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Indexing

Indexing. Economics 428 Fall 2010. Two Separate Issues. How to index monthly benefits How to calculate the initial benefit. Benefits are Indexed by the CPI (not wages). Maintains the real value of the benefit Retirees get no benefit from productivity growth.

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Indexing

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  1. Indexing Economics 428 Fall 2010

  2. Two Separate Issues • How to index monthly benefits • How to calculate the initial benefit

  3. Benefits are Indexed by the CPI(not wages) • Maintains the real value of the benefit • Retirees get no benefit from productivity growth

  4. Contributions are indexed by wages • Contributions are made over 40 years • A contribution of $100 (in constant prices) • Worth more if made in 1977 • Than in 2007

  5. To compute current value of 1977 contribution • Current system • Contribution in 1977 * (wage rate 2007/wage rate 1977)

  6. Growth in wages takes into account • Growth in prices over 30 years • Growth in productivity over 30 years

  7. If current value of 1977 contribution was calculated using prices • Contribution in 1977 * (prices in 2007/prices in 1977) • Same real contribution in dollars would be counted the same, no matter when it was made.

  8. Ratio of initial benefits to contributions would fall • Contributions are a fixed portion of real wages. As real wages went up - contributions would rise • Initial benefits would not be linked to real wages. • As real wages rose - initial benefits would not.

  9. In 20 years • Benefits would be a small fraction of contributions. • Social Security would be very unpopular.

  10. Thank You

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