President Obama unveiled his budget yesterday and liberal groups have responded angrily to the inclusion of Chained-CPI in the proposal. A quick recap: currently Social Security benefits increase each year to keep pace with inflation according to the Consumer Price Index (CPI). The current calculation for inflation does not take into account that when the price of one product increases, people will switch to a lower-priced substitute instead of paying the higher price. The classic example is that when the price of beef rises, people buy more chicken and less meat, so the actual increase in the cost-of-living is not equal to the rise in the price of meat. Chained-CPI takes this into account. Since Chained-CPI is a low measure of inflation, Social Security benefits will grow at a slower rate. Thus, liberals argue that Chained-CPI is a benefit cut.
However, both CPI and chained-CPI estimate inflation for the average person. But Social Security beneficiaries are not average people. Most of them are elderly and much of their consumption comes in the form of health care and housing. Since health care and housing prices have risen faster than the rest of economy, the cost-of-living for seniors has increased at a quicker rate as well. That means that CPI and Chained-CPI both actually underestimate inflation for Social Security beneficiaries. Their benefits should actually rise quicker than inflation.
Nevertheless, much of the discussion right now centers on the fact that Chained-CPI is a benefit cut. The Washington Post‘s Dylan Matthews outlines everything I’ve said above and more, but finishes his piece by saying:
But ultimately, the question of which you prefer likely has more to do with whether you think Social Security benefits need to be pared back to ensure the program’s long-run solvency, or whether you think the elderly need, if anything, a benefit bump. Those are policy questions, not technical ones, and all the debate in the world about chained CPIs and CPI-Es relative methodological merits won’t resolve them.
Slate’s Matt Yglesias has a slightly better take:
As a technical matter, the best way to express this would be to start with the most accurate possible measurement of the price level (I might prefer the PCE deflator) and then inflate it by a fixed amount. But using a measurement of the price level that slightly overstates inflation works too.
If we want to have real benefits increases slowly each year for beneficiaries, then let’s use Yglesias’s technical fix. But, let’s start by getting the level of inflation right. CPI is not correct. Chained-CPI is also not correct. The closest measure right now may be CPI-E, but it’s still experimental and not ready for use.
In the end, I’m with Kevin Drum: let’s budget a small bit of money to research and develop a precise measure of inflation and then implement it. After that, we can start talking about inflating it by a fixed amount (as Yglesias advocates) or pairing benefits back altogether (as many Republicans advocate). First, though, let’s get it right.