Forget Social Security -- This Program Could Break the Federal Government

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Social Security plays a vital role in the retirement planning for tens of millions of Americans, and much has been made of financial threats to the program that could result in benefit reductions in the future. Yet while Social Security's potential fiscal troubles are serious and substantial, there's another federal program that has a much greater risk of causing long-term financial stress to the government budget.

That program is Medicare. With a much less robust source of dedicated funding than Social Security, Medicare could end up breaking the government entirely if long-term trends turn out as badly as some expect.

The long-term costs of Social Security and MedicareEvery year, the trustees of the Social Security and Medicare Trust Funds look at the current financial picture for their respective programs. In general, what most people hear about the reports is that the Trust Funds are expected to run out of money in the future, with Social Security's exhaustion date coming about 20 years from now, and Medicare's coming in roughly 15 years.

Yet buried inside the hundreds of pages of reports are some projections about the long-term costs of Medicare and Social Security. This "infinite horizon" analysis projects current trends indefinitely into the future, using present-value discounting methods to reduce the impact of years that are far in the future compared to those that are closer to the present.

The latest infinite horizon analysis shows the disparity in the relative funding for the two programs. According to the latest projections, Social Security has an unfunded shortfall of $25.8 trillion, with $10.7 trillion of that coming between now and the year 2089.

With Medicare, the analysis is a bit trickier, because the trustees assume that current contributions from general-revenue sources will help pay for Medicare's costs. For Medicare Part A hospital insurance, the infinite horizon figure for current participants -- both beneficiaries and covered workers -- is $8.6 trillion.

For Part B, Medicare will need contributions from the general fund totaling $28.3 trillion in order to pay for otherwise unfunded obligations for medical coverage, $17.5 trillion of which will come by 2089. Part D prescription coverage adds yet another element to the shortfall, with $15 trillion in shortfalls needing to be covered by general government revenue, about half of which is incurred by 2089.

When you add all those Medicare figures together, you get a total of $51.9 trillion for the infinite horizon -- more than double Social Security -- and about $28 trillion by 2089.

The wildcard with MedicareOf the two programs, Social Security is by far the easier to predict. With benefit levels set by statute, the biggest variables are life expectancy, payroll-tax revenue, wage trends, and claiming behavior.

By contrast, trying to predict how much Medicare will cost is extremely difficult. Not only do life expectancy and payroll-tax revenue play a role, but also much more subjective assessments, like how much demand there will be for medical services, and how many medical professionals will be available to meet that demand. As a result, long-term projections for Medicare's cost could change dramatically depending on the path of economic conditions that might have little or no impact on Social Security spending.

Of course, the fact that Medicare and Social Security aren't always on parallel financial tracks works both ways. For instance, many point to recent healthcare reforms as dramatically improving the financial picture for Medicare. Indeed, in the Medicare trustees report, analysis suggests that certain parts of the program are on a more sustainable track due to recent action. Specifically, when you consider the impact of long-term declines in the growth rate of hospital-insurance price updates, the lower costs for covering future participants could eventually allow revenue to catch up, making the long-term unfunded obligation almost disappear for Part A coverage.

Nevertheless, when you consider the fact that Medicare payroll taxes of 1.45% provide a far smaller revenue base than Social Security payroll taxes of 6.2%, it's clear that, in terms of federal budget sustainability, Medicare could pose a much bigger threat in the long run if current trends don't turn more favorable. As a result, despite all the attention that Social Security reform gets, it's much more important to rein in Medicare, and make sure that it can meet the needs of its participants both now and for the foreseeable future.

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