Last week it was revealed that the President's budget proposal will include a revision to the way the government calculates the impact of the rate of inflation as a concession to House Republicans.
Still, a switch to chained CPI from the current rate demonstrably cuts benefits to seniors and could be a stealth tax on primarily the middle class.
The Consumer Price Index (CPI) is used as a proxy for the annual cost of living adjustment used to keep federal benefits in line with inflation.
There are several different ways that economists calculate the Consumer Price Index, according to the AARP Public Policy Institute.
- CPI-W is the current cost of living adjustment index for Social Security. It reflects the spending habits of households where the income comes from a wage earner.
- CPI-U expands CPI-W to reflect the spending habits of the retired, professionals, the unemployed and self-employed as well as wage earners.
- A new, experimental CPI-E looks exclusively at how the elderly spend their money.
"Chained CPI" refers to another adjustment, particularly to CPI-U.
As an example, CPI-U and CPI-W already incorporate people switching from Starbucks coffee to homemade when prices increase.
Chained CPI-U takes that a step further — the idea that when coffee gets more expensive, people switch to orange juice. It incorporates more switching.
When it comes down to it, Chained CPI-U spits out a lower rate of inflation than regular CPI-U, which already spits out a lower rate of inflation than the current CPI-W. As a result, were the government to switch the way they index cost of living adjustments to chained CPI-U from CPI-W, payouts to seniors would increase at a much slower rate.
This means that over time, seniors receiving Social Security see their benefits cut.
Here's a comparison of CPI-W, CPI-E, and chained CPI-U from the AARP Public Policy Institute. Keep in mind that, as an advocacy group, the AARP probably wants CPI-E to become the law of the land. You can see how much less the C-CPI-U (chained CPI, green line) will pay out over time.
Now, assuming chained CPI were the law of the land ten years ago, here's how much less money an elderly person making $878 per month in 2001 would make with C-CPI-U according to a Center for Economic and Policy Research study:
You'll see that the annual Social Security payment in 2012 under chained CPI would be the same as it was in real life in 2009.
Switching to the Chained CPI immediately would have a more significant impact on the retirement income of seniors than the ending the Bush-era tax cuts would have on the after-tax income of the wealthiest 2 percent of households. For the average worker retiring at age 65, this would mean a cut of about $650 each year by age 75 and a cut of roughly $1,130 each year at age 85.
Just a reminder: President Obama is the one proposing this.
Still, chained CPI could also hit the middle class. While Social Security is tied to CPI-W currently, the cost of living adjustment to tax brackets is indexed to CPI-U.
If the president's budget updates CPI-U to chained CPI-U, the thresholds for tax brackets would rise more slowly. This leads to incomes increasing faster than tax bracket thresholds do.
As a result, incomes would jump to higher tax brackets faster, CEPR reported, and the effective income tax rates would increase:
According to Congress’ Joint Committee on Taxation, if individual income taxes were indexed to the Chained CPI starting in January 2013, by 2021, 69 percent of the gains in revenue would come from taxpayers with incomes below $100,000, while those in the highest income brackets would barely be affected.
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