2002 OASDI Trustees Report
2002 OASDI Trustees Report |
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The basic economic assumptions are embodied in three alternatives that are designed to vary Social Security's financial status, and illustrate the likely range of outcomes that might be encountered. The intermediate assumptions reflect the Trustees' consensus expectation of moderate economic growth throughout the projection period. The low cost assumptions represent a more optimistic outlook, with relatively strong economic growth. The high cost assumptions represent a relatively pessimistic forecast, with weak economic growth and two recessions in the short-range period. Economic cycles are not included in the assumptions beyond the first 5 to 10 years of the projection period because they have little effect on the long-range estimates of financial status. Based on the latest estimates, the economy is assumed to be in recession in the latter half of 2001.
The following sections 1 through 4 discuss the basic economic assumptions that are summarized in table V.B1. The subsequent sections 5 through 7 discuss additional economic factors, summarized in table V.B2, that are critical to the projections of the future financial status of the combined OASI and DI Trust Funds.
Total U.S. economy productivity is defined as the ratio of real gross domestic product (GDP) to hours worked by all workers.1 The rate of change in total productivity is a major determinant in the growth of average earnings. For the 40 years from 1960 to 2000, annual increases in total productivity averaged 1.8 percent, the result of average annual increases of 2.7, 1.6, 1.4, and 1.6 percent for the 10-year periods 1960-70, 1970-80, 1980-90 and 1990-2000, respectively. The ultimate annual increases in productivity are assumed to be 1.9, 1.6, and 1.3 percent for the low cost, intermediate, and high cost assumptions, respectively. These are 0.1 percentage point higher than the ultimate rates assumed for the 2001 report. This increase reflects ongoing assessment of historical data, including the period of rapid productivity growth between 1995 and 2000.
For the intermediate assumptions, the annual change in productivity is assumed to increase from 1.3 percent in 2001 to 1.4 percent for 2002, and to 2.7 percent for 2003. This pattern reflects an assumed recession in the latter half of 2001, followed by gradually accelerating economic growth through 2003. Thereafter, the annual change in productivity gradually decreases to the ultimate assumed level of 1.6 percent by 2009. For the low cost assumptions, the annual change in productivity increases from 1.3 percent in 2001 to 1.9 percent for 2002, and to 3.0 percent for 2003, reflecting the improving economy. Thereafter, the annual change in productivity decreases gradually to the ultimate assumed level of 1.9 percent by 2009. For the high cost assumptions, the annual change in productivity increases from 1.2 percent in 2001 and 2002 to 2.7 percent for 2003. Thereafter, the annual change in productivity varies with the business cycle until reaching its ultimate growth rate of 1.3 percent for 2011.
Future changes in the Consumer Price Index for Urban Wage Earners and Clerical Workers (hereafter denoted as CPI) will directly affect the OASDI program through the automatic cost-of-living benefit increases. Future changes in the GDP chain-type price index (hereafter, the GDP deflator) may affect the nominal levels of the GDP, wages, self-employment income, average earnings, and the taxable payroll.
Historically, the CPI has increased by an average of 4.4 percent for the 40 years from 1960 to 2000, the result of average annual increases of 2.8, 7.8, 4.5, and 2.7 percent for the 10-year periods 1960-70, 1970-80, 1980-90 and 1990-2000, respectively. The GDP deflator has increased by 4.0 percent for 1960 to 2000, and by 2.7, 7.0, 4.3, and 2.1 percent annually for the same respective 10-year periods. It should be noted that several methodological changes made by the Bureau of Labor Statistics in methods for computing the CPI since 1995 will tend to reduce the difference between the growth rates of these indices in the future.
The ultimate annual increases in the CPI are assumed to be 2.0, 3.0, and 4.0 percent for the low cost, intermediate, and high cost assumptions, respectively. For each alternative, the ultimate annual increase in the GDP deflator is assumed to be equal to the sum of the annual increases in the CPI and a 0.2 percentage price differential. This differential is based primarily on methodological differences in the construction of the two indices. Hence, for the intermediate assumptions, the ultimate annual increase in the GDP deflator is 2.8 percent, the sum of the 3.0 percent assumed ultimate annual increase in the CPI and the 0.2 percent price differential. Similarly, the ultimate annual increases in the GDP deflator are 1.8 and 3.8 percent for the low cost and high cost assumptions, respectively. The assumed ultimate annual rates of increase in the CPI and the GDP deflator for each alternative are 0.3 percentage point lower than those used in the 2001 report. This change is based on the expectation that national policies that have resulted in relatively low inflation over the past decade will continue, generally, in the future.
For the intermediate assumptions, the annual change in the CPI is assumed to decrease from 2.8 percent in 2001 to 1.3 percent for 2002, then increase sharply to 2.5 percent for 2003 as the economy recovers from recession. Thereafter, the annual change in the CPI increases gradually to the assumed ultimate rate of 3.0 percent as of 2006. For the low cost assumptions, the annual change in the CPI decreases from 2.8 percent in 2001 to 1.2 percent for 2002, then increases to the assumed ultimate rate of 2.0 percent for 2003. For the high cost assumptions, the annual change in the CPI decreases from 2.8 percent in 2001 to 1.4 percent for 2002, and reaches its assumed ultimate rate of 4.0 percent as of 2009. For all three alternatives, the price differential, defined as the percent change in the GDP deflator less the CPI percent change, is 0.5 percentage point in 2001. The projected price differential for 2002 is 0.3 percentage point for the low cost and intermediate assumptions, and 0.1 percentage point for the high cost assumptions. The positive values for 2002 mostly reflect the effect of the actual historical decline in oil prices on the two inflation measures during the latter half of 2001. For all three alternatives, the price differential is 0.6 percentage point for 2003 and is projected to move smoothly toward 0.2 percentage point as of 2011.
The level of average (nominal) earnings in OASDI covered employment for each year has a direct effect on the size of the taxable payroll and on the future level of average benefits. In addition, increases in the level of average wages in the U.S. economy directly affect the indexation, under the automatic-adjustment provisions in the law, of the OASDI benefit formulas, the contribution and benefit base, the exempt amounts under the retirement earnings test, the amount of earnings required for a quarter of coverage, and under certain circumstances, the automatic cost-of-living benefit increases.
These concepts are closely linked to average U.S. earnings, defined as the ratio of the sum of total U.S. wage and salary disbursements and proprietor income to the sum of total U.S. military and total civilian (household) employment. The growth rates in average U.S. earnings can be broken down into the growth rates for total U.S. economy productivity and the GDP price index (see previous two sections), and the growth rates for other components, including average hours worked, the ratio of earnings to compensation (which includes fringe benefits), and the ratio of compensation to GDP.
Over the last 40 years, the average annual change in average hours worked was 0.1 percent, the result of annual average changes of -0.3, -0.6, 0.0, and 0.4 percent for the 10-year periods 1960-70, 1970-80, 1980-90 and 1990-2000, respectively. Some of the recent increase in the average percent change in average hours worked is believed to be associated with changes in the distribution of employment by age/sex and by educational attainment. In the future, these distributions are expected to largely stabilize. The average annual change in the ratio of earnings to compensation was 0.2 percent from 1960 to 2000. The assumed ultimate annual rates of change are 0.0, -0.1, and 0.2 percent for average hours worked, and -0.1, -0.2, and 0.3 percent for the ratio of earnings to compensation, for the low cost, intermediate, and high cost assumptions, respectively. The ratio of compensation to GDP is assumed to be stable.
The assumed ultimate annual growth rates in the average wage in OASDI covered employment (henceforth the average covered wage) are 3.6, 4.1, and 4.6 percent for the low cost, intermediate, and high cost assumptions, respectively. For the intermediate assumptions, the annual rate of change in the average covered wage is assumed to drop from the estimated 5.6 percent increase in 2001 to 3.1 percent for 2002, then rise to 4.9 percent for 2003, as the economy recovers from recession. For 2004 and later, the annual rate of change in the average covered wage is assumed to remain approximately constant at the assumed ultimate annual growth rate of 4.1 percent. (See table V.B1 for historical and assumed future values.)
The average annual growth rates in average U.S. earnings and average earnings in OASDI covered employment are expected to be very similar to the average annual growth rates in the average covered wage over long periods of time. Thus, the ultimate projected annual growth rate in average U.S. earnings is 4.1 percent for the intermediate assumptions. This reflects assumed ultimate annual growth rates of about 1.6, -0.2, -0.1, and 2.8 percent for productivity, the ratio of earnings to compensation, average hours worked, and the GDP deflator, respectively. Similarly, the ultimate projected annual growth rate in average nominal U.S. earnings is 3.6 percent for the low cost assumptions and 4.6 percent for the high cost assumptions.
For simplicity, real increases in the average covered wage have traditionally been expressed in the form of real-wage differentials—i.e., the percentage increase in the average covered wage minus the percentage increase in the CPI. This differential is closely related to assumed growth rates in average earnings and productivity, which are discussed in the previous subsection. Over the 40-year period, 1961-2000, the real-wage differential averaged 1.1 percentage points, the result of averages of 1.8, -0.2, 1.2, and 1.8 percentage points for the 10-year periods 1961-70, 1971-80, 1981-90 and 1991-2000, respectively. The assumed ultimate annual average covered real-wage differentials are 1.6, 1.1, and 0.6 percentage point(s) for the low cost, intermediate, and high cost assumptions, respectively.
Based on preliminary data, the real-wage differential was 2.8 percentage points in 2001. For the intermediate assumptions, the real-wage differential is projected to fall to about 1.8 percentage points for 2002, then rise to 2.4 percentage points for 2003 as the economy recovers from recession. The real-wage differential is projected to fall to 1.5 percentage points for 2004, 1.2 percentage points for 2005 and 2006, and to about the ultimate assumed differential of 1.1 percentage points (4.1 percent nominal wage growth less 3.0 percent CPI inflation) for 2007 and thereafter.
For the low cost assumptions, the real-wage differential is assumed to be in the range of 1.3 percentage points to 2.7 percentage points between 2002 and 2010, remaining at about the ultimate assumed real-wage differential of 1.6 percentage points thereafter. For the high cost assumptions, the real-wage differential for the short-range period is projected to fluctuate between -1.6 and 2.3 percentage points, eventually stabilizing at about 0.6 percentage point for 2011 and later.
1 The real-wage differential is the difference between the percentage increases, before rounding, in the average annual wage in covered employment, and the average annual Consumer Price Index. 2 The Consumer Price Index is the annual average value for the calendar year of the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPIW). |
The civilian labor force is projected by age, sex, marital status, and presence of children. Projections of the labor force participation rates for each subgroup take into account the percentages of the population that are disabled or in the military, the levels of Social Security retirement benefits, and the state of the economy. The projections also include a "lagged-cohort effect" that applies changes in participation rates for a cohort at a specific age (relative to earlier cohorts at the same age) to participation rates for that cohort at older ages.
The annual rate of growth in the size of the labor force decreased from an average of about 2.1 percent during the 1970s and 1980s to about 1.1 percent from 1990 to 2000. Further slowing of labor force growth is projected due to a substantial slowing of growth in the working age population in the future-a natural consequence of the baby-boom generation approaching retirement and the succeeding lower-birth-rate cohorts reaching working age. The projected slowdown in labor force growth also reflects a change from relatively rapid growth in older female labor force participation rates to virtually no growth by about 2005. Under the intermediate assumptions, after 2000 the labor force is projected to increase by about 0.9 percent per year, on average, through 2011, and to increase much more slowly thereafter, ultimately reaching a 0.2 percent annual growth rate over the final third of the 75-year projection period.
The ultimate projected labor force participation rates are not basic assumptions. They are derived from a historically-based structural relationship using demographic and economic assumptions specific to each alternative. Because no variation in the structural relationship is assumed, and participation rates are not highly sensitive to most of the demographic and economic assumptions, the ultimate projected labor force participation rates vary only slightly across alternatives.
For men, the projected age-adjusted labor force participation rates for 2080 for the low cost, intermediate, and high cost assumptions are 1.0, 1.1, and 0.9 percentage point(s) lower, respectively, than the 2000 level of 74.7 percent. (Age-adjusted labor force participation rates are adjusted to the 2000 age distribution of the civilian noninstitutional U.S. population.) These declines are due to increases in the disability prevalence rates and in the proportion of males who are never married. For women, the projected age-adjusted labor force participation rates for 2080 for the low cost, intermediate, and high cost assumptions are 0.3, 0.3, and 0.2 percentage point higher, respectively, than the 2000 level of 60.2 percent. These increases are due, in part, to lagged-cohort effects and projected increases in the proportion of females who are never married, separated, widowed, or divorced.
The unemployment rate presented in table V.B2 is in the most commonly cited form, the civilian rate. For years through 2011, total rates are presented without adjustment for changes in the age-sex distribution of the population. For years after 2011, unemployment rates are presented as total age-sex adjusted rates (using the age-sex distribution of the 2000 civilian labor force). Age-sex adjusted rates allow for more meaningful comparisons across time periods.
The total unemployment rate reflects the projected levels of unemployment for various age-sex subgroups of the population. Unemployment rates for each subgroup are projected based on a specification (consistent with Okun's Law) relating changes in the unemployment rate to the changes in the business cycle, as measured by the ratio of the actual to potential GDP. For each alternative, the total unemployment rate is projected to move toward the ultimate assumed rate as the economy moves toward the long-range sustainable growth path.
The ultimate age-sex adjusted unemployment rate for each alternative is assumed to be reached by 2011. After 2011, the age-sex adjusted rate is stable because the ratio of actual to potential GDP is assumed to be constant. The ultimate assumed unemployment rates are 4.5, 5.5, and 6.5 percent for the low cost, intermediate, and high cost assumptions, respectively. These are the same values assumed in the 2001 report.
The real growth rate in GDP equals the combined growth rates for total employment, productivity, and average hours worked. Total employment is the sum of the U.S. Armed Forces and total civilian employment, which is based on the projected total civilian labor force and unemployment rates. For the 30-year period from 1970 to 2000, the average growth rate in real GDP was 3.2 percent, combining the growth rates of 1.7, 1.5, and 0.1 percent for its components-total employment, productivity, and average hours worked, respectively.
For the intermediate assumptions, the average annual growth in real GDP is projected to be 2.7 percent over the short-range projection period (2002-11), a slower rate than the 3.2 percent average observed over the historical 30year period (1970-2000). This slowdown is primarily due to slower projected growth in total employment. For the low cost assumptions, annual growth in real GDP is projected to average 3.2 percent over the decade ending in 2011. The relatively faster growth is due mostly to a higher assumed rate of growth in worker productivity. Both the low cost and intermediate assumptions reflect the recession in the latter half of 2001, although the recession is assumed to be milder under the low cost assumptions. For the high cost assumptions, the recession in the second half of 2001 is deeper and continues into the first quarter of 2002, resulting in a total decline in real GDP of 1.5 percent. After 12 quarters of recovery, a second recession, with a total decline in real GDP of 1.8 percent, is assumed to begin in the second quarter of 2005 and last 3 quarters. After the second recession, a moderate economic recovery is assumed through 2008, with continued modest economic growth thereafter. For the high cost assumptions, annual growth in real GDP is projected to average 1.9 percent for the decade ending in 2011.
After 2011, no economic cycles are assumed. Thus, projected rates of growth in real GDP are determined by the projected full-employment rate of growth for total employment, and the assumed full-employment rates of growth for labor productivity and average hours worked. For the intermediate assumptions, the projected rate of growth for real GDP falls toward the assumed productivity growth rate because of the projected decline in labor force growth over the period. By 2080, the growth in real GDP slows to about 1.6 percent, due to the assumed ultimate percent changes of 0.2, 1.6, and -0.1 for total employment, productivity, and average hours worked, respectively.
The interest rate presented in table V.B2 is the average of the nominal interest rates for special U.S. Government obligations issuable to the trust funds in each of the 12 months of the year. Interest for these securities is generally compounded semiannually. The real interest rate (ex post) is defined to be the annual (compounded) yield rate for investments in these securities divided by the annual rate of growth in the CPI for the first year after issuance. For 2001, the average annual nominal interest rate for securities newly issued to the trust funds was 5.2 percent, a decrease of 1.0 percentage point from the average nominal interest rate of 6.2 percent in 2000.
In developing a reasonable range of assumed ultimate future real interest rates for the three alternatives, historical experience was examined for the 40 years, 1961-2000, and for each of the 10-year subperiods, 1961-70, 1971-80, 1981-90, and 1991-2000. For the 40-year period, the real interest rate averaged 3.3 percent per year. For the four 10-year subperiods, the real interest rates averaged 2.2, 0.4, 6.2 and 4.4 percent, respectively. The assumed ultimate real interest rates are 3.7 percent, 3.0 percent, and 2.2 percent for the low cost, intermediate, and high cost assumptions, respectively. The ultimate real yields are assumed to be reached by the end of the short-range period. These annual real yields are the same as those assumed in the 2001 report.
For the 10-year short-range projection period, nominal interest rates are projected based on changes in the business cycle and in the CPI. Under the intermediate assumptions, the nominal interest rate is projected to drop from 5.2 percent in 2001 to 4.9 percent in 2002, reflecting continued weakness in the economy and a lower rate of inflation. Thereafter, the nominal interest rate rises to 6.4 percent by 2005, before declining to the ultimate assumed level of 6.0 percent in 2009. For the low cost assumptions, the average annual nominal interest rate is assumed to reach an ultimate level of about 5.7 percent in 2006. For the high cost assumptions, it is assumed to peak at 8.2 percent in 2006 and 2007, and then decline to an ultimate rate of about 6.2 percent in 2010.
1 Unadjusted civilian unemployment rates are shown through 2011. Thereafter, the rates are adjusted to the age-sex distribution of the civilian labor force in 2000. 2 The average annual interest rate is the average of the nominal interest rates, which, in practice, are compounded semiannually, for special public-debt obligations issuable to the trust funds in each of the 12 months of the year. 3 The U.S. civilian labor force concept is used here. 4 Total of civilian and military employment in the U.S. economy. 5 The real GDP (gross domestic product) is the value of total output of goods and services, expressed in 1996 dollars. |
1 Historical levels of real GDP are from the Bureau of Economic Analysis' (BEA) National Income and Product Accounts (NIPA). Historical total hours worked is an unpublished series provided by the Bureau of Labor Statistics (BLS), and is for all civilian and military wage and salary workers and the self-employed.
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