Why is Obama attacking Social Security?

The Chained CPI proposed by President Obama would limit increases in Social Security, disability and veterans benefits on the grounds that recipients could offset increases in prices by lowering their standard of living.  That is the definition of the Chained CPI.   It is a CPI that will not keep up with the increases in prices measured by the standard Consumer Price Index.  Since income tax rates also are tied to the Consumer Price Index, switching to the Chained CPI would also be a middle-class tax cut.

Note also that Social Security benefits are linked to lifetime earnings, which for most citizens are not keeping up with inflation, so future retirees are going to have a tougher time even if the President does nothing.

Obama said his purpose is to induce Republicans in Congress to accept his budget and tax proposals, but the Republican leadership has not asked for this and is likely to use this as a political weapon against Obama and the Democrats.  It would be an effective weapon for the GOP.  Why, then, does the President want to cut Social Security?  Why is so much of the Washington establishment in favor of it?

While I can’t read their minds, I can think of two reasons why they might.  One reason is political and the other financial.

The political reason is that so long as Treasury bonds are held by the Social Security trust fund, that portion of the national debt is off-budget.  The federal government owes about $16 trillion to holders of Treasury bonds, but the $2.5 trillion held by the Social Security trust fund and $4 trillion held by other government trust funds are off-budget.

As soon as the Social Security Administration starts to sell those bonds to private investors, the national debt will appear to increase, even though the only thing that changes is that the debt is held by private citizens instead of for the benefit of American senior citizens.

Recall that Social Security taxes were increased and the full-benefits retirement age raised for 65 to 67 back in 1983 to create a surplus, which is intended the retirement benefits of the baby boom generation were covered.   That surplus was invested in Treasury bonds.  While the Social Security administration is paying out more in benefits than it is collecting in taxes, it still is accruing interest on its Treasury bonds.  But it will soon have to start cashing in those bonds in order to cover its obligations.

The economic reason that financiers might object to this is that putting Treasury bonds on the market will decrease the price of bonds, which is the same as increasing the interest on bonds.   Many other interest rates are pegged to the interest rate on U.S. government bonds, so, all other things being equal, this would mean an overall increase in interest rates.  An increase in interest rates makes bonds a better investment compared to stocks.  In other words, drawing down the Social Security trust fund would tend to depress the stock market.

I don’t think the effect would be trivial.  One of the things that has generated the current stock market boom is that most savers can’t earn interest on their bank accounts or money market funds.   Investors are forced to take a risk if they want to increase their holdings

I have two moderate suggestions:

• Have the Federal Reserve System create money to buy Treasury bonds from the Social Security trust fund, just as it is now creating money to buy “toxic assets” from the big Wall Street banks.   The Fed could hold or extinguish the bonds, so the financial markets would be unaffected and the national debt would actually be lowered.
• Index the cap on income subject to Social Security taxes to the Consumer Price Index to keep Social Security solvent for the long-term future.

Obama’s stealth attack on Social Security

President Obama is trying to sell a truly bad idea—a stealth plan for cutting Social Security and other social safety net programs by changing the means of calculating cost of living adjustments.   Instead of using the present Consumer Price Index, which is based on the prices of a market basket of goods, the President proposes to use switch to a “Chained CPI,” which goes up at a slower rate than actual prices.

This would affect not only Social Security, but veterans’ benefits, disability benefits and any other government program that is linked to the Consumer Price Index.  It is a stealth increase in taxes, because income tax brackets are now indexed to the CPI so that taxpayers aren’t moved into higher brackets by means of inflation.  The taxpayers whose taxes would increase are those in the middle tax brackets, not those already in the highest brackets.

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Supposedly elderly Americans rely on three “legs” for their retirement income—savings, company pensions and Social Security.  I’m one of the fortunate few who actually has all three “legs”.  But most elderly American are down to just one “leg”  and would be  badly hurt by any cuts to Social Security.

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The above chart shows the dependence on Social Security of the various income groups.  The first quintile is the bottom 20 percent of elderly Americans in income, and the fifth quintile is the top 20 percent in income.  The chart above shows that the first three quintiles—60 percent of American senior citizens—get the vast majority of their income from Social Security, and the next quintile gets half.   The chart below gives a different breakdown.

Cost of living increases would be three-tenths of a percentage point less under the Chained CPI system that they are now. That doesn’t seem like much, but the cumulative effect would be sizeable.

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The existing CPI probably understates rather than overstates the rise in the cost of living for senior citizens.  We spend a larger fraction of our income than average Americans on medical care and housing, whose cost is rising faster than the cost of food, transportation and communication.  Some economists propose a CPI-E which would reflect senior citizens’ actual medical and housing costs.

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The great harm that Barack Obama has done as President has been to persuade Democrats to go along with anti-liberal policies out of loyalty and the perception that it is enough that he is not a Republican.  During the Bush administration, then House Speaker Nancy Pelosi blocked proposals by President Bush that would have undermined Social Security.  Now she is a proponent of the Chained CPI.

I don’t know the President’s motives in taking the stand he does.  I suspect that he simply accepts the consensus among the Washington elite that Social Security, Medicare and other elements of the social safety net need to be reduced, and that the most important objective for government is to eliminate the federal budget deficit.  My guess is that, in working against the interests and wishes of his core supporters, he thinks of himself as a great statesman, like President Nixon going to China.

Click on A President Who’ll Cut Social Security, and Liberals Who Love Him Too Much for analysis by Richard RJ Eskow for Crooks and Liars.

Click on House Democrats Express Openness to Entitlement Benefit Cuts for a Talking Parts Memo article on how Democrats embrace the Chained CPI.

Click on Chained CPI: the Younger You Are, the Bigger the Cut for analysis by the AFL-CIO.

Click on Numbers Racket for a 2008 article by Kevin Phillips on the history of changes in the CPI.  I doubt if you will be surprised to learn that each change in the CPI calculation made the rise in the cost of living seem less than it was before.

Social Security is in danger—from Obama

President Obama is using the debt ceiling talks as an excuse to reduce Social Security benefits—even though Social Security adds not one cent to the national government’s debt.

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The method by which this would be accomplished would be to index Social Security benefits to something called the “chained Consumer Price Index” which would go up at a slower rate than the regular Consumer Price Index.  This could lower the annual income of the average retiree by small amounts year by year, but the cumulative amount would be large—nearly $1,000 a year by age 85, nearly $1,400 a year by age 95.

The idea of the chained CPI is that people adapt to higher prices by changing their habits, and so their actual cost of living does not go up at as fast a rate as actual prices.  This is different from the “substitution effect,” which is incorporated into the regular CPI—that if the price of beef goes up, but the price of chicken does not, then people will switch to chicken and this affects their cost of food.  (This illustrates the principle.  I don’t know if it is an actual example.)(This is an actual example)  The chained CPI takes into account not only substitutions of products, but changes in lifestyle.  If you take a “staycation” instead of a regular vacation, your cost of living doesn’t rise with the cost of travel.  (I’m not sure if this is an actual example).

The problem with this is that the budgets of elderly people are not so flexible.   Even the regular CPI does not reflect the cost of living of the elderly.  A couple of years back, the Bureau of Labor Statistics created a new index called the “Consumer Price Index–Elderly” or CPI-E, which reflected out-of-pocket expenses for medical care, drugs, special diets and other costs specific to the elderly.  What the bureau found was that the CPI-E index rose twice as fast as the regular CPI.   So Social Security increases already fall short of the actual cost of living of the elderly, and the Chained CPI would cause them to fall behind even more.

Cutting Social Security benefits would not reduce the national debt one cent.   Social Security has its own revenue stream, and the Social Security Administration is currently drawing down a surplus accumulated in prior years to meet its current payments.  By most estimates, the Social Security Administration will be able to meet its obligations with no change in benefits or taxes for at least 25 years.

If Social Security benefits are cut and Social Security taxes remain the same, the Social Security Trust Fund will continue to buy U.S. Treasury bonds, and these bonds will still be a fiduciary obligation of the government, whatever retirees get or don’t get.