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United States Chained Consumer Price Index

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The U.S C-CPI-U, or more commonly known, the Chained United States Consumer Price Index is a time series measure of price levels of consumer goods and services created by the Bureau of Labor Statistics as an alternative to the United States Consumer Price Index. This index is not currently employed by the United States in its programs, but is often discussed as a possible reform because many economists believe it better measures inflation [1] and reduces the federal deficit through a combination of spending cuts and increased revenues. As such, because the Chained CPI is used to measure things such as Cost of Living Adjustments, overestimating inflation leads to a higher than actual living adjustment.[2]

Proponents of the chained CPI include the Washington Post Editorial Board[3] the Committee for a Responsible Federal Budget,[4] the Center for Budget and Policy Priorities,[5] and the Heritage Foundation [6] and it is included in various bipartisan commissions designed to reduce the deficit such as Simpson-Bowles, Domenici-Rivlin and the Gang of Six.[1] Opponents of the measure contend that changing inflation metrics to the Chained CPI would be a benefit cut to programs like Social Security and Supplemental Security Income.[3] Opponents include the American Federation of Government Employees, the AFL-CIO and Social Security Works.[7] Opponents claim that the current CPI devised for programs for the elderly understates their inflation by not taking into account different buying patterns for different age groups.[8]

Background

Currently, the United States’ federal government uses inflation measurements to calculate various programs outlays, such as Cost of Living Adjustments (COLAs) for programs like Social Security, and provisions related to the tax code. Right now, most programs are indexed to the CPI-U (Consumer Price Index for All Urban Consumers) and the CPI-W (Consumer Price Index for Urban Wage Earners and Clerical Workers).[9]

In 1996, the Advisory Committee to Study the Consumer Price Index (The Boskin Commission) overstated inflation and estimated that that in 1996, it was over-estimated by 1.1 percent. BLS responded by making changes to the CPI-U and CPI-W. However, a portion of the bias (upper-level substitution bias) was not addressed. In 2002 BLS created a new index, the Chained CPI that addressed this concern.[10]

The bias corrected is known as the substitution bias. The idea behind this is how consumers respond to price increases- for example, if the price of Granny Smith apples goes up, consumers may decide to purchase more Red Delicious Apples; this "lower-level" substitution bias is accounted for in the current CPI measurements. However, if consumers respond to the price increase of Granny Smith apples by purchasing fewer apples and instead purchase more oranges, thereby changing the “basket of goods”, this "upper-level" substitution is not accounted for in the traditional CPI, but is in the Chained CPI. This is because the CPI-W and CPI-U use a fixed basket of goods. Because of this, the Congressional Budget Office notes that current COLA’s, “CPI grows faster than the cost of living does.”[4][11]

According to the Committee for a Responsible Federal Budget, “moving to the Chained CPI would address this by using a superlative [chained] index that updates expenditure weights and formulas in order to address consumer response to substitution between categories.”[4]

Since 2000, on average, the Chained CPI has measured inflation between 0.25 percent to 0.3 percent lower than CPI-U and CPI-W. Opponents of the change note that while the difference is small, it compounds over time, making the reduction in outlays for COLAs for Social Security larger when looked at over a long time horizon.[4]

Methodology

Weightings for the various goods within the index basket are determined at the beginning and the end of the period inflation is being measured across. One inflation rate is calculated assuming the weighting at the start of the period, a second inflation rate is calculated assuming the later weighting. Those two rates are averaged to determine the chained CPI increase.[12]

Budgetary savings

One of the reasons that the Chained CPI is popular among many plans is that it significantly reduces the deficit through a technical change. The Moment of Truth Project estimates that moving to the Chained CPI would reduce the deficit by about $390 billion in the first decade alone, with roughly one third of the savings from Social Security, another third from increased federal revenue (via inflation-indexed tax provisions such as more slowly-growing tax bracket thresholds), and the remaining savings from a combination of other spending programs and reduced interest on the debt.[13] The Congressional Budget Office estimated in 2010 that switching to the Chained CPI would save $221 billion over ten years.[14] Implementing the Chained CPI for only some of the programs while trying to protect lower-income American would save $135 billion through 2022.[4]

Distribution effect

According to information based on the Social Security Administration,[15] the distributional effects of moving to the Chained CPI on Social Security Recipients is as followed (data for 2050):

Average Percent Reduction in Social Security Benefits

According to data from the Tax Policy Center, changing to the Chained CPI would have the following effect on the five quintiles:

Percent of Tax Units with a Tax Increase (Current Policy)

References

  1. ^ a b "Federal groups oppose shrinking benefits through 'chained CPI'". Washingtonpost.com. 2012-12-18. Retrieved 2012-12-26.
  2. ^ http://www.cbo.gov/sites/default/files/cbofiles/ftpdocs/112xx/doc11256/cpi_brief.pdf
  3. ^ a b http://big.assets.huffingtonpost.com/socialsecurity.pdf
  4. ^ a b c d e http://www.momentoftruthproject.org/sites/default/files/Measuring%20Up.pdf
  5. ^ "Social Security's COLA Needs to Be More Accurate". Blog.heritage.org. 2011-07-11. Retrieved 2012-12-26.
  6. ^ "Progressives slam chained CPI plan - Brett Norman". Politico.Com. 2012-12-19. Retrieved 2012-12-26.
  7. ^ Mullins, Luke (2010-05-20). "Are Seniors Getting Shafted on Social Security? - US News and World Report". Money.usnews.com. Retrieved 2012-12-26.
  8. ^ "Consumer Price Index (CPI)". Bls.gov. 2012-12-14. Retrieved 2012-12-26.
  9. ^ http://www.cbo.gov/sites/default/files/cbofiles/ftpdocs/112xx/doc11256/cpi_brief.pdf
  10. ^ Arnold, Roger A. (2008-12-12). Macroeconomics. Cengage Learning. pp. 122–. ISBN 9780324785500. Retrieved 14 March 2013.
  11. ^ Gramlich, Edward M. (April 29, 1998). "FRB: Testimony, Gramlich: Improving the consumer price index". Federal Reserve Board. Retrieved 14 March 2013.
  12. ^ Feigenbaum, Susan; Hafer, R.W. (2011-09-30). Principles of Macroeconomics: The Way We Live. Macmillan. pp. 184–. ISBN 9781429220200. Retrieved 14 March 2013.
  13. ^ The Moment of Truth (2013-03-19). "Measuring Up: The Case for The Chained CPI". Retrieved 2013-04-04.
  14. ^ "Cost of Living Adjustment Changes - Reduce the Cost of Living Adjustment by basing it on the Chained CPI, 2050". Ssa.gov. Retrieved 2012-12-26.
  15. ^ Tax Policy Center (2011-07-07). "Index Tax Parameters with Chained CPI; Baseline: Current Policy; Distribution by Cash Income Level, 2021". Taxpolicycenter.org. Retrieved 2012-12-26. {{cite web}}: |author= has generic name (help)
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