FINANCING OLD-AGE INSURANCE ELEANOR L. DULLES* SECRETARY MORGENTHAU'S statement before the somewhat different lines and put the reserve Ways and Means Committee on March 24 marks a squarely on a self-sufficient basis. One reason for new phase in the consideration of old-age insurance this modification was the limitation of coverage to financing in the United States. The statement workers in industry and commerce which was of the Secretary of the Treasury presented infor• brought forward as a reason for a self-sufficient mation and recommendations based on studies system. Two changes were adopted to make the and experience of the Social Security Board and plan independent of the subsidy. The benefit the Treasury in the past 2 years. This phase is base was changed from average to aggregate not yet closed, however, because any change in wages, and the rate at which taxes rose in the present financial provisions requires legislative early years was accelerated. Instead of spreading action by the Congress. In order to understand the increases in tax rate over a period of 15 years, the proposal, which is in essence a shift from the with the consequent lower accumulations in the self-sufficient system with a large interest-earning course of this period, the step-ups were to take reserve to one with a small contingency reserve, place at 3-year intervals over a 9-year period. it is important both to review the earlier recom• These changes increased income and cut costs for mendations and experience and to take stock of the early years. Secretary Morgenthau brought the present situation. forward this new plan in the hearings before the The original proposal brought forward by the Ways and Means Committee in February 1936. President's Committee on Economic Security These changes, a second stop in the development called for a reserve of considerable size. The of policy, called for a more rapid building up of Committee's estimates postulated a reserve of the credits of the fund and consequently for a more than $15 billion to be accumulated by 1960 steeper rise in the interest earnings on this fund. and held at about that level in subsequent years. In the report of the Senate Finance Committee in This reserve was to be built up out of accumulated May 1935 tables were introduced which showed differences between contributions and benefit the famous $47 billion estimate for 1980 which has payments, invested at interest. In making its been used and misused by various critics of the report, the Committee recognized that the plan act and has been misunderstood even by some outlined would call for a Government contribu• advocates of this manner of financing. tion by 1965 because of the excess of benefits The Social Security Act was passed in August over contributions in later years. Their proposal 1935. The tax provisions under title VIII, pro• represented, in effect, a compromise between a viding for the first 3 years a tax of 1 percent on contingency reserve and a self-sustaining system. employers and 1 percent on employees, became The Committee did not recommend that the effective in January 1937. In the 20 months of Government pay a subsidy currently because operation through February 28, 1939, tax receipts "to do so would create a reserve which would under title VIII by the Bureau of Internal Revenue reach a total of about $75 billion." They did totaled $1,097 million. Congress, in carrying out indicate that "if it is deemed desirable to reduce the provisions of title II, made appropriations to the burden of the system upon future generations, the old-age reserve account for the fiscal years the initial rate (of taxes] may well be doubled 1937, 1938, and 1939 totaling $1,125 million. and . each higher rate advanced by 5 years." Monthly transfers have been made from the ap• In the course of the hearings in January and propriation to the account, and by the end of February 1935, the deficiency between definitely February 1939 a total of $944 million had been specified income and estimated outgo caused some transferred. On February 28, 1939, the old-age concern. It led to a revision of the proposal along reserve account held Government securities total• ing $944 million, all in the form of 3-percent special * Chief, Old-Age Benefits Research Division, Bureau of Research and Sta• United States Treasury notes. During the 2-year tistics. For a discussion of the proposals of the Committee on Economic Se• curity and other financial analyses, see also pp. 87-88 of this issue. period, interest of $17.7 million on the investments of the account was credited. About $17 million dent and the Congress in January 1939.2 While was held in the form of cash in the disbursing the Board declared that it was not making detailed account for the payment of lump-sum benefits. recommendations on financing old-age insurance The difference between the transfers and the tax because of the Treasury's primary responsibility collections corresponds approximately to estimates in this field, the report called attention to the of the costs of administration. Thus it is clear highly significant relation between the extent of that the reserve account became an actuality the coverage, a subsidy out of general tax sources, fully incorporated into the framework of Treasury and the present self-sustaining system. The procedure. Board indicated that it was of the same opinion as The third step in developing policy in connec• the members of the Advisory Council both with tion with the old-age insurance financing was the respect to an eventual Government contribution appointment in May 1937 of the Advisory Council to the system and to the continuance of the step- on Social Security to consider, among other prob• up in the tax rate. lems, the method of financing old-age insurance. On the matter of a Government contribution The Council held six sessions in which financing the report declared: was discussed at great length. In April 1938, before reaching final conclusions, the Council The Board is of the opinion that it would be sound public policy to pay part of the eventual cost of the bene• issued a statement intended to set at rest fears fits proposed out of taxes other than pay-roll taxes, expressed in some quarters that the funds were preferably taxes such as income and inheritance taxes being mishandled. After careful examination, the levied according to ability to pay. Council found that the procedures were not only The portion of the total costs to be met by taxes other legal but were normal operations in the course of than pay-roll taxes should depend upon the proportion of the general population covered by the insurance system. Treasury financing and that the safety of the funds The wider the coverage, the more extensive this contri• was not endangered. bution from the other tax sources might properly be. The final report of the Advisory Council, issued The next development, certainly one of the in December 1938, goes further in analyzing the most important, was the recent proposal of Secre• financial problem.1 It indicates that the system tary Morgenthau to the Ways and Means Com• adopted was entirely proper and justifiable on the mittee. The Secretary recommended, for reasons basis of certain assumptions but that it was clearly he outlined, that the reserve to be accumulated be not the only possible method of financing and that no "larger than is necessary to protect the system others might be equally appropriate in various cir• against unforeseen declines in revenues or in• cumstances. In view of this conclusion, the Coun• creases in the volume of benefit payments." cil recommended further study. The members of Simultaneously he precluded possibilities of mis• the Council indorsed the contributory principle understanding by asserting, in no uncertain terms, and urged the continuance of the tax step-up as that "a sound old-age insurance system must be scheduled at least until after 1940. They indi• on a contributory basis." cated, however, that there was not complete unanimity on this point and expressed the opinion Mr. Morgenthau proposes a new plan of financ• that the reserve account was unnecessarily large ing which is based, on the one hand, on long• and that a trust fund would be preferable because standing Treasury precedent, and, on the other, it would give greater assurance to the beneficiaries on new industrial and economic information which that their contributions were being handled along could not have been anticipated before actual lines already familiar to the American public. operation of the system. His three major recom• The Council also urged a contribution out of mendations comprise (1) setting a standard which general revenues to help finance old-age insurance operates so that the size of the reserve is limited in and made recommendations for the liberalization effect to a few billion dollars, (2) changing the of benefits. legal status of the fund to make it more like hundreds of trust funds now held by the Federal The fourth step in this development was the Treasury, and (3) changing the terminology so report of the Social Security Board to the Presi• that the collections from pay rolls under title 1 For a brief summary of the report see Social Security Bulletin, Vol. 2, No. 1 (January 1939), pp. 2-3. 2 Social Security Bulletin, Vol. 2, No. 1 (January 1939) pp. 4-19. VIII will be termed "contributions" and dis• and interchange of occupations which would be tinguished from taxes levied for general revenue of significance in connection with the specific purposes.