the government just left dollars collected in a large vault, perhaps inside a mountain in the Rockies. Now, the Treasury would not issue any bonds to the trust funds. Instead, it would sell bonds to private investors. The overall debt level would remain exactly the same.
Now, imagine there’s a large fire in that vault in the Rockies, and all the dollars are burned. Is the Social Security trust fund insolvent?
Of course not. The government just replaces the lost dollars with newly created money.
It’s also important to note that the release of “saved” money, the exchange of special issue bonds for cash, and the creation of new money to pay benefits have exactly the same effect on inflation. All of them push up the quantity of money in exactly the same way.
Which means that it doesn’t matter if the dollars or bonds or nothing at all are held by the Social Security trust fund. The financial asset component of the trust fund is irrelevant. The relevant piece is how much spending the government must undertake when the benefits come due.
That amount — and its effect on growth, inflation, and every other macroeconomic phenomenon — is completely independent of whether or not the money has been previously saved, spent or exchanged for bonds.
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