Management’s Discussion & Analysis

An Unsustainable Fiscal Path

An important purpose of the Financial Report is to help citizens understand current fiscal policy and the importance and magnitude of policy reforms necessary to make it sustainable. This Financial Report includes the SLTFP and a related Note Disclosure (Note 24). The Statements display the PV of 75-year projections of the federal government’s receipts and non-interest spending¹⁸ for FY 2020 and FY 2019.

Fiscal Sustainability

A sustainable fiscal policy is defined as one where the debt-to-GDP ratio is stable or declining over the long term. The projections based on the assumptions in this Financial Report indicate that current policy is not sustainable. This report presents data, including debt, as a percent of GDP to help readers assess whether current fiscal policy is sustainable. The debt-to-GDP ratio reached 100 percent at the end of FY 2020. The long-term fiscal projections in this report are based on the same economic and demographic assumptions that underlie the 2020 Social Security and Medicare Trustees’ Reports, and those assumptions were developed prior to the COVID-19 pandemic and economic downturn. At this time, management cannot reasonably estimate the potential effects of COVID-19 on the projections or other sustainability measures (such as projected depletion dates for the Social Security and Medicare Hospital Insurance Trust Funds in Table 10 below), which could be significant. As discussed below, if current policy is left unchanged and based on this report’s assumptions, the debt-to-GDP ratio is projected to rise to over 124 percent in 2030, and to 623 percent in 2095 and to even higher levels, thereafter. Preventing the debt-to-GDP ratio from rising over the next 75 years is estimated to require some combination of spending reductions and revenue increases that amount to 5.4 percent of GDP over the period. While this estimate of the “75-year fiscal gap” is highly uncertain, it is nevertheless nearly certain that current fiscal policies cannot be sustained indefinitely.

Delaying action to reduce the fiscal gap increases the magnitude of spending and/or revenue changes necessary to stabilize the debt-to-GDP ratio. For example, the magnitude of spending cuts and/or revenue increases necessary to close the gap rises about 18.5 percent if reforms are delayed ten years, and a further 21.9 percent if reform is delayed 20 years.

The estimates of the cost of policy delay assume policy does not affect GDP or other economic variables. Delaying fiscal adjustments for too long raises the risk that growing federal debt would increase interest rates, which would, in turn, reduce investment and ultimately economic growth.

The projections discussed here assume current policy¹⁹ remains unchanged, and hence, are neither forecasts nor predictions. Nevertheless, the projections demonstrate that policy changes must be enacted to move towards fiscal sustainability.

The Primary Deficit, Interest, and Debt

The primary deficit – the difference between non-interest spending and receipts – is the determinant of the debt-to-GDP ratio over which the government has the greatest control (the other determinants include interest rates and growth in GDP). Chart 9 shows receipts, non-interest spending, and the difference – the primary deficit – expressed as a share of GDP. The primary deficit-to-GDP ratio spiked during 2009 through 2012 due to the 2008-09 financial crisis and the ensuing severe recession, as well as the increased spending and temporary tax reductions enacted to stimulate the economy and support recovery. These elevated primary deficits resulted in a sharp increase in the ratio of debt to GDP, which rose from 39 percent at the end of 2008 to 70 percent at the end of 2012. As an economic recovery took hold, the primary deficit ratio fell, averaging 2.1 percent of GDP over 2013 through 2019, The primary deficit-to-GDP ratio again spiked in 2020, rising to 13.3 percent of GDP in 2020, due to increased spending to address the COVID-19 pandemic and lessen the economic impacts of stay-at-home and social distancing orders on individuals, hard-hit industries, and small businesses.

The primary deficit ratio is projected to fall to 6.0 percent in 2021 and then shrink to 2.9 percent in 2023 as the economy grows and spending due to legislation enacted in response to the COVID-19 pandemic decreases. After 2023, however, increased spending for Social Security and health programs due to the ongoing retirement of the baby boom generation and increases in the price of health care services is projected to result in increasing primary deficit ratios that reach 4.4 percent of GDP in 2030. The primary deficit ratio peaks at 5.4 percent in 2042, gradually decreases beyond that point as aging of the population continues at a slower pace, and reaches 4.3 percent of GDP in 2095.

Primary deficit trends are heavily influenced by tax receipts. Receipts as a share of GDP were markedly depressed in 2009 through 2012 because of the recession and tax reductions enacted as part of the ARRA and the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. The share subsequently increased to 18.0 percent of GDP by 2015, before falling below the 30-year average of 17.1 percent in 2018, after enactment of the TCJA.

Receipts were 16.3 percent of GDP in 2020. After 2024, receipts grow slightly more rapidly than GDP over the projection period as increases in real incomes cause more taxpayers and a larger share of income to fall into the higher individual income tax brackets.

On the spending side, the non-interest spending share of GDP, which was 29.6 percent in 2020, is projected to fall to 20.5 percent in 2024. After 2024, the non-interest spending share of GDP is projected to rise gradually from 20.8 percent in 2025 to 23.5 percent of GDP in 2078, and ends at 23.3 percent in 2095, the end of the projection period. Beginning in 2025, these increases are principally due to faster growth in Medicare, Medicaid, and Social Security spending (see Chart 9). Over the next 20 years, the spending shares of GDP of Social Security and Medicare are projected to increase by about 0.9 and 1.5 percentage points, respectively, from 2021 to 2040. The spending share of GDP for Medicaid stays roughly the same over that period. After 2040, the Social Security and Medicaid spending share of GDP remains relatively stable, while the Medicare spending share of GDP continues to increase through 2082, albeit at a slower rate, due to projected increases in health care costs and population aging.

On a PV basis, deficit projections reported in the FY 2020 Financial Report increased in both present-value terms and as a percent of the current 75-year PV of GDP. As discussed in Note 24, the largest factors affecting the projections were actual budget results for FY 2020 and the budget estimates published in the FY 2021 President’s Budget. This includes lower individual income tax receipts and higher spending for mandatory programs other than Social Security, Medicare, and Medicaid. Other factors affecting the change in these projections included updates of economic and demographic assumptions which increases the imbalance by 0.3 percent of the 75-year present value of GDP ($8.1 trillion), including lower population growth, which lowers wage projections and decreases individual income tax and social insurance receipts; the effect of new Social Security, Medicare, and Medicaid program-specific actuarial assumptions and the change in reporting period - the effect of shifting calculations from 2020 through 2094 to 2021 through 2095.

One of the most important assumptions underlying the projections is the future growth of health care costs. As discussed in Note 23, these future growth rates – both for health care costs in the economy generally and for federal health care programs such as Medicare, Medicaid, and PPACA exchange subsidies – are highly uncertain. In particular, enactment of the PPACA in 2010 and the MACRA in 2015 established cost controls for Medicare hospital and physician payments whose long-term effectiveness of which is not yet clear. The Medicare spending projections in the long-term fiscal projections are based on the projections in the 2020 Medicare Trustees’ Report, which assume the PPACA and MACRA cost control measures will be effective in producing a substantial slowdown in Medicare cost growth. As discussed in Note 23, the Medicare projections are subject to much uncertainty about the ultimate effects of these provisions to reduce health care cost growth. For the long-term fiscal projections, that uncertainty also affects the projections for Medicaid and exchange subsidies, because the cost per beneficiary in these programs is assumed to grow at the same reduced rate as Medicare cost growth per beneficiary. The most recent Social Security and Medicare Trustees’ Reports were released in April 2020, and the economic and demographic assumptions do not reflect the effects of the COVID-19 pandemic, increasing the uncertainty surrounding this year’s long-term fiscal projections. At this time, management cannot reasonably estimate the potential effects of COVID-19 on the projections or other sustainability measures (such as projected depletion dates for the Social Security and Medicare Hospital Insurance Trust Funds in Table 10), which could be significant. See Note 24—Long-Term Fiscal Projections for additional information.

As discussed in Note 24 for the FY 2020 report, other key assumptions include, but are not limited to the following. For receipts, individual income taxes are based on the share of individual income taxes of salaries and wages in the FY 2021 President’s Budget, and the salaries and wages projections in the Social Security 2020 Trustees’ Report. That baseline accords with current policy as defined above, including the continuation of individual income and estate and gift tax provisions of the TCJA and the tendency of effective tax rates to increase as growth in income per capita outpaces inflation. Congressional action is required to make these changes. Similar to spending, the temporary receipt effects of legislation enacted in response to the COVID-19 pandemic are reflected through 2030 based on CBO estimates. Corporate income tax receipts are assumed to be the same share of GDP as projected in the President’s Budget in the short term, which incorporates the expected effects of the TCJA, and then grow with GDP over the long term. For discretionary spending, the projections assume that discretionary spending stays within statutory caps that apply to 2021 under the 2019 BBA. Congressional action is required to fund this assumed discretionary spending. Similar to mandatory spending, discretionary spending from supplemental appropriations enacted in response to the COVID-19 pandemic is reflected through 2030, based on CBO estimates. GDP, interest, and other economic and demographic assumptions are the same as those that underlie the most recent Social Security and Medicare Trustees’ Report projections, adjusted for historical revisions that occur annually. See Note 24—Long-Term Fiscal Projections for additional information about the assumptions used in this analysis.

The primary deficit-to-GDP projections in Chart 9, projections for interest rates, and projections for GDP together determine the debt-to-GDP ratio projections shown in Chart 10. That ratio was 100 percent at the end of FY 2020 and under current policy is projected to exceed the historic high of 106 percent in 2025, rise to 200 percent by 2042 and reach 623 percent by 2095. The change in debt held by the public from one year to the next generally represents the budget deficit, the difference between total spending and total receipts. The debt-to-GDP ratio rises continually in great part because primary deficits lead to higher levels of debt, which lead to higher net interest expenditures, and higher net interest expenditures lead to higher debt.²⁰ The continuous rise of the debt-to-GDP ratio indicates that current policy is unsustainable.

These debt-to-GDP projections are higher than the corresponding projections in both the 2019 and 2018 Financial Reports. For example, the last year of the 75-year projection period used in the FY 2018 Financial Report is 2093. In the FY 2020 Financial Report, the debt-to-GDP ratio for 2093 is projected to be 605 percent, which compares with 467 and 530 percent projected for that same year in the FY 2019 Financial Report and the FY 2018 Financial Report, respectively.²¹

The Fiscal Gap and the Cost of Delaying Policy Reform

The 75-year fiscal gap is one measure of the degree to which current policy is unsustainable. It is the amount by which primary surpluses over the next 75 years must, on average, rise above current-policy levels in order for the debt-to-GDP ratio in 2095 to remain at its level in 2020. The projections show that projected primary deficits average 4.8 percent of GDP over the next 75 years under current policy. If policies were adopted to eliminate the fiscal gap, the average primary surplus over the next 75 years would be 0.6 percent of GDP, 5.4 percentage points higher than the projected PV of receipts less non-interest spending shown in the basic financial statement. Hence, the 75-year fiscal gap is estimated to equal 5.4 percent of GDP. This amount is, in turn, equivalent to 30.2 percent of 75-year PV receipts and 23.8 percent of 75-year PV non-interest spending. The fiscal gap was estimated at 3.8 percent in the 2019 Financial Report.

In these projections, closing the fiscal gap requires running substantially positive primary surpluses, rather than simply eliminating the primary deficit. The primary reason is that the projections assume future interest rates will exceed the growth rate of GDP. Achieving primary balance (that is, running a primary surplus of zero) implies that the debt grows each year by the amount of interest spending, which under these assumptions would result in debt growing faster than GDP.

Table 7 shows the cost of delaying policy reform to close the fiscal gap by comparing policy reforms that begin in three different years. Immediate reform would require increasing primary surpluses by 5.4 percent of GDP on average between 2021 and 2095 (i.e., some combination of reducing spending and increasing revenue by a combined 5.4 percent of GDP on average over the 75-year projection period). Table 6 shows that delaying policy reform forces larger and more abrupt policy reforms over shorter periods. For example, if policy reform is delayed by 10 years, closing the fiscal gap requires increasing the primary surpluses by 6.5 percent of GDP on average between 2031 and 2095. Similarly, delaying reform by 20 years requires primary surplus increases of 6.5 percent of GDP on average between 2041 and 2095. The differences between the required primary surplus increases that start in 2031 and 2041 (6.5 and 7.8 percent of GDP, respectively) and that which starts in 2021 (5.4 percent of GDP) is a measure of the additional burden that delay would impose on future generations. Future generations are harmed by policy reform delay, because the higher the primary surplus is during their lifetimes the greater the difference is between the taxes they pay and the programmatic spending from which they benefit.

Conclusion

The debt-to-GDP ratio is projected to rise over the 75-year projection period and beyond if current policy is unchanged, based on this report’s assumptions, which implies that current policy is not sustainable and must ultimately change. If policy changes are not so abrupt as to slow economic growth, then the sooner policy changes are adopted to avert these trends, the smaller the changes to revenue and/or spending that would be required to achieve sustainability over the long term. While the estimated magnitude of the fiscal gap is subject to a substantial amount of uncertainty, it is nevertheless nearly certain that current fiscal policies cannot be sustained indefinitely.

These long-term fiscal projections and the topic of fiscal sustainability are discussed in further detail in Note 24 and the RSI section of this Financial Report.

Social Insurance

The long-term fiscal projections reflect government receipts and spending as a whole. The SOSI focuses on the government’s “social insurance” programs: Social Security, Medicare, Railroad Retirement, and Black Lung.²² For these programs, the SOSI reports: 1) the actuarial PV of all future program revenue (mainly taxes and premiums) - excluding interest - to be received from or on behalf of current and future participants; 2) the estimated future scheduled expenditures to be paid to or on behalf of current and future participants; and 3) the difference between 1) and 2). Amounts reported in the SOSI and in the RSI section in this Financial Report are based on each program’s official actuarial calculations.

The SOSI projections are based on the same economic assumptions that underlie the Social Security Trustees’ Report, and those assumptions were developed using data as of January 1, 2020, prior to the economic downturn. At this time, management cannot reasonably estimate the potential effects of COVID-19 on the SOSI or other sustainability measures (such as projected depletion dates for Social Security and Medicare Hospital Insurance Trust Fund in Table 10 below), which could be significant.

Table 8 summarizes amounts reported in the SOSI, showing that net social insurance expenditures are projected to be $65.5 trillion over 75 years as of January 1, 2020 for the “Open Group,” an increase of $6.4 trillion over net expenditures of $59.1 trillion projected in the 2019 Financial Report.²³ The current-law 2020 amounts reported for Medicare reflect the physician payment levels expected under the MACRA payment rules and the PPACA-mandated reductions in other Medicare payment rates, but not the payment reductions and/or delays that would result from trust fund depletion.²⁴ Similarly, current-law projections for Social Security do not reflect benefit payment reductions and/or delays that would result from fund depletion. By accounting convention, the transfers from the General Fund to Medicare Parts B and D are eliminated in the consolidation of the SOSI at the government-wide level and as such, the General Fund transfers that are used to finance Medicare Parts B and D are not included in table 8. For the FYs 2020 and 2019 SOSI, the amounts eliminated totaled $40.9 trillion and $36.8 trillion, respectively. SOSI programs and amounts are included in the broader fiscal sustainability analysis in the previous section, although on a slightly different basis (as described in Note 24).

The amounts reported in the SOSI provide perspective on the government’s long-term estimated exposures for social insurance programs. These amounts are not considered liabilities in an accounting context. Future benefit payments will be recognized as expenses and liabilities as they are incurred based on the continuation of the social insurance programs' provisions contained in current law. The social insurance trust funds account for all related program income and expenses. Medicare and Social Security taxes, premiums, and other income are credited to the funds; fund disbursements may only be made for benefit payments and program administrative costs. Any excess revenues are invested in special non-marketable U.S. government securities at a market rate of interest. The trust funds represent the accumulated value, including interest, of all prior program surpluses, and provide automatic funding authority to pay cover future benefits.

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Table 9 identifies the principal reasons for the changes in projected social insurance amounts during 2020 and 2019.

The following briefly summarizes the significant changes for the current valuation (as of January 1, 2020) as disclosed in Note 23 —Social Insurance. Note 23 is compiled from disclosures included in the financial reports of those entities administering these programs, including SSA and HHS. See Note 23 for additional information.

• Change in valuation period (affects both Social Security and Medicare): This change replaces a small negative net cash flow for 2019 with a much larger negative net cash flow for 2094. As a result, the PV of the estimated future net cash flows decreased (became more negative) by $2.2 trillion.
• Changes in demographic data, assumptions, and methods (affects both Social Security and Medicare): There were two changes to ultimate demographic assumptions compared to prior valuation: the ultimate total fertility rate was lowered; and the ultimate disability incidence rate was lowered, and the near-term assumed disability incidence rates are somewhat lower in the current valuation. In addition to this ultimate demographic assumption change, the starting demographic value and the way these value transition to the ultimate assumptions were changed. Overall, changes to these assumptions caused the PV of the estimated future net cash flows to increase (become less negative) by $3.3 trillion for Social Security and Medicare, respectively.

• Changes in economic data and assumptions (affects Social Security only): Several changes were made to the ultimate economic assumptions since the last valuation period. Lower assumed total-economy labor productivity growth and a lower assumed ultimate interest rate all contribute to lower projected cash flow while a change in projected ultimate inflation rates and an increase in the projected real wage differential partly offset the changes that have a negative effect. There was one notable change which was incorporating more recent projections of disability prevalence in the labor force participation model. Overall, changes to these assumptions caused the PV of the estimated future net cash flows to decrease (become more negative) by $1.8 trillion.
• Changes in law or policy (affects both Social Security and Medicare): For Social Security, between prior valuation and the current valuation one new law and one new regulation were enacted that are expected to have significant effects on the long-range cost. The ACA, which was enacted in 2010, specified an excise tax on employer-sponsored group health insurance premiums above a given level (commonly referred to as the “Cadillac” tax). On December 20, 2019, the ACA’s excise tax provision was repealed. On February 25, 2020, SSA published a final rule in the Federal Register that eliminates the inability to communicate in English as an educational category in the disability determination and medical review process. Most of the provisions enacted as part of Medicare legislation since the prior valuation date had little or no impact on the program. Overall, the changes to these laws, regulations, and policies caused the PV of the estimated future net cash flows to decrease (become more negative) by $0.6 trillion for Social Security and Medicare.
• Changes in methodology and programmatic data (affects Social Security only). Several methodological improvements and updates of program-specific data are included in the current valuation, including, but not limited to: 1) the ultimate disability incidence rate was lowered from 5.2 per thousand exposed in the prior valuation to 5.0 in the current valuation; 2) as in the prior valuation, the current valuation uses a 10-percent sample of newly-entitled worker beneficiaries in a recent year to project average benefit levels of retired-worker and disabled-worker beneficiaries; and 3) The current valuation includes an improvement in the long-range model used for projecting the percentage of the population that has fully-insured status. Overall, changes in methodology and programmatic data caused the PV of the estimated future net cash flows to increase (become less negative) by $0.2 trillion.
• Changes in economic and other healthcare assumptions (affects Medicare only): The economic assumptions used in the Medicare projections are the same as those used for the OASDI (described above) and are prepared by the Office of the Chief Actuary at SSA. In addition to the economic assumptions changes described above, the healthcare assumptions are specific to the Medicare projections. Changes to these assumptions in the current valuation include: higher projected spending growth for Medicare Advantage beneficiaries; faster projected spending growth for physician-administered drugs under Part B; slower overall drug price increases and higher direct and indirect remuneration. The net impact of these changes caused the PV of the estimated future net cash flows to decrease (become more negative) by $5.4 trillion.
• Change in Projection Base (affects Medicare only): Actual income and expenditures in 2019 were different than what was anticipated when the 2019 Medicare Trustees’ Report projections were prepared. Part A income and expenditures in 2019 were lower than anticipated based on actual experience. For both Part B and Part D, total income and expenditures were higher than estimated based on actual experience. The net impact of the Part A, B, and D projection base changes is an increase of $401 billion in the PV of the estimated future net cash flow, including combined trust fund assets. Actual experience of the Medicare Trust Funds between January 1, 2019 and January 1, 2020 is incorporated in the current valuation and is more than projected in the prior valuation. Overall, the net impact of the Part A, B, and D projection base change is an increase (become less negative) in the estimated future net cash flows by $0.1 trillion for Medicare.

As reported in Note 23, uncertainty remains about whether the projected cost savings and productivity improvements will be sustained in a manner consistent with the projected cost growth over time. Note 23 includes an alternative projection to illustrate the uncertainty of projected Medicare costs. As indicated earlier, GAO disclaimed opinions on the 2020, 2019, 2018, 2017 and 2016 SOSI because of these significant uncertainties.

Costs as a percent of GDP of both Medicare and Social Security, which are analyzed annually in the Medicare and Social Security Trustees’ Reports, are projected to increase substantially through the mid-2030s because: 1) the number of beneficiaries rises rapidly as the baby-boom generation retires and 2) the lower birth rates that have persisted since the baby boom cause slower growth in the labor force and GDP.²⁵ According to the Medicare Trustees’ Report, spending on Medicare is projected to rise from its current level of 3.7 percent of GDP to 6.0 percent in 2044 and to 6.5 percent in 2094.²⁶ As for Social Security, combined spending is projected to generally increase from its current level of 5.0 percent of GDP to about 5.9 percent by 2038, declining to 5.8 percent by 2053 and then generally increase to 5.9 percent by 2094. The government collects and maintains funds supporting the Social Security and Medicare programs in trust funds. A scenario in which projected funds expended exceed projected funds received, as reported in the SOSI, will cause the balances in those trust funds to deplete over time. Table 10 summarizes additional current status and projected trend information, including years of projected depletion, for the Medicare Hospital Insurance and Social Security Trust Funds.

As previously discussed and as noted in the Trustees’ Reports, these programs are on a fiscally unsustainable path. Additional information from the Trustees’ Reports may be found in the RSI section of this Financial Report.

Footnotes

¹⁸ For the purposes of the SLTFP and this analysis, spending is defined in terms of outlays. In the context of federal budgeting, spending can either refer to: 1) budget authority – the authority to commit the government to make a payment; 2) obligations – binding agreements that will result in either immediate or future payment; or 3) outlays, or actual payments made.  (Back to Content)

¹⁹ Current policy in the projections is based on current law, but includes certain adjustments, such as extension of certain policies that expire under current law but are routinely extended or otherwise expected to continue (e.g., reauthorization of the SNAP). (Back to Content)

²⁰ The change in debt each year is also affected by certain transactions not included in the budget deficit, such as changes in Treasury’s cash balances and the nonbudgetary activity of federal credit financing accounts. These transactions are assumed to hold constant at about 0.3 percent of GDP each year, with the same effect on debt as if the primary deficit was higher by that amount.  (Back to Content)

²¹ See the Note 23 of the FY 2019 Financial Report of the U.S. Governmentfor more information about changes in the long term fiscal projections between FYs 2018 and 2019.  (Back to Content)

²² The Black Lung Benefits Act provides for monthly payments and medical benefits to coal miners totally disabled from pneumoconiosis (black lung disease) arising from their employment in or around the nation's coal mines. See https://www.dol.gov/owcp/regs/compliance/ca_main.htm.  (Back to Content)

²³ 'Closed' Group and 'Open' Group differ by the population included in each calculation. From the SOSI, the 'Closed' Group includes: 1) participants who have attained eligibility and 2) participants who have not attained eligibility. The 'Open' Group adds future participants to the 'Closed' Group. See ‘Social Insurance’ in the RSI section in this Financial Reportfor more information. (Back to Content)

²⁴ MACRA permanently replaces the Sustainable Growth Rate formula, which was used to determine payment updates under the Medicare physician fee schedule with specified payment updates through 2025. The changes specified in MACRA also establish differential payment updates starting in 2026 based on practitioners’ participation in eligible APM; payments are also subject to adjustments based on the quality of care provided, resource use, use of certified electronic health records, and clinical practice improvement.  (Back to Content)

²⁵ A Summary of the 2020 Annual Social Security and Medicare Trust Fund Reports, page 4.  (Back to Content)

²⁶ Percent of GDP amounts are expressed in gross terms (including amounts financed by premiums and state transfers). (Back to Content)