Two Misleading Narratives on the Social Security Funding Crisis - Part 1
If not for wage indexing, demographic pressures on Social Security would be far more manageable
This is part one of a two-part series examining misleading narratives about the causes of Social Security’s funding crisis. Part one addresses the role of population aging, while part two explores claims about rising income inequality and the payroll tax base.
The 2025 Social Security Trustees Report, released on June 18, reports that the Old Age and Survivors Insurance trust fund will be exhausted in 2033. Over the long term, Social Security faces an unfunded obligation that tops $26 trillion. This funding gap is often claimed to be the inevitable result of an aging population or the wealthy escaping their tax obligations. But the real story is more surprising—and more solvable.
A 1977 law that locked in automatic benefit growth has quietly driven the program toward insolvency, while shifts in how compensation is structured and taxed contribute to misunderstandings on the share of compensation affected by payroll taxation. Understanding these dynamics is critical to crafting effective reforms that address the root causes of Social Security’s funding gap.
Two common but misleading narratives
The Trustees Report is complex, but in discussions and reporting on Social Security’s financial challenges, two narratives are common.
The first narrative is that population aging – specifically, a smaller number of workers supporting larger numbers of seniors – is the natural driver of Social Security’s funding shortfall.
The second narrative is that, amidst this aging population, the share of total wages and salaries subject to the Social Security payroll tax has declined, from about 90 percent in 1983 to only 83 percent today. This change, it is argued, has allowed the wealthy to escape paying their fair share while Social Security’s finances suffer the cost.
Both narratives are true in the technical sense that Social Security’s Trustees and actuaries examine these questions.
But neither narrative tells the full story about how Social Security’s financial challenges arose and what policymakers might do to address them. And once the full story is recognized, the argument for simply raising taxes to keep Social Security is weakened.
Embedding economic growth as a key driver of benefit growth
The US population is indeed aging, due to both lower birth rates and longer life expectancies. As a result, the number of workers per Social Security beneficiary has declined, from 3.2 in 1977 (more on that date later) to 2.7 today. The Trustees project that by 2050, there will be just 2.2 workers per beneficiary.
But one fact is ignored: because real wages have been increasing, smaller numbers of workers could still support a larger number of retirees if those retirees’ benefits weren’t increasing at the same rate as wages. And, for most of Social Security’s history, that’s how the program worked.
From Social Security’s inception in 1935 up until 1977, Social Security benefits were increased on an ad hoc basis. In nine of 13 Congressional sessions from 1950 to 1975, Social Security benefits were boosted – and not merely through cost-of-living adjustments after retirement, but also the initial benefits when a person first retires. Benefits were increased as-needed and as-affordable, with Congress considering the adequacy of benefits as well as the other financial demands on the federal government.
But in 1977, Congress enacted and President Jimmy Carter signed a major change to the Social Security benefit formula. The 1977 Social Security Amendments put the benefit formula on autopilot, dictating that the initial benefits received in retirement would increase from year to year at the rate of national average wage growth. As a result, the average Social Security benefit today is about 70 percent higher than the average benefit paid in 1977, even after adjusting for inflation.
The average Social Security benefit today is about 70 percent higher, in inflation-adjusted terms, than the average benefit paid in 1977.
This approach, called “wage-indexing,” largely took economic growth out of Social Security’s funding equation. If the economy grows faster, wages grow faster and payroll tax revenues grow faster—but not long after, benefits start to grow faster as well. Wage indexation of initial benefits is why even sky-high rates of economic growth would not keep Social Security solvent.
But this was a policy choice: demographics didn’t have to be the main driver of Social Security’s costs. It was Congress in 1977 building economic growth into the benefit equation, that ensured demographics were all that was left.
It’s worth noting that Congress altered Social Security’s benefit formula against the unanimous recommendations of an expert panel created to consider just that issue. The panel argued that adopting a slower rate of benefit growth would allow “future generations to decide what benefit increases are appropriate and what tax rates to finance them are acceptable.”
Had the pre-1977 approach continued, Social Security would almost certainly be solvent today. Congress, ensuring that Social Security benefit costs would stay roughly in line with tax revenues, would have made its discretionary benefit increases just slightly smaller than the automatic rate that is now embedded in the program’s benefits.
But, by effectively giving away its power to adjust the growth rate of future benefits until a funding crisis was nigh, Congress made demographics destiny. And, in the process, has practically guaranteed that such a crisis will occur.
This is part one of a two-part series examining misleading narratives about the causes of Social Security’s funding crisis. Part one addresses the role of population aging, while part two explores claims about rising income inequality and the payroll tax base.
Andrew G. Biggs is a senior fellow at the American Enterprise Institute (AEI).
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