Conservatives, predictably, cried hot tears of anger. But this is very good news. Why?
I’ll get to that in a minute, but first, what is the CPI anyway?
CPI measures how much the price of a representative basket of goods and services has changed over time—that is, CPI measures inflation. Several government programs, including Social Security benefits, are indexed to inflation subject to the CPI—they grow proportionally every year relative to how much prices have increased. This is so that beneficiaries don’t face a de facto benefit cut every year due to rising prices.
The problem is that inflation can be measured in a number of different ways. For example, the Consumer Price Index for Urban Consumers (CPI-U) measures the prices faced by all urban consumers. Social Security currently uses the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). The difference? CPI-W only looks at prices paid by urban-wage earners, rather than all consumers.
But the Bureau of Labor Statistics (BLS) also “chains” these indexes by taking a slightly broader view of how the baskets should work to account for switching behavior—what economists call “substitution effects.” For example, one reason people buy Red Delicious apples is because they are cheaper than Granny Smith apples. But if the price of Red Delicious apples were to rise above the price of Granny Smith apples, many people would switch. So consumers’ actual apple expenditures wouldn't go up as much as the “unchained” indexes would suggest. Chained CPI attempts to take this behavior into account.
That’s where the politics comes in. Deficit scolds have argued that Social Security benefits should be switched to chained CPI-U because the conventional CPI overstates true inflation. But as with most things political, there’s a hidden agenda here. The truth is that the effect of using chained CPI-U is to cut Social Security expenditures by slashing benefits to retirees. This wouldn’t affect benefits immediately after retirement, which are based on your past earnings. What it does mean is that after retirement your payments grow more slowly, by about 0.25 and 0.35 percent each year. But saying “We should cut Social Security benefits for seniors” isn’t exactly a winning political strategy. So instead you hear, “We should switch to using chained CPI.”
But no matter which way you slice it, this is bad policy. As Matthew Yglesias points out, chained CPI might be a better way to measure inflation for a typical household, but your grandparents aren’t a typical household. For example, the elderly tend to spend more on medical services than the average person, so are less interested in the rising price of an Xbox. To be sure, BLS also calculates the Experimental Price Index for the Elderly (CPI-E), which is weighted to the basket of goods consumed by the elderly. Sure enough, these prices tend to rise faster than the conventional measure of CPI.
Despite these logic flaws, proponents of the switch will tell you that we should do it anyway because it saves the Social Security trust fund about $112 billion over the next ten years. But if you’re concerned about the long run budget picture, this isn’t the right place to cut. For the fact of the matter is, these savings won’t have a substantial impact on the underlying budget issues, which are mainly related to health care costs.
Now, you might say that benefit payments are expected to exceed payroll tax revenues in the not-so-distant future. Isn’t that a Social Security budget crisis?
No, it’s not. Social Security has a dedicated tax that has built up a surplus over the past several decades. So even though the program will eventually face a budget shortfall, that’s why the trust fund has a surplus! No crisis here.
Besides, if you’re worried about ensuring Social Security is around in the future, cutting benefits is deeply illogical. As Dean Baker put it a few years ago, “In the future, Social Security might have to cut benefits. To prevent these possible future benefit cuts, we must cut future benefits.” Huh?
Budget wonks will tell you that what we really have is a budget crisis in the General Fund. But Social Security has been run responsibly, which raises the obvious question, why were we ever talking about cutting it?