Stochastic Models of the Social Security Trust Funds

By Burdick, Clark; Manchester, Joyce | Social Security Bulletin, January 1, 2003 | Go to article overview

Stochastic Models of the Social Security Trust Funds


Burdick, Clark, Manchester, Joyce, Social Security Bulletin


The 2003 Trustees Report on the Old-Age and Survivors Insurance and Disability Insurance Trust Funds contains, for the first time, results from a stochastic model of the combined trust funds of the OASDI programs. To help interpret the new stochastic results and place them in context, the Social Security Administration's Office of Policy arranged for three external modeling groups to produce alternative stochastic results. This article demonstrates that the stochastic models deliver broadly consistent results even though they use significantly different approaches and assumptions. However, the results also demonstrate that the variation in trust fund outcomes differs as the approach and assumptions are varied.

Summary

Each year in March, the Board of Trustees of the Social Security trust funds reports on the current and projected financial condition of the Social Security programs. Those programs, which pay monthly benefits to retired workers and their families, to the survivors of deceased workers, and to disabled workers and their families, are financed through the Old-Age, Survivors, and Disability Insurance (OASDI) Trust Funds. In their 2003 report, the Trustees present, for the first time, results from a stochastic model of the combined OASDI trust funds.

Stochastic modeling is an important new tool for Social Security policy analysis and offers the promise of valuable new insights into the financial status of the OASDI trust funds and the effects of policy changes. The results presented in this article demonstrate that several stochastic models deliver broadly consistent results even though they use very different approaches and assumptions. However, they also show that the variation in trust fund outcomes differs as the approach and assumptions are varied. Which approach and assumptions are best suited for Social Security policy analysis remains an open question. Further research is needed before the promise of stochastic modeling is fully realized. For example, neither parameter uncertainty nor variability in ultimate assumption values is recognized explicitly in the analyses. Despite this caveat, stochastic modeling results are already shedding new light on the range and distribution of trust fund outcomes that might occur in the future.

Introduction

The stochastic model used in the 2003 Trustees Report was developed by the Office of the Chief Actuary (OCACT) of the Social Security Administration to illustrate the uncertainty surrounding projections of the financial future of the Social Security system over the next 75 years. The stochastic results are intended to augment the traditional demonstrations of uncertainty used in past Trustees Reports. The standard method of demonstrating uncertainty is to present three alternative sets of deterministic projections. The intermediate (Alternative II) projections are intended to reflect the best estimates of future experience. The low-cost (Alternative I) and high-cost (Alternative III) projections are based on more optimistic and more pessimistic assumptions about the future, respectively. The three alternatives indicate a possible range for future experience. The stochastic model also relies on the assumptions underlying the intermediate (Alternative II) projections. Time constraints dictated that the stochastic results in the 2003 Trustees Report be based on the assumptions from the 2002 report.

The purpose of stochastic modeling is to further illustrate the degree of uncertainty inherent in projecting future financial outcomes for the combined OASDI trust funds. Those outcomes depend on the future values of a large number of demographic, economic, and program-specific variables that cannot be known with certainty and must be forecast. Stochastic modeling is an attempt to forecast the future values of variables in a manner that is consistent with contemporary economic and demographic theory and with empirical evidence. The statistical techniques used in stochastic modeling help to ensure that the variables that determine the future financial condition of the combined OASDI trust funds evolve over time in a fashion that is consistent with their past behavior and is intended to be consistent with their actual future behavior. …

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