Annual spending on Social Security will exceed the system's tax revenue in 2018 and the trust fund will be empty in 2042, at which point the system will be insolvent. Under current law, the benefits the system will be able to pay from that year on will be only as great as the revenues coming in. Retirees would receive only about 75 percent of scheduled benefits. The reason for this shortfall is twofold: firstly, Americans are having fewer children and living longer. Secondly, adjusted for inflation, benefits increase each year. This is called "indexing" and was introduced in 1977.

As currently structured, social security reduces national savings. If social security taxes were invested by the government and returned to workers with interest, social security would essentially be a system of forced savings. Such a "fully funded" system would likely replace private savings, but have little effect on national savings. But because social security now operates as a "pay as you go" (PAYG) system in which worker contributions are immediately transferred to current retirees, the reduction of private savings is not matched by government savings andso national savings decline.

The decline in national saving is problematic in the long term because saving finances investment--so less saving means less investment. (A reduction in national saving must reduce either domestic investment or net investment abroad).

The solve the problem, most propose that government either raise taxes or decrease benefits. Macroeconomics addresses both these solutions. Looking at the supply side, macroeconomics predicts that increased taxes will slow economic growth. Raising the retirement age is one way in which benefits can be reduced. Life expectancies have increased significantly since Social Security was enacted, and it makes sense to expect people to work longer. This would result in a larger labor force, and would move the labor supply curve outward. If you are familiar with the Phillips curve, you should see that the macroeconomic implication of higher unemployment will be lower inflation. Decreasing benefits, on the other hand, could harm the economy through reduced demand. The multiplier effect indicates that when one dollar of income is removed from the economy, the economy will shrink by more than $1.

There are lots of different specific proposals to fix social security. I will examine one for you, and you should investigate others on your own. The "6.2% Solution" currently has more support than any other proposed Social Security reform plan. Under this plan, workers fifty-five years and older would remain in the Social Security program as it currently functions. Those under age fifty-five have choices such as diverting some funds to private accounts or remaining in the system as currently structured. The results of this plan will largely depend on the stock market. Should private accounts prosper, retirees will have more income. This will result in increased demand. Supply on the other hand will be reduced, as fewer older workers will choose to remain in the labor force. Price levels will therefore increase.