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On Government
"Trust Funds"

Social Security benefits, like all other government outlays, must be paid for each year either by taxes or borrowing, i.e. deficit spending.  When a federal trust fund is credited with more income than outgo, the trust fund ‘balance’ increases.  Exactly what does that mean?

Writing IOUs to Yourself

 In fiscal year 2005, the federal government ran a $364 billion deficit.  That means it spent every dollar of tax receipts, plus $364 billion it borrowed from the public.  That is, it sold Treasury bills, notes, and bonds to any entity outside the federal government, including domestic individuals and companies, banks, state and local governments, as well as foreign individuals and central banks.

If it spent everything it received and spent an additional $364 billion of borrowed money, how could it credit a trust fund balance?  The answer is: by writing IOUs to itself.  That is, the government issued its own securities to itself in that amount.  Unlike debt created when it sells securities to outside entities, the bonds that constitute the trust fund ‘balances’ are neither debts nor assets, rather they are essentially meaningless bookkeeping entries.

Canceling IOUs to Yourself

In the case where a trust fund program spends more than it takes in, the outlays are still funded the same way that all outlays are funded:  by tax revenues and borrowing from the public to make up the shortfall.  But the trust fund balance is reduced by the amount of the shortfall.  What does that mean?  It means the federal government cancels debt to itself by ‘redeeming’ some of the bonds it issued to itself. 

Just as I incur no debt by issuing an IOU to myself, neither do I decrease my liabilities or increase my assets by canceling such an IOU.  The same is true of the federal government.  The government acknowledges this in the FY 1996 budget document entitled Analytical Perspectives, p. 258, where it says:

These balances are available to finance future benefit payments and other trust fund expenditures – but only in a bookkeeping sense.  Unlike the assets of private pension plans, they do not consist of real economic assets that can be drawn down in the future to fund benefits.

When a Trust Fund Balance Reaches Zero

What happens when a trust fund is depleted?  Nothing, because the trust fund balance does not pay for program outlays.  Current tax receipts and borrowing from the public pay for all program outlays.  Future benefit payments must be paid out of future tax collections and borrowing.

Furthermore the amount spent by a program like Social Security is determined by the beneficiary formulas written into the law.  Until the formulas are changed by amending the law, the federal government must make good on those obligations.  The trust fund balances are irrelevant, both financially and legally.

The Real Meaning of a Government Trust Fund

The very use of the term trust fund when applied to federal trust funds is misleading.  As the government puts it in Analytical Perspectives, FY 1996, p. 251: 

The Federal budget meaning of the term trust differs significantly from its private sector usage.  In the private sector, the beneficiary of a trust owns the income generated by the trust and usually its assets.  A trustee, acting as a fiduciary, manages the trust assets on behalf of the beneficiary.  The trustee is required to follow the stipulations of the trust, which he cannot change unilaterally.  In contrast, the federal government owns the assets and earning of federal trust funds, and it can raise or lower future trust fund collections and payments, or change the purpose for which the collections are used by changing existing law.

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