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December 19, 2004

Something Else I *Need* to Be Reading: Lowest Deep

Following my trackbacks... down, I guess... leads me to the excellent Adam O'Neill:

The Lowest Deep: There's a lot of confusion about how social security benefits are indexed to wages and to prices and how changing indexing will change benefits. Part of the confusion stems from the fact that when people talk about switching from wage indexing to price indexing they're often not talking about the same thing.

There are two different and important components of Social Security indexed to wage growth: 1) Your average earnings over the 35 highest earning years of your life (your AIME) and 2) Parameters of the benefit calculator called (rather scientifically) "bend points" that are used to extrapolate the benefit amount from your AIME. Social Security takes your earnings each year and multiplies them by wage growth between that year and today, finds the monthly average to get your AIME, and then compares your AIME to the formula based on the "bend points." You get 90% of your earnings back up the first "bend point" 35% between point 1 and point 2 and 15% after point 2 up to a maximum benefit.

The effects of changing from wage indexing to price indexing depend crucially on if you are changing one or the other...

Posted by DeLong at December 19, 2004 10:19 PM

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Posted by: Peatey at December 19, 2004 11:57 PM

I tried posting this at Adam's site, but, it told me it was too long.

I noticed this point the other day. in the limit, what happens is that the "bendpoint factors" (the 90, 32, 15 percentage points) go to zero - as you say say.

Of course, in the limit, the the bendpoints (the $600 and $3,300) go to infinity, as they rise with average wage growth.

So, the dollar value of the benefit grows over time as the bendpoints go to infinity faster than the factors go to zero.

This is a huge benefit cut compared to current law, and, is the sole reason for the finacing improvement resulting from Plan 2. Privatization is, of course, completely irrelevant to any financing improvement.

What all this really says to me is that the "infinite horizon" projections people throw around are absurd. The President has mentioned the "$10.4 trillion shortfall" in Social Security. To make people realize how useless this number is, explain how this price-vs.-wage indexing will solve it:

"We're going to design it so that Social Security eventually returns zero percent of your lifetime earnings. But, don't worry, those earnings will by then be infinity, so, you'll still get a pretty good check."


Posted by: joshb at December 20, 2004 07:14 AM