Is It Time We Blamed Social Security's Cash Crunch on Low Birth Rates?

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Social Security is our nation's most important social program. It's responsible for providing benefits to nearly 63 million people each month, more than 22 million of whom are kept out of poverty as a result of their benefit checks. But Social Security is inching toward big trouble.

Social Security's $13.2 trillion dilemma

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Although nothing is for certain, the 2018 report from the Social Security Board of Trustees portends a big shift on the horizon for the program. Namely, it's nearing an inflection point that'll see the program spend more money than it collects in a given year. The last time that happened was all the way back in 1982, the year before the Reagan administration passed the last major overhaul of the Social Security program.

In plain English, it simply means that more money will start flowing out of Social Security than can be replaced via payroll tax revenue, the taxation of Social Security benefits, and the interest income earned on its close to $2.9 trillion in asset reserves. These net cash outflows can be sustainable for a bit, thanks to the program's aforementioned asset reserves, but Social Security can't withstand hemorrhaging money forever.

By 2034, the Trustees report projects that this almost $2.9 trillion in excess money will be gone, paving the way for what might be a very steep cut in benefits to then-current and future beneficiaries of up to 21%. Mind you, 62% of today's retired workers lean on Social Security for at least half of their monthly income.

In nominal terms, the Trustees quantified the program's long-term (75 year) cash shortfall between 2034 and 2092 at $13.2 trillion -- and this figure is growing with each passing year. In essence, if lawmakers were to raise $13.2 trillion in revenue over this defined period and/or make expenditure cuts, then no reduction in payouts would be necessary.

Is it time for us to blame the real culprit: declining U.S. fertility rates?

One of the biggest points of contention regarding Social Security's cash crunch is what, exactly, is responsible. Some of the finger-pointing has gone to baby boomers, while other folks have chosen to blame increased longevity or growing income inequality. Even Congress takes the blame, but often for the incorrect reason. However, there could be a plain-as-day answer as to why Social Security's future is in doubt if you're willing to dig beneath the surface: low fertility rates.

Although Social Security is occasionally viewed as a Ponzi scheme, it's nothing of the sort. It is, however, a social investment in the financial well-being of our elderly population that's funded predominantly by taxing the earnings of working-age Americans. In order for such an arrangement to succeed, birth rates have to remain relatively constant over time to ensure that retiring workers are being replaced by new workers in the labor force.

Of course, we've seen a few anomalies in birth rates from the average of about two births per woman over their lifetimes. Shortly after the end of World War II, in the mid-1950s, the fertility rate peaked at 3.7 births per woman. This period of exceptionally high birth rates is where we get the term "baby boomer." But since roughly 1971, birth rates have hovered around the two births per-woman mark.

However, since the Great Recession, we've witnessed a precipitous decline in fertility rates. After hitting 2.1 births per woman in 2010, the birth rate now finds itself at a 40-year low of 1.76 births per woman. Should this rate of lower births continue, it would result in fewer people entering the workforce in the decades to come, leading to an even greater chance of a decline in the worker-to-beneficiary ratio.

According to the Trustees' estimates, even a 10% drop (to 1.8 births per woman) below the projected long-term constant of two births per woman can have a devastating impact on Social Security's long-term projections. At two births per woman, the annual balance for Social Security come 2092 would be negative 4.32%. But if the fertility rate fell to 1.8 births per woman, the annual balance widens 152 basis points to negative 5.84%. We're talking trillions of dollars in adverse impacts to the program and a considerably wider cash shortfall than is currently advertised.

Explaining the decline in U.S. birth rates

Why have birth rates been declining so rapidly this decade? Again, you won't find a single answer, but rather a handful of plausible hypothesis.

One logical suggestion is that the economy is to blame. Sure, we've seen some years of strong earnings growth since 2010, but the devastating nature of the Great Recession, which at its peak saw the broad-based S&P 500 decline 57% and the unemployment rate hit 10%, is still fresh in the minds of American families. Being more financially conscious than their parents who may not have dealt with a major financial crisis, today's couples are waiting longer and trying to save more money before bringing a child into this world.

Another postulation is that improvements in access to birth control, as well as increased education in school, has dramatically reduced teen pregnancy rates (defined as women aged 15 to 19). Back in 1990, the teen birth rate per 1,000 women was well above 50. However, by 2017, this figure had fallen to a birth rate of about 20 per 1,000 women. Interestingly enough, birth rates have actually risen for older moms (aged 35 to 44), providing additional evidence that couples are waiting longer before having children.

A third idea, somewhat similar to the above, is that we've witnessed a drop in unintended pregnancies. Improvements in access to long-term contraceptives have given couples more control over when they have children.

Whatever the reasons actually are, the reality for Social Security is very simple: Without ample replacement workers for future generations of retirees, the cost to fix Social Security is going to be considerably higher than forecast. This cost is more than likely going to be paid by working Americans since nearly 88% of the $1 trillion in revenue collected by the program in 2017 was generated from the payroll tax on earned income.

What's more, if the cost to resolve Social Security's cash crunch widens, it means the possibility of a steeper benefit cut than 21% may be needed come 2034. Understandably, the fertility rate would have to remain low for a considerable amount of time for that to happen. But with birth rates falling for nearly a decade straight, this is beginning to look less like an anomaly and more like a new normal. For those of your expecting to be reliant on Social Security income during retirement, this is certainly a wake-up call.

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