Chained CPI explained

So.  President Obama proposed moving to something called Chained CPI (Consumer Price Index) in his budget.  It looks as if the proposal is probably DOA.  My personal, maybe naive thought is that the President proposed it to show, one more time, that he is open to compromise suspecting that the Republicans wouldn’t accept his offer.  I think he might have expected the outcry from the progressives side.  Maybe he wanted us to protest showing the Republicans that he can put things on the table that his supporters don’t like.  (Sneaky, that man.)  But he needs to make sure the proposal itself didn’t open a crack in a door the Republicans want to open – the subject for a different post.

But since Chained CPI seems to keep popping up  I thought I would try to understand what it is and why it is not so good not only for retirees, but for the middle class taxpayer.

Ezra Klein explained it this way.

Here are the facts. Chained-CPI does mean that Social Security beneficiaries will see their benefits cut. Imagine a person born in 1936 who retired in 2001, at age 65. For simplicity, let’s assume they’re eligible for the maximum benefit. Given that the cap was below $30,000 a year as recently as 1980, it’s not inconceivable that a middle or upper-middle class person with steadily increasing earnings since 1958 would be in this situation.

Their initial benefit would have been $1,538 a month, or $18,456 a year. Under existing law, they would have gotten a series of cost-of-living adjustments (COLAs). By 2013, COLAs would have increased this person’s annual benefit to $24,689.49. However, under chained CPI, it would be $23,820.19, a decrease of $869.30. That’s a 3.5 percent cut in benefits. And, of course, a 3.5 percent cut in income matters a lot more when you’re barely clearing $20,000 a year than it does when you’re making a regular middle-class salary.

chainedcpi_cuts1

There are also a lot of questions about how the Chained CPI would be calculated.

There would be other complications as well. Kenneth Stewart, an economist in the Division of Consumer Prices and Price Indexes at the Bureau of Labor Statistics (BLS), is one of the guys who computes the various CPIs every month. He notes that one benefit of CPI-W and other unchained CPIs is that they are final upon issuance. That is, the numbers are never revised. Two weeks after this month ends, BLS will release the April 2013 CPI, and that will always and forever be the April 2013 CPI.

Not so for chained CPI. “The chained CPI-U is subject to revision because we don’t get the actual expenditure data until 1 or 2 years later,” he notes. For example, in 2005 we had access to final chained CPI data for 2003, and only interim data for 2004. If we were to adopt chained CPI, we’d either have to use incomplete data, or else wait until we had final data to implement COLAs, which would further compound the cuts. The former, of course, would reduce the accuracy of the measure, a feature that proponents often tout.

George Zornick published a long and interesting piece in the Nation on the myths about Chained CPI which is well worth reading.  In addition to the benefit cuts to seniors, taxes would also go up because the plan would be to link everything to the Chain.  Look at this chart.

Notice the group getting the biggest tax hike is families making between $30,000 and $40,000 a year. Their increase is almost six times that faced by millionaires.

Notice the group getting the biggest tax hike is families making between $30,000 and $40,000 a year. Their increase is almost six times that faced by millionaires.

Both Zornick and Klein talk about a special Chained CPI for the elderly based on the goods and services the elderly purchase most:  housing and health care.

Klein says

…critics of chained CPI have sometimes promoted the CPI-E, an experimental index meant to measure price changes within products bought by the elderly. Because it’s experimental and simply a result of reweighing the existing CPI measures to more heavily account for goods like housing and health care, the BLS doesn’t publish the data on its website, but it’s available upon request. Stewart, who helped develop CPI-E, explains that it’s an unchained measure, and because of that its numbers don’t need to be revised.

In the mid-2000s, the housing bubble and boom in health-care prices meant that CPI-E, which weights both more heavily, rose faster than conventional inflation measures. In 2008, for instance, adopting CPI-E as Social Security’s inflation measure would have given our hypothetical retiree $327.88 more a year. However, since the housing bubble burst and health-care prices started slowing in growth, that effect has diminished. “Medical care inflation has been relatively subdued,” Stewart says. “Shelter prices have also been very tame in, really, the last seven or eight years.” As a result, in 2013 CPI-E would have resulted in only $56 in additional annual benefits for our test retiree.

A money saver, right?  Zornick says no.

The Economic Policy Institute has the numbers here:

In short, the 65-and-older households spend roughly three times what the rest of the population does on health care, measured as a share of total spending. Further, between 1989 and 2007,prices for health care have risen nearly twice as fast as overall inflation—growing 100% over that timespan, compared with 53% growth in overall prices of consumption goods.

Seniors spend a lot of money on health care, and just aren’t able to buy different, cheaper drugs when the price of their medication goes up—so the Chained CPI argument just doesn’t work here. And the price of those drugs is going up much faster than the prices of most consumer goods, and the same is true of Medicare premiums.

I  won’t argue that the CPI is a great definitive measure.  Sending people around to price stuff every month is mildly nuts, but the CPI has worked for a long time.  I think we need to look at some other ways to “save”  Social Security.  And Social Security shouldn’t be part of any budget cutting plan to begin with.  Chained CPI is not a winner, no matter what some Democrats, some economists and many Republicans may claim.

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