Executive Summary:

There has been a serious push in policy circles to cut Social Security benefits for near- and/or current retirees.  The argument for such cuts has been based on the deficits in the federal budget; the finances of the Social Security program have been at most a secondary consideration.

However, the finances of the current or near-retirees who would be affected by these cuts have also largely been ignored in this discussion.  This is striking because this group has been hardest hit by the collapse of the housing bubble and the resulting plunge in stock prices.  These workers had accumulated some wealth -- mostly in the form of home equity -- which they stood to lose as a result of the crisis.  Since they are at or near retirement age, they will have little opportunity to replace their lost wealth.

This paper assesses the cuts implied by three common proposals for reducing Social Security benefits:

1. Adopting a "progressive price" indexation (PPI) formula for the basic benefit structure,
2. Accelerating and extending the increase in the normal retirement age, and
3. Reducing the annual cost-of-living adjustment.

It calculates the implied cut in benefits and projected income for various age groups and income quintiles of retirees and near-retirees.

It shows that:

• The most frequently suggested PPI formula would imply cuts in benefits of 6.2 percent for a household in the middle quintile between the ages of 45-49 in 2007.  This would translate into a 3.7 percent reduction of income.  This would be roughly equivalent to a 3.7 percentage point increase in the tax rate imposed on these middle-income households.

• This PPI formula implies a cut in benefits for middle quintile households between the ages of 40-44 in 2007 of 9.6 percent.  This would translate into a reduction in income of 6.4 percent.

• Raising the normal retirement age to 70 in 2036 (compared to age 67 in 2022 under current law) would lead to a 4.0 percent reduction in benefits for workers between the ages of 50-54 in 2007 and a 10 percent reduction in benefits for workers between the ages of 40-44.

• This accelerated increase in the normal retirement age would imply a 3.1 percent reduction in retirement income for workers between the ages of 50-54 in the bottom quintile.  It implies a cut in retirement income of 7.9 percent for workers in the bottom quintile between the ages of 40-44.

• Proposals to change the annual cost-of-living adjustment will reduce benefits for both current and future retirees.  A 1.0 percentage point reduction in the annual cost-of-living adjustment (as widely advocated in the 90s) would imply a cut of almost 12 percent in benefits for a retiree at age 75 and more than 20 percent for a retiree at age 85 (assuming retirement at age 63).

• This would imply a reduction in income of 14.6 percent for retirees in the bottom quintile at age 85 who were between the ages of 55-59 in 2007.  It implies a cut in benefits of 16.5 percent for retirees in the bottom quintile at age 85 between the ages of 40-44.

Since the vast majority of near-retirees will rely on Social Security for the vast majority of their income in retirement, cuts in Social Security imply large cuts in income for a population that is already not especially wealthy.  (Median household income for people over age 65 is less than $30,000.)  Ironically, the drive for these cuts is being driven by budget problems resulting from the collapse of the housing bubble.  This is a disaster for which older workers were the primary victims, since they lost the most equity in their homes.

It is important that any proposals for cutting Social Security benefits examine the impact on the affected workers.  This analysis suggests that the cuts most commonly being considered will have a substantial negative impact on low- and middle-income families.

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