When the Social Security and Medicare trustees reports were released last month, two of the Medicare trustees wrote that their own program's "financial difficulties come sooner — and are much more severe — than those confronting Social Security." Many pundits took pleasure in this revelation: It makes no sense to focus on Social Security reform when the real fiscal crisis lies in Medicare, they said. Our national priorities are out of order.
The critics are at least half right. Medicare, unlike Social Security, faces the possibility of a fiscal meltdown in the near future if nothing is done. Everyone from health-care experts to President Bush acknowledges that. But that alone is no reason to avoid reforming Social Security now.
First, the facts. Both programs are in trouble because they are subject to the same alarming demographic trends. Today, these programs have about four workers paying taxes to support each beneficiary. Starting in 2008, 70 million baby boomers will begin retiring, and they will live longer than their parents did. That means that the number of workers paying for each beneficiary will drop to just over two by mid-century.
But Medicare adds a number of multipliers that make its situation more severe. Social Security benefits are tied to wage growth; Medicare spending is tied to health-care costs, which are rising more rapidly. Medicare benefits are paid in the form of medical care, rather than lump sums of money. Seniors only receive subsidies when they go to the doctor — something Medicare encourages them to do more often. And there is constant pressure to expand Medicare benefits — from seniors, healthcare interest groups, and advocates of socialized medicine. Recent examples include the new prescription drug benefit, as well as coverage for preventive screening, obesity, and quit-smoking programs that President Bush added by fiat.
These factors make Medicare's fiscal outlook over five times worse than Social Security's. Social Security is expected to run a deficit starting in 2017. But the hospital insurance (HI) portion of Medicare began running a deficit last year. It was equal to nearly 9 percent of all federal income-tax revenue, and will only get worse. To finance the rising costs of outpatient expenses like doctor visits and prescription drugs will require huge transfers from the general revenue fund in coming years. Medicare trustee Tom Saving and his colleague Andrew Rettenmaier estimate that Medicare will consume 25 percent of federal income tax revenue by 2020, and 50 percent by 2040.
To fund all of Social Security's future deficits, we would need to set aside $12.8 trillion in an interest-bearing account today. Fully funding Medicare's future deficits would require a whopping $68.4 trillion. According to Cato Institute Senior Fellow Jagadeesh Gokhale, if Congress waits until 2008 to tackle Medicare's financial problems, a Medicare payroll tax hike of nearly 700 percent will be needed to cover all its future deficits.
Yes, Medicare is worse off, and both programs demand fundamental reform. But why start with Social Security? First, Social Security reform is less complicated. Benefits are paid in cash and are thus relatively predictable. Shoring up its deficits will require one or more of the following: payroll tax increases, benefit cuts, raising the retirement age, or creating personal-retirement accounts for today's workers. Medicare "pays" seniors with health care, making spending reductions more complicated. The government must grapple with defining what benefits and procedures are covered, who can access them and when, and how to set reimbursement rates for doctors and hospitals. Deciding these issues involves analyzing voluminous data from the past and projecting health-care costs and needs for the future.
Second, Social Security reform is farther along. The idea of pre-funding future Social Security obligations through personal-retirement accounts was first advanced over 20 years ago. To date, much less research has been done on pre-funding Medicare's liabilities.
Third, tackling Social Security now will make Medicare reform easier down the line. If we can create personal-retirement accounts in Social Security, we can dispense with the myth of a "third rail" and convince workers and seniors that ownership-based reforms can save Medicare as well as Social Security. The Bush administration is hesitant to suggest Medicare reform because of the bitter wrangling that occurred over the 2003 prescription-drug benefit. Better to wait a few years than to tinker with Medicare while that law is being implemented, in their view.
For those reasons, most politicians and policymakers are unsure how to approach Medicare reform, and the political risks for suggesting changes to this behemoth program are great. The reality, however, is this: Social Security reform is on the table today, Medicare reform is not. Reforming Social Security while we have the opportunity to do so is far better than settling for the status quo on both Social Security and Medicare.
We need to show that putting Social Security and Medicare back on sound financial footing isn't impossible. If that means confronting Social Security's less-severe situation before moving on to Medicare, so be it. What matters in the end is that we reform both programs. Reforming Social Security now would be a giant step forward, and would probably do more than anything else to create momentum for reforming Medicare in the future.