Demographics Drive Our Long-Term Fiscal Challenges

Blog Post
Wednesday, July 05, 2017

The heart of the nation’s long-term fiscal challenge is a changing demographic landscape.

The ongoing retirement of the baby boom generation will continue to slow the growth rate of the workforce, which will slow potential economic growth (GDP) compared to earlier decades. According to CBO, the average annual growth rate of potential labor was 1.4 percent from 1950 to 2016. Due mostly to the baby boomer retirements, CBO projects that rate will fall to just 0.5 percent by 2027.

There was little trouble financing Social Security and Medicare when the large baby boom generation was entering the workforce and paying taxes to support those programs. In 1960, there were five workers paying for each Social Security beneficiary.

But today that ratio has fallen from 5-to-1 to just 3-to-1. And over the next 20 years, as baby boomers continue to leave the workforce, the ratio will fall to just 2-to-1. The result is that Social Security (and Medicare, which serves a similar population) will consume an increasing share of federal spending.

In addition to covering more beneficiaries, health care programs like Medicare will have to contend with higher costs per beneficiary. In 2016, one-in-four of eligible Medicare beneficiaries were 80 or older. Over the next 25 years, that will rise to one-in-three. Because older beneficiaries tend to have more expensive health care needs, this trend will further increase federal spending on old-age health care programs.

Existing dedicated revenue sources are insufficient to cover these growing spending obligations. In 2017, Social Security and Medicare will require $344 billion in general revenues to finance their shortfalls -- equal to 2.1 percent of GDP. By 2040, the annual shortfalls are projected to reach 4.2 percent of GDP.

These growing shortfalls in entitlement programs are simply not sustainable and threaten to crowd out other federal priorities if unaddressed. To secure these programs for future generations of beneficiaries, policymakers will need to increase revenues paid by working-age Americans, reduce payments to beneficiaries, or some combination of the two.