Indexing Social Security Benefits: The Effects of Price and Wage Indexes

Indexing Social Security Benefits: The Effects of Price and Wage Indexes

Order Code RL32900
CRS Report for Congress
Received through the CRS Web
Indexing Social Security Benefits:
The Effects of Price and Wage Indexes
Updated May 12, 2005
Patrick Purcell, Laura Haltzel, and Neela Ranade
Domestic Social Policy Division
Congressional Research Service ˜ The Library of Congress

Indexing Social Security Benefits:
The Effects of Price and Wage Indexes
Summary
Under current law, Social Security benefits increase from one generation to the
next at the rate that the national average wage rises. In other words, initial Social
Security benefits are wage-indexed. Once enrolled in the program, beneficiaries’
Social Security checks increase each year at the same rate as the Consumer Price
Index (CPI); that is, they are price-indexed. Due to increases in worker productivity,
wages tend to rise faster than prices when measured over long periods of time.
Consequently, if initial benefits were based on the rate at which prices rise rather than
the rate at which wages rise, initial benefits for each succeeding generation of
workers would grow more slowly than under current law.
The growth of Social Security benefits over time can be measured against either
the rate of growth of prices or wages. If benefits grow faster than the rate at which
prices rise, the benefits increase in purchasing power, and future retirees will enjoy
higher standards of living than today’s retirees. If benefits grow at the same rate as
prices, purchasing power is unchanged, and future retirees will be able to maintain
a standard of living similar to that of today’s retirees. Benefit levels that grow more
slowly than the rate at which prices rise will decline in purchasing power, resulting
in falling standards of living for future retirees. Because Social Security benefits are
wage-indexed, the purchasing power of benefits rises from one generation of workers
to the next, and the replacement rate — initial benefits as a percentage of workers’
career-average earnings — remains constant for each successive generation of
workers. If benefits were price-indexed, the purchasing power of benefits would
remain constant for each generation of workers, and replacement rates would fall.
Price-indexing would make small annual reductions in initial benefits, but the
cumulative reduction would be substantial when compounded over many years. This
could have serious implications for the retirement income of low-wage workers.
Price-indexing benefits also would make deeper cuts in benefits if wages grow faster
than projected, even as Social Security’s financial situation would be improving.
Likewise, if wages grow more slowly than projected, price-indexing would make
smaller cuts in benefits, leading to a larger financing deficit.
One way to preserve benefits for low-wage workers would be to progressively
price-index initial benefits. Initial benefits of low-wage workers would continue to
be fully wage-indexed, the benefits of average-wage workers would be based on a
mix of wage-indexing and price-indexing, and the benefits of high-wage workers
would be fully price-indexed. President Bush has suggested that Congress consider
progressive price-indexing of Social Security benefits. The Social Security
Administration (SSA) has analyzed a method of progressive price-indexing that
would continue to wage-index Social Security benefits for workers with career-
average earnings in the lowest 30% of the earnings distribution. SSA has estimated
that this proposal would eliminate about three-fourths of the program’s 75-year
unfunded liability. One consequence of this method of progressive price-indexing
would be that, eventually, all workers with earnings in the top 70% of the earnings
distribution would receive the same benefit. This report will not be updated.

Contents
I. Social Security’s Financial Situation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Measuring the Value of Initial Social Security Benefits over Time . . . 2
Social Security Retirement Benefits Under Current Law . . . . . . . . . . . 2
Calculating AIME and the PIA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
II. History of Indexing Social Security Benefits . . . . . . . . . . . . . . . . . . . . . . 6
The Social Security Amendments of 1972 . . . . . . . . . . . . . . . . . . . . . . 6
The 1975 Social Security Advisory Council . . . . . . . . . . . . . . . . . . . . . 7
The Social Security Amendments of 1977 . . . . . . . . . . . . . . . . . . . . . . 8
How Wage Indexing Earnings Histories Affects Benefits . . . . . . . . . . 8
How Wage Indexing the Bend Points Affects Benefits . . . . . . . . . . . . . 9
III. How “Price Indexing” Would Affect Social Security Benefits . . . . . . . . 9
How Price Indexing Earnings Histories Would Affect Benefits . . . . . 9
How Price Indexing the Bend Points Would Affect Benefits . . . . . . . 11
How Price Indexing the Pia Factors Would Affect Benefits . . . . . . . 12
“Progressive” Price Indexing of Initial Benefits . . . . . . . . . . . . . . . . . 16
Estimated Effect on Benefits of Progressive Price Indexing . . . . . . . . 17
Long-term Implications of Price-indexing Initial Benefits . . . . . . . . . 22
IV. Other Elements of Social Security That Might Be Affected by
Price-Indexing Benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
Windfall Elimination Provision (WEP) . . . . . . . . . . . . . . . . . . . . . . . . 23
Benefits Paid to Family Members Based on the Worker’s
Earnings Record . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
Social Security Components Indexed to Average Wages . . . . . . . . . . 26
V. Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
List of Figures
Figure 1. Social Security Benefits for a Scaled Average-Wage Worker Under
Current-Law Compared to Price-Indexing (Constant 2005 Dollars) . . . . . . 15
List of Tables
Table 1. Illustration of Average Indexed Monthly Earnings . . . . . . . . . . . . . . . . . 5
Table 2. PIA Computation Tables for 1975 to 1978 . . . . . . . . . . . . . . . . . . . . . . . 6
Table 3. Average Indexed Monthly Earnings for a Career Average-Wage
Earner With Wage-Indexed Earnings and Price-Indexed Earnings . . . . . . . 10
Table 4. Percentage of an Average-Wage Earner’s Indexed Monthly Earnings
Subject to Each Pia Factor under Wage-Indexing and Price-Indexing
of Bend Points . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Table 5. Reduction in Social Security Benefits Under Price Indexing for
Workers Retiring at the Full Retirement Age in 2030 . . . . . . . . . . . . . . . . . 14
Table 6. Estimated Primary Insurance Amounts at Full Retirement Age
in 2030 Under Full Price Indexing and Progressive Price Indexing . . . . . . 19
Table 7. Estimated Primary Insurance Amounts at Full Retirement Age
in 2055 Under Full Price Indexing and Progressive Price Indexing . . . . . . 20
Table 8. Estimated Primary Insurance Amounts at Full Retirement Age
in 2080 Under Full Price Indexing and Progressive Price Indexing . . . . . . 21

Table 9. Example of How the Maximum Family Benefit Would Work
Under Current Law vs. Price-Indexing of the PIA, Scaled
Average-Wage Worker With Spouse and Three Eligible Children . . . . . . . 25

Indexing Social Security Benefits:
The Effects of Price and Wage Indexes
I. Social Security’s Financial Situation
According to the most recent report of the Social Security Board of Trustees,
outgo for Social Security benefits will begin to exceed income from Social Security
payroll taxes in 2017.1 By 2027, the program’s spending will exceed its combined
income from payroll taxes, income taxes on Social Security benefits, and interest on
the Treasury bonds held by the Social Security trust fund. In 2041, according to the
Trustees, Social Security will redeem the last of its Treasury bonds, and the assets of
the trust fund will be exhausted. Absent changes in federal law that either increase
Social Security revenues or reduce Social Security benefits, when the trust funds are
fully depleted in 2041 annual income from tax revenue will be sufficient to pay only
74% of scheduled benefits. By 2079, tax revenue will equal just 68% of benefits
promised under current law.
There are many combinations of benefit reductions or tax increases that could
restore Social Security to financial solvency over the legally mandated 75-year
valuation period, or longer. However, neither cuts in promised benefits nor increases
in taxes are popular options among most Members of Congress or the public, and the
debate about how to more closely match Social Security revenues with Social
Security outlays is often contentious. One way to reduce future benefits would be to
link the calculation of workers’ initial benefits to a price index rather than to a wage
index, as under current law.2
Whether initial Social Security benefits are based on wages or prices could have
a substantial effect on the rate of growth of benefits. Under current law, initial Social
Security benefits increase from one generation to the next at the rate that the national
average wage index rises. For each generation of Social Security beneficiaries, their
average Social Security benefit exceeds that of the preceding generation by the
difference in their average wage. In other words, initial Social Security benefits are
wage-indexed. Once enrolled in the program, beneficiaries’ Social Security checks
increase each year at the same rate as the Consumer Price Index (CPI) so that they do
not decline in value as prices rise over time; that is, they are price-indexed. Due to
increases in worker productivity, wages tend to rise faster than prices when measured
over long periods of time. Consequently, if initial benefits were based on the rate at
1 Social Security and Medicare Board of Trustees, Status of the Social Security and
Medicare Programs: A Summary of the 2005 Annual Reports, Mar. 2005, available online
at [http://www.ssa.gov/OACT/TRSUM/tr05summary.pdf].
2 An index measures the relative change in a series of values compared with a base period.
The value of the index during the base period is 100. Changes in the index represent
percentage changes from the base value of the index.

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which prices rise rather than the rate at which wages rise, initial benefits for each
succeeding generation of workers would grow more slowly than under current law.
Under progressive price-indexing, initial benefits for low-wage workers would
continue to be based on the rate of growth of the national average wage index (AWI).
Initial Social Security benefits would continue to be fully wage-indexed for these
workers. Initial benefits for high-wage workers would be based on the rate of growth
of the CPI. Social Security benefits would be fully price-indexed for these workers.
Benefits for average-wage workers would be based partly on the rate of growth of
the national AWI and partly on the rate of growth of the CPI. Initial Social Security
benefits would be partly wage-indexed and partly price-indexed for these workers.
President Bush has suggested that Congress consider progressive price-indexing of
initial Social Security benefits as a possible reform to help restore the program to
financial solvency.
Measuring the Value of Initial Social Security Benefits over Time.
The growth of Social Security benefits over time can be measured against either the
rate of growth of prices or wages. If benefits grow faster than the rate at which prices
rise, the benefits increase in purchasing power, and future retirees will enjoy higher
standards of living than today’s retirees. If benefits grow at the same rate as prices,
purchasing power is unchanged, and future retirees will be able to maintain a
standard of living similar to that of today’s retirees. Benefit levels that grow more
slowly than the rate at which prices rise will decline in purchasing power, resulting
in falling standards of living for future retirees. Under current law, benefits for each
generation of workers grow at the same rate as their wages grow. Consequently, (1)
the purchasing power of benefits rises from one generation of workers to the next,
and (2) the replacement rate — initial benefits as a percentage of workers’ career-
average earnings — remains constant for each successive generation of workers. If
initial benefits were to rise at the same rate as prices increase, (1) the purchasing
power of benefits would remain constant for each successive generation of workers,
and (2) replacement rates would fall.
Social Security Retirement Benefits Under Current Law. Workers
who have completed at least 40 quarters of employment covered by Social Security
can begin receiving reduced Social Security retirement benefits as early as age 62 or
full benefits at the full retirement age (65 and 6 months in 2005).3 The monthly
benefit amount payable to a worker upon retirement at the full retirement age is
called the Primary Insurance Amount (PIA). The PIA is based on the worker’s
annual earnings up to the maximum taxable amount, averaged over a period of 35
years. In 2005, earnings up to $90,000 are taxable. This amount, also called the
taxable wage base, increases each year at the rate of growth of the national average
wage index. The PIA is computed in three steps:
Step 1: Indexing Earnings. The worker’s annual earnings in each year
after 1950 are indexed to the second calendar year before the year in which he or she
was first eligible for retirement benefits; that is, before age 62. This is called the
3 The full retirement age is 65 for those born before 1938, 67 for those born in 1960 or later,
and between 65 and 67 for people born between 1938 and 1960.

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indexing year. Earnings at age 60 or later are not indexed but instead are counted at
their nominal value.4 For workers who are applying for Social Security retirement
benefits, earnings in all years up to age 60 are indexed to growth in the national
average wage. Specifically, earnings in each past year are indexed by multiplying
them by the ratio of the national average wage for the indexing year to the national
average wage in the year the income was earned.
Step 2: Determining AIME. Since 1979, Social Security benefits have been
based on average indexed monthly earnings (AIME). The worker’s average indexed
monthly earnings are the average of his or her highest 35 years of indexed earnings.
Earnings at age 60 or later are not indexed, but they are included in the AIME
calculation if they are among the worker’s highest 35 years of earnings.
Step 3: Computing the PIA. To calculate the worker’s PIA, his or her
career-average earnings are divided into three brackets and multiplied by PIA factors
(90%, 32%, and 15%) that are set in law for each bracket. The factors decline as the
earnings brackets rise, so that Social Security replaces a higher proportion of career-
average earnings for workers with relatively low earnings than it does for high-wage
workers. The dollar amounts that define the boundaries of the brackets, called bend
points, increase each year by the rate of growth of the national average wage index.5
This keeps the proportion of average earnings multiplied by each factor the same
from year to year. For workers who reach age 62 in 2005, the PIA is
90% of the first $627 of average indexed monthly earnings, plus
32% of the next $3,152 of average indexed monthly earnings, plus
15% of average indexed monthly earnings over $3,779.
Earnings are wage-indexed only up to age 60, but the PIA is adjusted to reflect
changes in price levels after age 62. If the individual claims retirement benefits
between age 62 and the full retirement age, the PIA is increased by the percentage
change in the CPI between age 62 and the full retirement age.6
The National Average Wage Index. The Social Security Administration
determines the national average wage each year based on the earnings reports it
receives from employers. The annual values of the average wage index are used to
calculate the factors for indexing earnings up to age 60. The annual percentage
change in the average wage index is used to determine the percentage increase in the
bend points in the PIA formula.
4 Earnings are indexed only up to age 60 because it can take up to two years for the national
earnings data on which the wage indexing series is based to become available.
5 The amounts at which the PIA factors change are called bend points because when the PIA
factors are graphed against the AIME, the graph appears as three lines joined at these points.
6 Social Security Disability Insurance (DI) benefits are based on the same PIA formula as
retirement benefits. The PIA formula applied is based on the year the worker is first entitled
to DI benefits.

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Calculating AIME and the PIA. Table 1 shows how average indexed
monthly earnings would be calculated for an individual born on January 1, 1940, who
retires on July 1, 2005, at the full retirement age of 65 and 6 months. The
individual’s earnings history between 1965 and 2004 is shown in the column labeled
“Nominal Earnings.” Table 1 shows how the individual’s nominal annual earnings
would be converted to indexed earnings by applying the indexing factors and how the
indexed earnings would be averaged to determine his or her average indexed monthly
earnings, or AIME. The individual in this example attained age 62 — the first year
of eligibility for retirement benefits — on January 1, 2002. Therefore, the bend
points for the year 2002 are applied to the worker’s average indexed monthly
earnings to calculate this individual’s primary insurance amount, or PIA. The bend
points for the year 2002 are $592 and $3,567. The formula applied to the AIME of
$3,727 is
(.90 X 592) + (.32 X (3,567 - 592)) + (.15 X (3,727 - 3,567)) = $1,508.80
The initial PIA of $1,508.80 is then increased by the annual percentage change
in the CPI for each year between the first year of eligibility and the year the worker
reached the full retirement age. The percentage changes in the CPI were 1.4%, 2.1%,
and 2.7% for 2002, 2003, and 2004, respectively. The resulting PIA is $1,604.10,
which is rounded down to $1,604. Because the individual applied for retirement
benefits at the full retirement age, his or her retirement benefit is the same as the PIA.
There is no reduction for early retirement and no delayed retirement credit is applied.

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Table 1. Illustration of Average Indexed Monthly Earnings
Nominal
Average
Index
Indexed
Year
Earnings
U.S. Earnings
Number
Earnings
1965 $4,193
$4,659.72
6.9021
$28,941
1966 4,713
4,938.36
6.5112
30,687
1967 5,194
5,213.44
6.1677
32,035
1968 5,747
5,571.76
5.7710
33,196
1969 6,262
5,893.76
5.4557
34,164
1970 6,746
6,186.24
5.1978
35,064
1971 7,253
6,497.08
4.9491
35,896
1972 8,135
7,133.80
4.5074
36,668
1973 8,815
7,580.16
4.2420
37,393
1974 9,511
8,030.76
4.0040
38,082
1975 10,396
8,630.92
3.7255
38,730
1976 11,293
9,226.48
3.4851
39,357
1977 12,151
9,779.44
3.2880
39,952
1978 13,305
10,556.03
3.0461
40,528
1979 14,667
11,479.46
2.8011
41,084
1980 16,197
12,513.46
2.5696
41,620
1981 18,051
13,773.10
2.3346
42,142
1982 19,273
14,531.34
2.2128
42,647
1983 20,445
15,239.24
2.1100
43,139
1984 21,887
16,135.07
1.9929
43,619
1985 23,063
16,822.51
1.9114
44,083
1986 23,994
17,321.82
1.8563
44,540
1987 25,779
18,426.51
1.7450
44,984
1988 27,311
19,334.04
1.6631
45,421
1989 28,659
20,099.55
1.5998
45,849
1990 30,257
21,027.98
1.5291
46,266
1991 31,663
21,811.60
1.4742
46,678
1992 33,582
22,935.42
1.4020
47,082
1993 34,155
23,132.67
1.3900
47,475
1994 35,360
23,753.53
1.3537
47,867
1995 37,071
24,705.66
1.3015
48,249
1996 39,188
25,913.90
1.2408
48,624
1997 41,790
27,426.00
1.1724
48,995
1998 44,305
28,861.44
1.1141
49,360
1999 47,115
30,469.84
1.0553
49,720
2000 50,076
32,154.82
1.0000
50,076
2001 51,629
32,921.92
1.0000
51,629
2002 52,503
33,252.09
1.0000
52,503
2003 54,148
34,064.95
1.0000
54,148
2004 $56,092
$35,291.29
1.0000
$56,092
Total of highest 35 years of indexed earnings:
$1,565,562
Average indexed monthly earnings:
$3,727
Source: [http://www.ssa.gov/OACT/ProgData/retirebenefit1.html] and calculations by CRS.

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II. History of Indexing Social Security Benefits
The Social Security Amendments of 1972. Prior to the 1970s, Social
Security benefits rose only when Congress voted to raise them. The worker’s
primary insurance amount (PIA) — the benefit payable at the full retirement age —
was computed by comparing his or her average monthly earnings to a benefit table
established by Congress. Average monthly earnings (AME) were calculated as a
simple arithmetic average of the individual’s nominal earnings in each year of
employment after 1950. Average monthly earnings were divided into several
brackets, and earnings in each bracket were multiplied by the factors prescribed in
law. Prior to the Social Security Amendments of 1972 (P.L. 92-336), both the
income brackets and the associated factors changed only when Congress voted to
raise Social Security benefits. As a matter of practice, when Congress voted to
increase the benefits of individuals already enrolled in the program, they also
increased the benefits awarded to new beneficiaries by the same percentage. This
was done by increasing the PIA factors in the formula by which initial benefits were
calculated.

The historical practice of increasing Social Security benefits only through
legislation was changed by the Social Security Amendments of 1972. These
amendments increased benefits for persons already receiving Social Security by 20%
and provided for automatic future benefits increases that were to be based on the
annual percentage change in the Consumer Price Index. The law also directed that
the PIA factors by which each bracket of career-average earnings was multiplied
were to increase annually by the same percentage as the benefits of current recipients
were increased. The amendments also added another earnings bracket to the benefit
table each time that the amount of earnings subject to Social Security taxes (the
taxable wage base) was increased. Career-average earnings continued to be based on
nominal career-average earnings; that is, they were not indexed. The tables used to
calculate the PIA for persons who applied for benefits in the years 1975 through 1978
are shown in Table 2.
Table 2. PIA Computation Tables for 1975 to 1978
1975
1976
1977
1978
129.48% of the first $100 of AME 137.77% of the first $100 145.90% of the first $100 155.38% of the first $100
+ 47.10% of the next $290
50.10% of the next $290 53.06% of the next $290 56.51% of the next $290
+ 44.01% of the next $150
46.82% of the next $150 49.58% of the next $150 52.81% of the next $150
+ 51.73% of the next $100
55.05% of the next $100 58.30% of the next $100 62.09% of the next $100
+ 28.77% of the next $100
30.61% of the next $100 32.42% of the next $100 34.53% of the next $100
+ 23.98% of the next $250
25.51% of the next $250 27.02% of the next $250 28.78% of the next $250
+ 21.60% of the next $175
22.98% of the next $175 24.34% of the next $175 25.92% of the next $175
21.28% of the next $100 22.54% of the next $100 24.01% of the next $100
21.18% of the next $100 22.56% of the next $100
21.30% of the next $100
Source: Social Security Bulletin: Annual Statistical Supplement, 1981.

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Under the 1972 amendments, the first automatic increases to Social Security
benefits were scheduled to occur in 1975.7 Under the benefit formula adopted in
1972, whenever there was a cost-of-living adjustment (COLA) in the benefit paid to
people already receiving Social Security, the PIA factors in the formula for
calculating initial benefits for new recipients were increased by the same percentage.
These increases were based on the rate of inflation as measured by the CPI. In the
1970s, there were several years in which the rate of increase in prices exceeded the
rate of increase in wages.8 Because the 1972 amendments increased the PIA factors
by the rate of price growth, whenever prices grew faster than wages, benefits grew
faster than the wage base from which these benefits would be financed.
Social Security Cost-of-Living Adjustments and the Consumer Price Index
After an individual begins to receive Social Security benefits, these payments
are indexed to annual increases in the Consumer Price Index, which measures
changes in the price of a market basket of consumer goods and services. In 1972,
Congress provided for annual cost-of-living adjustments for Social Security to
prevent these benefits from losing purchasing power through the effects of price
inflation. COLAs are to ensure that a Social Security beneficiary’s monthly check
will purchase the same amount of goods and services from year to year that it could
purchase at the time the individual first began to receive Social Security. COLAs do
not reflect increases in the labor productivity of people who are still in the work
force, and thus they do not increase the real purchasing power of Social Security
income. COLAs do not make beneficiaries better off financially; they are merely to
protect them from becoming financially worse-off over time as prices rise.
The 1975 Social Security Advisory Council. The 1975 Social Security
Advisory Council suggested a method for determining initial benefits that would not
be affected by cost-of-living adjustments for current Social Security recipients. This
procedure was generally referred to as “decoupling” the initial benefit computation
from the COLAs applied to current beneficiaries. The council recommended that
when calculating workers’ career-average earnings, their past earnings should be
indexed to more current values based on a national average wage index. This would
have the effect of restating all past earnings in terms of what they would be worth in
the current labor market, thereby eliminating an inequity of unindexed earnings,
which gave more recent earnings greater weight in determining Social Security
benefits. The council further recommended that the bend points in the PIA formula
should be indexed to increases in the national average wage. This would keep
replacement rates — initial Social Security benefits as a percentage of a worker’s
career average earnings — stable at 42% of average indexed monthly earnings for a
career average-wage earner. Each year, the earnings brackets would expand by the
percentage increase in the national average wage, and each PIA factor (which would
be fixed in law, rather than rising each year at the rate of CPI increase) would be
applied to the same fraction of average earnings for each successive cohort of
retirees. The council recommended that annual COLAs for current beneficiaries
7 Robert M. Ball, “Social Security Amendments of 1972: Summary and Legislative History,”
Social Security Bulletin, Mar. 1973.
8 Prices grew faster than the national average wage in 1970, 1974, 1975, 1977, and 1979.

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should continue to be based on the rate of increase of the CPI, thus maintaining the
purchasing power of benefits throughout the remainder of each beneficiary’s life.
The Social Security Amendments of 1977. The Social Security
Amendments of 1977 (P.L. 95-216) largely followed the recommendations of the
1975 Advisory Council. These amendments created the current benefit formula,
which is based on the worker’s average indexed monthly earnings (AIME). This law
also indexed the bend points that separate the earnings brackets in the benefit formula
to the rate of increase in the average wage index. The 1977 amendments set the three
“PIA factors” that are applied to earnings within each bracket at 90% of AIME up
to the first bend point ($180 in 1979; $627 in 2005); 32% of AIME between the first
and second bend points ($1,085 in 1979; $3,779 in 2005); and 15% of AIME above
the second bend point. The two elements of the Social Security benefit formula
adopted in 1977 that keep replacement rates constant for each successive generation
of retirees are that (1) the PIA factors applied to each earnings bracket remain
unchanged from year to year, and (2) the bend points in the formula for determining
the PIA are indexed to increases in the national average wage. As discussed below,
indexing past earnings — which is part of the computation of AIME — has little
effect on replacement rates over time. Indexing past earnings to current values
mainly affects the distribution of benefits within each cohort of workers rather than
the relative size of benefits among successive cohorts of workers.9

How Wage Indexing Earnings Histories Affects Benefits. Until the
1977 amendments were enacted, Social Security benefits were based on workers’
nominal career-average earnings. Using nominal earnings histories had the effect of
treating workers differently based on which years they had worked and when their
highest earnings had occurred. Indexing workers’ earnings histories to more current
values reduces the difference in Social Security benefits among workers whose ages
and real earnings are similar, but whose years of employment differed. For example,
consider two workers of the same age claiming benefits in the same year, both of
whom worked for a total of 35 years doing the same job. Worker “A” worked 35
years from age 30 to 65, while worker “B” worked 35 years from age 20 to 55.
Calculating average career earnings without indexing would be advantageous to
worker A, whose earnings occurred more recently and would be higher in nominal
terms than worker B’s earnings. There is, however, no reason why worker A’s 35
years of earnings should be valued more highly than workers B’s 35 years of earnings
when calculating their Social Security benefits unless they also are higher in real
terms. By expressing the past earnings of workers who retire in the same year in
amounts that are more directly comparable to each other, indexing past wages to
current values eliminates a disadvantage that otherwise would under-value the
earnings of workers who either worked more or earned more early in their careers.
9 A “cohort” is a group of people with a common demographic trait, such as their year of
birth.

CRS-9
Basing benefits on nominal earnings also had the effect of depressing the
benefits of retired-worker beneficiaries relative to disabled workers and survivors of
workers who had died while still young. Because benefits for disabled workers and
the survivors of younger workers are based on relatively short earnings histories, they
are based on more current earnings than those of retired workers. The relative
disadvantage to retired workers of including many years of earnings from the more
distant past is mitigated by indexing those earnings so that they are expressed in
terms of their current value in the labor market.
How Wage Indexing the Bend Points Affects Benefits. The percentage
of career-average earnings replaced by Social Security is called the replacement
rate.10 Under the current benefit formula, in which initial benefits for each generation
of workers grow at the same rate as the national average wage, replacement rates
remain constant from one generation of workers to the next. The Social Security
Administration has estimated the replacement rate under current law to be 55% of
average wages for a career-long low-wage earner; 41% for a career-long average-
wage earner, and 27% for a worker who always earned the annual maximum taxable
wage. Replacement rates remain stable under current law because: (1) the “bend
points” are indexed to wage growth, and (2) the PIA factors remain fixed from year
to year.
III. How “Price Indexing” Would Affect Social Security
Benefits
Because of increases in worker productivity, wages grow faster than prices in
the long run. Consequently, one way to slow the growth of benefits would be to
convert Social Security from wage-indexed benefits to price-indexed benefits. Price
indexing initial benefits would slow the growth of Social Security expenditures while
maintaining the purchasing power of benefits. However, because Social Security
benefits would then grow more slowly than workers’ wages, the replacement rate —
Social Security benefits as a percentage of career-average earnings — would fall for
each successive generation of workers.
How Price Indexing Earnings Histories Would Affect Benefits. If
past earnings were indexed to the present based on the growth of a price index (such
as the CPI) instead of the growth in the average wage index (AWI), workers’ average
indexed monthly earnings would be lower, as would the amount of their Social
Security benefits. This would permanently reduce the amount of future Social
Security benefits, but it would not permanently reduce the rate of growth of future
benefits. Indexing past earnings to current values based on the rate of growth of the
CPI would reduce the rate of growth of benefits only during the period of transition
10 Replacement rates can be measured against final earnings or career-average earnings.
Replacement rates measured against final earnings will almost always be lower than when
measured against career-average earnings. Replacement rates measured against indexed
career-average earnings will almost always be lower than when measured against nominal
career-average earnings.

CRS-10
from wage-indexing to price-indexing.11 The amount of benefits paid would be lower
in every future year, but after approximately 40 years — at which point all workers’
entire earnings histories would be fully price-indexed — the average indexed
monthly earnings of each successive cohort of workers would be higher than the
average indexed earnings of the previous cohort by the difference in their nominal
average wage, just as it is under current law.
The examples shown in Table 3 illustrate how price-indexing past earnings
would affect both the amount of benefits and the rate of growth of benefits.
Table 3. Average Indexed Monthly Earnings for a Career
Average-Wage Earner With Wage-Indexed Earnings and
Price-Indexed Earnings
Wage-Indexed Earnings
Price-Indexed Earnings
Price-Indexed
Earnings vs.
Year
Average
Average
Average
Average
Wage-Indexed
Monthly
Annual
Monthly
Annual
Earnings
Earnings
Growth
Earnings
Growth
2005
$2,979
5.23%
$2,476
5.23%
-16.9%
2010
3,607
3.90%
2,967
3.69%
-17.7%
2025
6,403
3.90%
5,305
3.95%
-17.1%
2050
16,663
3.90%
13,986
3.95%
-16.1%
2075
43,366
3.90%
36,398
3.90%
-16.1%
2080
52,509
3.90%
44,071
3.90%
-16.1%
Source: Estimates prepared by the Congressional Research Service, based on data in the 2005 report
of the Social Security Trustees.
Based on the SSA’s historical wage-indexing series, the average indexed
monthly earnings in 2005 of a worker who had always earned the national average
wage would be approximately $2,979. If past earnings were indexed to 2005 using
the Consumer Price Index rather than the average wage index, the career-average
earnings of this worker would be $2,476, or about 17% lower. This difference
reflects the fact that wages have grown faster than prices over the 35-year indexing
period. An immediate switch from wage-indexing past earnings to price-indexing
past earnings would result in reducing the initial Social Security benefit of a career-
long average-wage earner by approximately 17%. Thus, price indexing of past
earnings would result in permanently reducing the level of Social Security benefits
from the benefit levels scheduled to be paid under current law. Note, however, that
11 During the transition period from the 1970s to the 1990s, when the period over which
workers’ earnings histories were averaged was lengthened from 21 years to 35 years,
indexing workers’ earnings histories also contributed to maintaining stable replacement
rates. Otherwise, with each year added to the averaging period, a significantly lower
(because unindexed) year of earnings would have been added to the benefit computation,
thereby tending to make the workers’ AIME and PIA lower relative to his or her final
earnings. Indexing past earnings converts these lower values into an amount comparable
to what they would be worth if they had been earned more recently.

CRS-11
the rate of growth of benefits would eventually be exactly the same under price
indexing of past earnings as it would be under wage-indexing of past earnings.
Provided that prices grow more slowly than wages, price-indexed earnings will
always be lower than wage-indexed earnings, but regardless of the method used to
index past wages to the present, the average indexed career earnings of each
successive cohort of workers would exceed the average indexed career earnings of
the preceding cohort by the difference in their nominal average wage.12
How Price Indexing the Bend Points Would Affect Benefits. If the
bend points in the PIA formula were indexed to prices (which, in the long run, grow
more slowly than wages), replacement rates would decline because as wages grow
over time, more of workers’ earnings would be included in the upper two brackets
of the benefit formula, to which lower PIA factors are applied. Eventually, workers
would find most of their career-average earnings in the top bracket, and the
replacement rate would be nearly the same for all workers, regardless of their average
earnings. The benefit formula would be less progressive than under current law.
The examples shown in Table 4 illustrate how price indexing the bend points
of the PIA formula would affect both the amount of benefits and the rate of growth
of benefits. Panel A illustrates the increases in the bend points under current law.
The bend points are adjusted upward annually by the rate of growth of the national
average wage. Because the bend points grow at the same rate as wages, the
percentage of wages that falls in each earnings bracket remains the same from one
generation to the next. In this example, about 21% of the career-average earnings of
an average wage-earner would be in the lowest earnings bracket (multiplied by the
90% replacement factor) in 2080, which is the same percentage of earnings in the
lowest bracket in 2005. Likewise, with the bend points wage-indexed, about 79% of
the career-average earnings of an average wage-earner would be in the second
earnings bracket (multiplied by the 32% replacement factor) in 2080, which is also
the percentage of earnings in the second bracket in 2005.
If the bend points were to be price-indexed rather than wage-indexed, they
would grow more slowly than workers’ earnings and over time, more of those
earnings would fall into the higher earnings brackets and be multiplied by lower PIA
factors. This is illustrated in Panel B of Table 4. With the bend points price-indexed,
only about 10% of the career-average earnings of an average wage-earner would be
in the lowest earnings bracket (multiplied by the 90% replacement factor) in 2080,
which is less than half of the percentage of earnings in the lowest bracket if the bend
points are wage-indexed. Only about 48% of the career-average earnings of an
average wage-earner would be in the second earnings bracket (multiplied by the 32%
replacement factor) in 2080, which is 31 percentage points lower than the percentage
of earnings in the second bracket under wage-indexing. Finally, with the bend points
price-indexed, about a third of the career-average earnings of an average-wage earner
12 Table 3 shows the effect on average benefits of an immediate switch from wage-indexing
to price-indexing of past earnings. In practice, this would create a large downward “notch”
in benefits. If price indexing of past earnings were phased in one year at a time the notch
would be avoided, but benefit reductions (and the annual reduction in outlays) would be
smaller for each year until all workers’ career earnings were fully price-indexed.

CRS-12
would be in the top earnings bracket (multiplied by the 15% replacement factor) in
2080. Under wage indexing, none of the earnings of a career-long average-wage
earner would be subject to the 15% replacement factor in 2080.
While price indexing the bend points would reduce the rate of growth of
benefits, it also would substantially erode the progressivity of the benefit formula.
Eventually, workers at all levels of career-average earnings would find a large
percentage of their earnings subject to the lowest PIA factor of 15%.
Table 4. Percentage of an Average-Wage Earner’s Indexed
Monthly Earnings Subject to Each Pia Factor under Wage-
Indexing and Price-Indexing of Bend Points
Year
2005
2050
2080
AIME: $2,979
AIME: $16,663
AIME: $52,509
Panel A: Wage-indexed Bend Points (Current law)
Percent of
Percent of
Percent of
PIA
average wage
average wage

average wage
Factors Bend Points in each bracket Bend Points in each bracket Bend Points in each bracket
90.0%
$627
21.0%
$3,507
21.0%
$11,052
21.0%
32.0%
$3,779
79.0%
$21,139
79.0%
$66,611
79.0%
15.0%
>=$3,780
0%
>=$21,140
0%
>=$66,612
0%

Panel B: Price-indexed Bend Points
Percent of
Percent of
Percent of
PIA
average wage
average wage
average wage
Factors Bend Points in each bracket Bend Points in each bracket Bend Points in each bracket

90.0%
$627
21.0%
$2,172
13.0%
$4,975
9.5%
32.0%
$3,779
79.0%
$13,094
65.5%
$29,982
47.6%
15.0%
>=$3,780
0%
>=$13,095
8.4%
>=$29,083
33.4%
Source: Estimates prepared by the Congressional Research Service, based on data in the 2005 report of the Social
Security Trustees.
How Price Indexing the Pia Factors Would Affect Benefits. Another
way to price-index initial benefits — rather than indexing past earnings or the bend
points to price increases — would be to reduce the PIA factors each year by the ratio
of the CPI to the AWI. If the PIA factors were reduced each year by the ratio of the
consumer price index to the average wage index, then
(1) the progressivity of the benefit formula would be maintained,
(2) the purchasing power of benefits would be maintained because benefits
would grow at the same rate as prices,
(3) replacement rates would fall for each succeeding generation of workers.

CRS-13
Preceding the adoption of the 1977 amendments, Congress considered a
proposal under which the PIA factors would have been reduced by one-half of the
increase in real wages each year from 1988 through 2030. Replacement rates would
have declined during this period, and then risen in years after 2030. The timing of
the decline in replacement rates was intended to coincide approximately with the
period during which the ratio of workers to retirees would be falling. This method
of indexing initial benefits was not included in the 1977 Social Security amendments.
Recommendations of the 2001 President’s Commission. In 2001,
President Bush appointed a commission to recommend policy options for restoring
Social Security to long-term fiscal solvency. The President provided the commission
with several guiding principles, including the requirement that the reformed system
must include individual accounts. The commission developed three alternative
models for reform, all of which incorporated individual accounts. According to the
commission’s final report, “Model 2” is the one most likely to result in permanent
solvency for Social Security, in part because it would index future benefits to the
growth rate of prices rather than wages. The commission argued that, given the age-
distribution of the U.S. population, the current wage-indexed benefit formula is
fiscally unsustainable.13 It concluded that if the benefit formula were indexed to
grow with prices rather than wages, the system would be put on a path to permanent
solvency.
The commission’s final report recommended the following method of price
indexing benefits:
Modify the Primary Insurance Amount (PIA) formula factors (90, 32, and 15)
starting in 2009, reducing them successively by the measured real wage growth
in the second prior year. Modified PIA factors would be applicable for OASDI
beneficiaries becoming eligible for benefits in 2009 and later. This provision
would result in increasing benefit levels for individuals with equivalent lifetime
earnings across generations (relative to the average wage level) at the rate of
price growth (increase in the CPI), rather than at the rate of growth in the average
wage level as in current law. Calculation of the average indexed monthly
earnings (AIME) used in computing the PIA would be unaffected by this
provision.14
The method of price indexing initial Social Security benefits recommended by
the President’s Commission would multiply the PIA factors each year by the ratio of
the CPI to the AWI for the second prior year. Workers’ past earnings and the bend
points in the benefit formula would continue to be indexed to the rate of growth of
the national average wage index. If, for example, prices in a particular year grew by
2.8% and wages grew by 3.9%, each of the PIA factors would be multiplied by
1.028/1.039 = .989. Because increases in worker productivity cause wages to rise
13 The problem is not that a wage-indexed system of benefits is inherently unsustainable, but
rather that the future decline in the ratio of workers to retirees in the United States will cause
the benefits payable under current law to exceed the income to Social Security from payroll
taxes and interest.
14 Memo from Stephen Goss, SSA Chief Actuary, to the Commission, Jan. 31, 2002.

CRS-14
faster than prices, the PIA factors would fall and Social Security replacement rates
would decline.
The Social Security Administration has estimated the long-term rates of growth
of prices and wages will be 2.8% per year and 3.9% per year, respectively.15 Under
this assumption, after 75 years of multiplying the PIA factors by the ratio of price
growth to wage growth, the 90% PIA factor would fall to 40.5%, the 32% factor
would fall to14.4%, and the 15% factor would fall to 6.7%. All three factors would
continue to fall into the indefinite future. The replacement rate for a career average-
wage earner retiring at the full retirement age in 2080 would fall from 39% under
current law to 16% under full price-indexing.16
This method of price-indexing would maintain the progressivity of the Social
Security benefit formula. In any year, the percentage reduction in benefits would be
the same for workers at all levels of career-average earnings. For example, Table 5
shows that low-wage, average-wage and high-wage earners retiring in 2030 would
receive the same percent reduction to their Social Security benefits.
Table 5. Reduction in Social Security Benefits Under Price
Indexing for Workers Retiring at the Full Retirement Age in 2030
Social Security Benefit
Career Earnings
Current
“Model 2”
Percent
Law
Price Indexing
Change
Low-wage earner
$1,615
$1,333
- 17.4%
Average-wage earner
$2,769
$2,286
- 17.4%
High-wage earner
$4,673
$3,859
- 17.4%
Source: Estimates prepared by the Congressional Research Service, based on data in the
2005 report of the Social Security Trustees.
According to the SSA, fully price-indexing initial benefits would more than
restore solvency to Social Security. Full price indexing would cut benefits by 2.07%
of taxable payroll, which is more than is needed to offset the projected revenue
shortfall of 1.92% of taxable payroll. The size of the benefit reduction, relative to
that required to achieve solvency, can be seen for average-wage workers born in
different years in Figure 1. Figure 1 shows the size of the Social Security benefit
reductions over time, assuming that a price-indexed benefit formula is implemented
15 In the Mar. 2005 Trustees’ Report, the long-run rate of inflation is estimated to be 2.8%
and the long-run rate of nominal wage growth is estimated to be 3.9%. These growth rates
would yield a long-term annual growth rate of real wages of 1.039/1.028 = 1.07%.
16 Due to the increase in the full retirement age to 67, scheduled under current law, the
replacement rate for an average-wage earner who claims benefits at the full retirement will
fall from 42% in 2005 to 39% age in 2080.

CRS-15
in 2012.17 The difference in benefit levels increases for each successive each birth
cohort. For a worker born in 2010, the reduction due to price indexing would be
25% larger than the reduction that would take place under current law after the Trust
Funds are exhausted.
Figure 1. Social Security Benefits for a Scaled Average-Wage
Worker Under Current-Law Compared to Price-Indexing
(Constant 2005 Dollars)
$3,000
s
ar
ll
$2,500
Do
t 2005
$2,000
tan
s
n
Co
in
$1,500
fit
e
$1,000
rity Ben
Current Law Promised Benefits
cu
e
S
Current Law Payable Benefits
$500
cial
o
Price Indexed Benefits
S
$-
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
Year of Birth
Source: Congressional Research Service estimates.
Note: Assumes price-indexed benefits are implemented in 2012 and all other current-law provisions
remain unchanged. The ‘promised’ benefit is that which is scheduled to be paid under current law.
The ‘payable’ benefit is that which could be paid using only Social Security tax revenues after the
Social Security Trust Funds are depleted.
Figure 1 also shows that the purchasing power of Social Security benefits
would be maintained under price indexing. Under current law, Social Security
benefits increase in real value for each generation of workers because benefits are
indexed to wages, which rise faster than prices in the long run. Under price indexing,
the real value of Social Security benefits would remain flat each year because they
would be indexed to prices. Thus, the purchasing power of Social Security benefits
would remain the same for future generations.
17 The year 2012 was selected for this analysis because the President has indicated that those
workers currently age 55 and over would not be affected by Social Security reform
proposals. The PIA formula is based upon the year of eligibility (age 62 for retirement
benefits). Thus, in order for those currently age 55 and over to be held harmless, the price
indexing could not begin until these workers are age 62, in 2012.

CRS-16
“Progressive” Price Indexing of Initial Benefits. As discussed above,
even a small annual reduction in the PIA factors would result in substantial
reductions in benefits when compounded over many years. This could have
especially serious implications for the retirement income of low-wage workers, who
are less likely to have employer-sponsored pensions, retirement savings, or other
sources of retirement income. One way to preserve benefits for low-wage workers
would be through progressive price-indexing of initial benefits. Under progressive
price indexing, the initial benefits of low-wage workers would continue to be fully
wage-indexed, the benefits of average-wage workers would be based on a mix of
wage-indexing and price-indexing, and the benefits of high-wage workers would be
fully price-indexed.
Implementing progressive price-indexing of initial benefits would require
workers to be segregated into three categories, based on their career-average
earnings. Congress would have to define the earnings thresholds for low-wage
workers, who would continue to have their initial benefits fully wage-indexed, and
for high-wage workers, whose initial benefits would be fully price-indexed. Workers
whose career-average earnings fall between these two amounts would have their
initial benefits determined through a mix of wage-indexing and price-indexing.
Under progressive price indexing, the reduction in total Social Security outlays would
be smaller than if all workers’ benefits were fully price-indexed. The difference in
total outlays would depend in part on the proportion of workers whose initial benefits
would continue to be fully wage-indexed. The total reduction in outlays also would
depend on whether benefits for high-wage earners would be reduced by the same
percentage as they would have been cut if full price indexing had been applied to all
workers, or if larger reductions would be made in the benefits of high-wage earners.
If benefits for high-wage workers were cut by a greater percentage than they would
have been cut under full price-indexing for all workers, then the difference in total
savings achieved by full price-indexing and progressive price-indexing would be
smaller. The precise benefit reduction for workers at each earnings level would
depend on the policy goals that Congress wishes to achieve through price-indexing
benefits.
How Progressive Price Indexing Would Work. The Social Security
Administration has described a method of progressive price-indexing for individuals
who become eligible for retired-worker benefits in 2012 and later.18 This would be
done in three steps. First, SSA would compute the percentage benefit reduction that
would apply for a career high-wage earner if all three of the PIA factors (90%, 32%,
and 15%) were fully price-indexed.19 For example, if the benefit for a career high-
wage earner retiring at the full retirement age in a future year were determined to be,
say, $2,800 per month and the percentage changes in prices and wages since the base
year were 2.8% and 3.9%, respectively, the benefit for a high-wage earner would be
recalculated with each of the three PIA factors multiplied by the ratio 1.028/1.039 or
18 Memorandum from Stephen Goss, Chief Actuary of the Social Security Administration
to Robert Pozen, Feb. 10, 2005.
See [http://www.ssa.gov/OACT/solvency/RPozen_20050210.pdf].
19 This would be done as described in “Model 2” of the President’s 2001Commission to
Strengthen Social Security. See [http://www.csss.gov/reports/Final_report.pdf].

CRS-17
.989. Thus, in this example, the benefit of a high-wage earner under full price
indexing would be reduced by 1.1% in the first year that price indexing was in effect.
After ten years — assuming that prices and wages continued to grow annually by
2.8% and 3.9% — the PIA factors would be multiplied by 1.02810/1.03910 = .899,
representing a benefit reduction of 10.1%.
The benefits of low-wage workers would be preserved by establishing a new
bend point in the PIA formula, below which initial benefits would continue to be
fully wage-indexed. In the proposal studied by SSA, this new bend point would be
established at the 30th percentile of earnings. Workers with career-average earnings
in the lowest 30% of the earnings distribution would continue to have their initial
benefits fully wage-indexed. SSA has historically defined a low-wage worker as one
with earnings less than or equal to 45% of the average wage. Congress could, of
course, define low-wage workers in any of a number of ways, depending on the
relative importance it assigns to reducing program costs compared to maintaining the
benefits of low-wage workers. The higher the earnings level defined as low-wage,
the deeper the benefit cuts for higher-wage workers would have to be in order to
achieve the same total reduction in outlays.
The new bend point would increase each year by the rate of growth of the
national average wage, just as the two current bend points are wage-indexed. SSA
has estimated that a bend point at the 30th percentile of average monthly earnings
would be located 28.6% of the way up from the current first bend point to the current
second bend point. This would put the new bend point at about $2,000 in 2012, the
first year of progressive price indexing in the proposal analyzed by SSA. All retired
workers with career-average earnings below this new bend point would continue to
have their initial benefits fully wage-indexed. The 90% PIA factor would apply to
average monthly earnings up to the first bend point and the 32% PIA factor would
apply to average monthly earnings between the first bend point and the new second
bend point.
The third step of the process would be to calculate the percentage reduction to
the PIA factors above the new bend point (32% and 15%) that would result in the
same benefit reduction for career-long maximum-wage earners (those always at or
above the annual maximum taxable wage) as would have applied to these earners if
price indexing had been applied to all workers. This would reduce benefits for
career-long maximum-wage earners by the same percentage as they would have been
reduced if the benefit formula were fully price-indexed for workers at all earnings
levels. Benefits would be reduced by a smaller percentage for workers with career-
long average wages and not at all for workers with average wages that fall in the
lowest 30% of the earnings distribution. SSA has estimated that this method of price
indexing would reduce the long-run Social Security deficit by 1.4% of taxable
payroll, or about 74% of the estimated 75-year deficit of 1.9% of taxable payroll.
Estimated Effect on Benefits of Progressive Price Indexing. Table
6 illustrates the effects in 2030 of full price indexing and of progressive price
indexing on hypothetical workers with maximum, average, and low career-average

CRS-18
earnings.20 If full price-indexing of initial benefits were to be implemented in 2012,
and if prices and wages were to grow at 2.8% per year and 3.9%, respectively, for
each year thereafter, by 2030 the three PIA factors in the benefit formula would be
multiplied by a factor of .826, representing the ratio of price increases to wage
increases over the period from 2012 to 2030. This would reduce each PIA factor by
17.4%. Under full price-indexing, the initial benefits of all new beneficiaries would
be reduced by this percentage. Under the method of progressive price-indexing
described by SSA, benefits would continue to be wage-indexed for all workers whose
career-average earnings fall in the lowest 30% of the earnings distribution. To
achieve this objective, a new bend point would be established about 28.6% of the
way between the current first and second bend points. Below this new bend point
— which would fall in the earnings bracket to which the 32% PIA factor now applies
— the 90% and 32% PIA factors would continue to be applied each year. Above this
new bend point, both the 32% and 15% PIA factors would be reduced by a greater
percentage than they would have been reduced under full price-indexing so that the
percentage reduction that would apply to maximum-wage earners would be the same
as under full price indexing for all workers.
Table 6 shows that with prices and wages growing at 2.8% and 3.9% per year,
in order to achieve the same percentage reduction in benefits in 2030 for maximum-
wage earners under progressive price indexing as under full price indexing, the 32%
factor (above the new bend point) and the 15% factor would have to be reduced by
26.6%.21 Reducing the top two PIA factors by 26.6% would reduce the PIA of
maximum-wage earners by the same amount as would a 17.4% reduction applied to
all three original PIA factors. Progressive price indexing would reduce the PIA of
average-wage workers by a smaller percentage than would full indexing. In this
example, benefits for average-wage worker would be reduced by 12.1% in 2030.
Workers with career-average earnings in the lowest 30% of the earnings distribution
would not experience any cut in benefits. Table 7 and Table 8 show the estimated
effects on initial benefits of full price-indexing and progressive price-indexing in
2055 and in 2080.
20 These examples illustrate how price indexing would be applied to the PIA factors. They
show the approximate effects of price indexing on the Primary Insurance Amount of
hypothetical workers with high, medium, and low career earnings.
21 It would be necessary to apply this greater reduction to the PIA of the high-wage earner
because some of the earnings of these individuals would fall in the two lowest earnings
brackets, to which the 90% and 32% PIA factors would continue to be applied.

CRS-19
Table 6. Estimated Primary Insurance Amounts at Full Retirement
Age in 2030 Under Full Price Indexing and Progressive Price Indexing
High-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$1,427
$1,427
0.90
$1,284
0.826
0.743
$1,061
$8,599
$7,172
0.32
$2,295
0.826
0.264
$1,895
$15,892
$7,293
0.15
$1,094
0.826
0.124
$903

$15,892

$4,673

$3,859
-$815

-17.4%
High-wage earner: progressive price indexing
$1,427
$1,427
0.90
$1,284
1.0000
0.900
$1,284
*$3,478
$2,051
0.32
$656
1.0000
0.320
$656
$8,599
$5,121
0.32
$1,639
0.7019
0.225
$1,150
$15,892
$7,293
0.15
$1,094
0.7019
0.105
$768

$15,892

$4,673

$3,859
-$815

-17.4%
Average-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$1,427
$1,427
0.90
$1,284
0.826
0.743
$1,061
$8,599
$6,176
0.32
$1,976
0.826
0.264
$1,632
$15,892
$0
0.15
$0
0.826
0.124
$0

$7,603

$3,261

$2,692
-$569

-17.4%
Average-wage earner: progressive price indexing
$1,427
$1,427
0.90
$1,284
1.0000
0.900
$1,284
*$3,478
$2,051
0.32
$656
1.0000
0.320
$656
$8,599
$4,125
0.32
$1,320
0.7019
0.225
$926
$15,892
$0
0.15
$0
0.7019
0.105
$0

$7,603

$3,261

$2,867
-$393

-12.1%
Low-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$1,427
$1,427
0.90
$1,284
0.826
0.743
$1,061
$8,599
$2,051
0.32
$656
0.826
0.264
$542
$15,892
$0
0.15
$0
0.826
0.124
$0

$3,478

$1,941

$1,602
-$338

-17.4%
Low-wage earner: progressive price indexing
$1,427
$1,427
0.90
$1,284
1.0000
0.900
$1,284
*$3,478
$2,051
0.32
$656
1.0000
0.320
$656
$8,599
$0
0.32
$0
0.7019
0.225
$0
$15,892
$0
0.15
$0
0.7019
0.105
$0

$3,478

$1,941

$1,941
-$0

-0%
Source: Estimates prepared by the Congressional Research Service.
* New bend point.

CRS-20
Table 7. Estimated Primary Insurance Amounts at Full Retirement
Age in 2055 Under Full Price Indexing and Progressive Price Indexing
High-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$3,714
$3,714
0.90
$3,343
0.633
0.569
$2,115
$22,379
$18,655
0.32
$5,973
0.633
0.202
$3,779
$41,359
$18,980
0.15
$2,847
0.633
0.095
$1,801

$41,359

$12,163

$7,696 -$4,467

-36.7%
High-wage earner: progressive price indexing
$3,714
$3,714
0.90
$3,343
1.0000
0.900
$3,343
*$9,052
$5,338
0.32
$1,708
1.0000
0.320
$1,708
$22,379
$13,327
0.32
$4,265
0.3719
0.140
$1,586
$41,359
$18,980
0.15
$2,847
0.3719
0.066
$1,059

$41,359

$12,163

$7,696 -$4,467

-36.7%
Average-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$3,714
$3,714
0.90
$3,343
0.633
0.569
$2,115
$22,379
$16,072
0.32
$5,143
0.633
0.202
$3,254
$41,359
$0
0.15
$0
0.633
0.095
$0

$19,787

$8,486

$5,370 -$3,116

-36.7%
Average-wage earner: progressive price indexing
$3,714
$3,714
0.90
$3,343
1.0000
0.900
$3,343
*$9,052
$5,338
0.32
$1,708
1.0000
0.320
$1,708
$22,379
$10,734
0.32
$3,435
0.3719
0.140
$1,277
$41,359
$0
0.15
$0
0.3719
0.066
$0

$19,787

$8,486

$6,328 -$2,157

-25.4%
Low-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$3,714
$3,714
0.90
$3,343
0.633
0.569
$2,115
$22,379
$5,338
0.32
$1,708
0.633
0.202
$1,081
$41,359
$0
0.15
$0
0.633
0.095
$0

$9,052

$5,051

$3,196 -$1,855

-36.7%
Low-wage earner: progressive price indexing
$3,714
$3,714
0.90
$3,343
1.0000
0.900
$3,343
*$9,052
$5,338
0.32
$1,708
1.0000
0.320
$1,708
$22,379
$0
0.32
$0
0.3719
0.140
$0
$41,359
$0
0.15
$0
0.3719
0.066
$0

$9,052

$5,051

$5,051
-$0

-0%
Source: Estimates prepared by the Congressional Research Service.
* New bend point.

CRS-21
Table 8. Estimated Primary Insurance Amounts at Full Retirement
Age in 2080 Under Full Price Indexing and Progressive Price Indexing
High-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$9,666
$9,666
0.90
$8,700
0.485
0.436
$4,219
$58,242
$48,576
0.32
$15,544
0.485
0.155
$7,538
$107,637
$49,395
0.15
$7,409
0.485
0.073
$3,593

$107,637

$31,653

$15,349 -$16,304

-51.5%
High-wage earner: progressive price indexing
$9,666
$9,666
0.90
$8,700
1.0000
0.900
$8,700
*$23,559
$13,893
0.32
$4,446
1.0000
0.320
$4,446
$58,242
$34,683
0.32
$11,099
0.1191
0.068
$1,322
$107,637
$49,395
0.15
$7,409
0.1191
0.032
$881

$107,637

$31,653

$15,349 -$16,304

-51.5%
Average-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$9,666
$9,666
0.90
$8,700
0.485
0.436
$4,219
$58,242
$41,828
0.32
$13,385
0.485
0.155
$6,491
$107,637
$0
0.15
$0
0.485
0.073
$0

$51,494

$22,085

$10,709 -$11,375

-51.5%
Average-wage earner: progressive price indexing
$9,666
$9,666
0.90
$8,700
1.0000
0.900
$8,700
*$23,559
$13,893
0.32
$4,446
1.0000
0.320
$4,446
$58,242
$27,935
0.32
$8,939
0.1191
0.068
$1,065
$107,637
$0
0.15
$0
0.1191
0.032
$0

$51,494

$22,085

$14,210 -$7,875

-35.7%
Low-wage earner: full price indexing
AIME
PIA

within each
PIA
Adjustment
New PIA

Change
Bend Points
bracket
Factors
PIA
Factor
Factors
New PIA
in PIA
$9,666
$9,666
0.90
$8,700
0.485
0.436
$4,219
$58,242
$13,891
0.32
$4,445
0.485
0.155
$2,156
$107,637
$0
0.15
$0
0.485
0.073
$0

$23,557

$13,145

$6,374 -$6,771

-51.5%
Low-wage earner: progressive price indexing
$9,666
$9,666
0.90
$8,700
1.0000
0.900
$8,700
*$23,559
$13,891
0.32
$4,445
1.0000
0.320
$4,445
$58,242
$0
0.32
$0
0.1191
0.068
$0
$107,637
$0
0.15
$0
0.1191
0.032
$0

$23,557

$13,145

$13,145
-$0

-0%
Source: Estimates prepared by the Congressional Research Service.
* New bend point.

CRS-22
Long-term Implications of Price-indexing Initial Benefits. The
reduction in future Social Security benefits under either full price-indexing or
progressive price-indexing would depend on the difference between wage growth and
the rate of inflation. This is called real wage growth. For example, if prices rise by
3% and wages grow by 4%, then real wage growth would be 1% and the PIA factors
would be multiplied by 1.03/1.04 or .99. However, if wages grow by 4.5% and
prices rise by 3%, real wage growth would be 1.5% and the PIA factors would be
multiplied by 1.03/1.045 or .985. Faster growth of real wages would lead to deeper
cuts in benefits. If wages were to rise faster than currently forecast for a number of
years, the reduction in future benefits would be substantially deeper than originally
estimated. For example, the Social Security Trustees’ intermediate or “best
guess”economic assumptions project that in the long run, prices will grow by 2.8%
per year and wages will grow by 3.9% per year. This would result in a long-run rate
of real wage growth of 1.1%. If all three PIA factors were reduced annually by
1.07%, after 75 years the 90% PIA factor would be reduced to 40.5%, the 32% factor
would be reduced to 14.4%, and the 15% factor would be reduced to 6.7%.
However, if instead real wages were to grow by 1.5%, then after 75 years the 90%
would be reduced to 30.4%, the 32% factor would be reduced to 10.8%, and the 15%
factor would be reduced to 5.1%.
Faster real wage growth would reduce the need for future benefit cuts to restore
Social Security to fiscal solvency because it would produce higher payroll taxes to
the trust fund many years in advance of the higher benefit payments that those higher
wages also would produce. The Social Security Administration Office of the Actuary,
for example, has estimated that annual real wage growth of 1.6% would reduce the
75-year unfunded liability of Social Security from 1.92% of payroll to 1.39% of
payroll, a reduction of 28%.22 Thus, somewhat paradoxically, if real wages rise faster
than projected, price indexing would result in deeper benefit cuts, even as Social
Security’s unfunded 75-year liability would be shrinking. Similarly, if real wage
growth falls short of the 1.1% annual rate projected by the Social Security
Administration, the benefit reductions that price indexing would generate would be
smaller than estimated and the program’s unfunded liability would grow larger.
The method of price-indexing Social Security benefits recommended in Model
2 of the President’s Commission would reduce the PIA factors each year by the ratio
of the Consumer Price Index to the average wage index. This process would reduce
the PIA factors into the indefinite future. However, the ratio of workers to retirees
will not continue to fall indefinitely. Therefore, it may not be necessary for
replacement rates to continue to fall indefinitely. If Congress were to choose this
method of price indexing benefits, it could leave it up to future Congresses to decide
if the PIA factors should continue to be reduced, or legislation that implements price
indexing could specify the conditions under which the PIA factors would no longer
be price-indexed and replacement rates would be stabilized.23
22 2005 Annual Report of the Board of Trustees, Table VI.D4, p. 153.
23 Congress also would have to decide whether the same procedures would be applied in
years when prices grow faster than wages. This occurred 18 times between 1940 and 2004.

CRS-23
Progressive Price Indexing Would Lead to the Same Benefit for
Most Workers. The current Social Security benefit formula is progressive in that
the replacement rate is higher for low-wage workers than for high-wage workers.
Nevertheless, the current benefit formula also is designed to recognize the greater
amount of payroll taxes paid by high-wage workers. It does this by paying higher
benefits to high-wage workers than to low-wage workers. Under the method of
progressive price indexing analyzed by SSA and described in this report, most
workers eventually would be paid the same monthly benefit. This would occur
because the PIA factors applied to the two higher earnings brackets would be reduced
each year while the PIA factors applied to the two lower earnings brackets would
remain unchanged. Eventually, the PIA factors applied to the upper two earnings
brackets would be reduced to zero. At that point, initial benefits would be the same
for all workers with earnings in the top 70% of the earnings distribution. The
Congressional Research Service estimates that this would occur approximately 90
years following the implementation of progressive price indexing as described by
SSA, assuming long-run real wage growth of 1.1% per year. As noted earlier,
however, Congress could identify in any legislation that implemented price- indexing
the conditions — such as elimination of Social Security’s long-term deficit — under
which the reduction of benefits through price indexing would no longer continue.
IV. Other Elements of Social Security That Might Be Affected
by Price-Indexing Benefits
Because price indexing would alter the PIA formula, it is important to consider
the potential consequences of such a change on other Social Security provisions that
are either based upon the PIA formula or based upon the concept of wage indexing.
Windfall Elimination Provision (WEP). Under current law, the windfall
elimination provision (WEP) reduces the Social Security benefits of workers who
also have pension benefits from employment not covered by Social Security (e.g.,
employment under the Federal Civil Service Retirement System or some state and
local governments). Its purpose is to remove an advantage these workers would
otherwise receive because Social Security’s benefit formula favors workers with
smaller amounts of Social Security-covered career earnings. Under the WEP, the
90% factor in the first band of the regular PIA formula is replaced by a factor of 40%.
Lesser reductions apply to workers with 21 through 30 years of substantial covered
employment, as follows:
Years of Social Security Coverage
20
21
22
23
24
25
26
27
28
29
30
First factor in
40% 45% 50% 55% 60% 65% 70% 75% 80% 85% 90%
formula
The effect of replacing the 90% formula factor with a lower factor is to lower the
proportion of their earnings in the first bracket that are converted to benefits.24
24 For additional information on the WEP, please refer to CRS Report 98-35, Social
Security: The Windfall Elimination Provision (WEP), by Laura Haltzel.

CRS-24
Because the WEP PIA formula is based upon the current-law PIA formula for
all but the first PIA factor, price-indexing would automatically change the 32% and
15% factors for both the regular PIA and the WEP PIA formula. However, the first
WEP PIA factor (40% or whatever based on years of coverage) is written into law
and would not automatically change with the reduction in the regular PIA formula.
Thus, if price-indexing were to be implemented and action were not taken to alter the
WEP provision, eventually the reduction to the 90% formula factor would be large
enough to bring this factor down to, and in some cases below, the level of the
current-law WEP formula factor. For example, under the current-law WEP, a worker
with 25 years of coverage would have the 90% PIA factor replaced with a 65%
factor. Under full price-indexing, the 90% factor is gradually reduced and would
reach 65% by 2041. Thus, a worker who spent their entire career contributing to
Social Security and becomes eligible to retire in 2041 would have a PIA formula
identical to a worker who contributed for only 25 years. For those regular Social
Security-contributing workers becoming eligible in future years the first formula
factor would continue to fall while the WEP beneficiary is held harmless from this
reduction. In order to maintain the intent of the WEP provision and avoid penalizing
workers who contribute to the Social Security system for their entire careers, the
WEP provision would need to specify that the same price indexing reduction would
apply to whatever first PIA formula factor would have applied to the worker under
current law.
Benefits Paid to Family Members Based on the Worker’s Earnings
Record. In addition to the worker’s retirement benefits, Social Security provides
benefits (auxiliary benefits) to other family members (e.g., the worker’s spouse,
divorced spouse, young children, and dependent parents) who are eligible to receive
benefits based on the worker’s Social Security earnings record. As of December
2004, approximately 3.1 million children and spouses received benefits based on a
retired worker’s benefits, approximately 6.7 million children and spouses received
benefits based on a deceased worker’s benefits, and approximately 1.8 million
children and spouses received benefits based on a disabled worker’s benefits.25 In
each case, the worker’s PIA is the basis for calculating these benefit amounts. For
example, while the worker is still alive, a spouse retiring at the full retirement age is
eligible to receive a Social Security benefit equal to 50% of the worker’s PIA. A
child under age 18 (or under age 19 if he or she is a full time student in elementary
or high school) is eligible to receive a benefit equal to 50% of the worker’s PIA.
Thus, any reduction in the worker’s PIA automatically translates into a reduction in
benefits for every individual who would be eligible to receive benefits on this
worker’s earnings record. For example, as shown previously in Table 6, under full
price indexing the PIA of a scaled average wage worker retiring in 2030 at the full
retirement age would be reduced by about 17%. If the worker’s PIA were $2,769
under current law, under price indexing it would be reduced to $2,286. Thus,
assuming the worker is still alive, the spousal benefit would be reduced from about
$1,385 to $1,143, a 13% reduction. Any children eligible for benefits would also see
their benefits reduced by 13%. If this result is undesirable, Congress could specify
that these beneficiaries be held harmless from price indexing. However, this
exemption would also reduce the savings generated by this provision.
25 Social Security Administration, 2005 Social Security/SSI Factsheet, available at
[http://www.ssa.gov/legislation/2005_factsheet.doc].

CRS-25
In some cases there may be multiple individuals who are eligible to receive
Social Security benefits based on one worker’s earnings history. The combination
of benefits paid to these family members is subject to a dollar limit, the maximum
family benefit (MFB), which is based on the worker’s PIA. When the total monthly
Social Security benefits paid to eligible family members exceeds the MFB, each
benefit that is based on the worker’s earnings history (other than the worker’s own
benefit and benefits paid to a former spouse) is reduced proportionately until the total
benefits paid fall below the MFB. The maximum family benefit is based upon the
PIA of the insured worker. Thus, any reduction in the PIA, reduces the maximum
combined benefit that can be paid to eligible family members.
Continuing the example above where the worker’s PIA would be reduced to
$2,286, the spousal benefit and children’s benefits would be reduced from about
$1,385 to $1,143. Because the maximum family benefits are directly linked to the
PIA, the MFB would also be reduced from $5,176 under current law to $3,862,
potentially leading to additional benefit reductions for these family members.
Table 9. Example of How the Maximum Family Benefit Would
Work Under Current Law vs. Price-Indexing of the PIA, Scaled
Average-Wage Worker With Spouse and Three Eligible Children
Price-
Current
Indexing
Law
of PIA
Individual Benefit Amount Each Family Member is Eligible
to Receive
$1,385
$1,143
Total Family Benefit Prior to MFB
$5,540
$4,572
Maximum Family Benefit (after worker’s PIA has been
subtracted)
$2,407
$1,576
Reduction in Total Family Benefit Required Under MFB
$3,133
$2,996
Resulting Individual Social Security Benefit for Each Family
Member
$602
$394
Percent Reduction Due to Maximum Family Benefit
- 57%
- 66%
Source: Estimates prepared by the Congressional Research Service.
As seen in Table 9, if the scaled average-wage worker above had a spouse and
three children under the age of 18, this family would have (were it not for the MFB)
qualified for a spousal benefit of $1,385 and three children’s benefits of $1,385 each,
for a total of $5,540. Under current law, this $5,540 total would exceed the $2,407
maximum family benefit by $3,133. Thus, each of the family members’ benefits
would be reduced in equal proportion to $602 each, a reduction of 57%. Under price
indexing of the PIA, because of the worker’s lower PIA, this family would have
qualified for a spousal benefit of $1,143 and three children’s benefits of $1,143 each,
for a total of $4,572. Because price indexing automatically reduces the MFB as well
as individual family member benefits, this $4,572 total exceeds the price indexed
MFB of $1,576 by $2,996. Thus, each of the family benefits would be reduced in
equal proportion to $394 each, a reduction of 66%.

CRS-26
Social Security Components Indexed to Average Wages. In addition
to Social Security benefits, there are many other Social Security components that are
currently indexed with the increase in the national average wage:
! The Social Security contribution and benefit base (i.e. maximum
taxable earnings)
! The “old law” contribution and benefit base
! Exempt amounts under the retirement earnings test
! The formula for computing maximum family benefits (MFB)
! The amount of earnings needed to earn a quarter of coverage under
Social Security
! Coverage thresholds for domestic and election workers
! Substantial gainful activity amounts for DI beneficiaries
! The amount of earning affecting a trial work period for DI
beneficiaries
Social Security Contribution and Benefit Base. Social Security taxes
are levied on earnings up to a maximum level set each year. In 2005, this maximum
— or what is referred to as the taxable earnings base — is $90,000. The taxable
earnings base serves as both a cap on contributions and a cap on benefits. As a
contribution base, it establishes the maximum amount of earnings for each worker
that is subject to the payroll tax. As a benefit base, it establishes the maximum
amount of earnings used to calculate benefits. Under current law, the Social Security
contribution and benefit base increases with the growth in the national average wage.
If this amount continued to increase in line with wages, while benefits increased in
line with prices, over time the portion of pre-retirement earnings that would be
replaced by Social Security benefits upon retirement would decline. If the
contribution and benefit base were price indexed rather than wage indexed, benefit
amounts and replacement rates for average and low-wage workers would be
unchanged. Benefits would be reduced only for high wage and maximum wage
workers who would pay less in taxes as the base fell relative to their earnings. High
wage and maximum wage workers would also have lower benefits than if just the
PIA were price indexed as the amount of earnings that are counted towards benefits
would also decrease. Therefore, price indexing the contribution and benefit base
would reduce the replacement rate for higher wage workers more sharply than would
price indexing the PIA. In addition to these effects on benefits and replacement rates
of higher earners, Social Security revenues would fall. Lowering the growth rate of
the taxable maximum would also lower the growth rate of revenues into the Social
Security system, which reduces the solvency savings from price indexing the PIA.
“Old-Law” Contribution and Benefit Base. The old-law contribution and
benefit base is the base that would have been effective without enactment of the 1977
amendments to the Social Security Act. Under current law, this base is indexed to
increases in the national average wage. In 2005, the old-law base is $66,900,
substantially smaller than the current-law contribution and benefit base of $90,000.
The old-law base is used by the Social Security Administration to determine a ‘year
of coverage’ in computing the special minimum benefit and to calculate a year of
coverage in computing benefits for those subject to the WEP. This base is also used
by the Railroad Retirement program to determine tax liabilities and Tier II benefits
payable under Railroad Retirement to supplement the Tier 1 benefits, which
correspond to basic Social Security benefits. The Pension Benefit Guaranty

CRS-27
Corporation (PBGC) uses the old-law base to determine the maximum amount of
pension guaranteed under the Employee Retirement Income Security Act (ERISA).
Thus, price-indexing the old-law base would increase financial protections for some
Social Security beneficiaries by reducing the earnings required to obtain a year of
coverage under certain Social Security provisions. But the same step would also
reduce protection provided to pensioners under the Railroad Retirement system and
by the PBGC.
Exempt Amounts Under the Retirement Earnings Test. The retirement
earnings test (RET) reduces Social Security benefits for those below the full
retirement age who have income from work that exceeds certain dollar thresholds.
In 2005, Social Security withholds $1 in benefits for every $2 of earnings in excess
of $12,000 if 2005 is not the year the worker reaches the full retirement age. If 2005
is the year the worker reaches the full retirement age, a higher exempt amount applies
to earnings made in months prior to the month of attaining the full retirement age.
For those months Social Security withholds $1 in benefits for every $3 of earnings
over $31,800. The dollar thresholds are indexed annually with the increase in the
national average wage. As a result, when wages increase from year to year,
approximately the same proportion of a worker’s earnings is subject to the RET.
Price indexing Social Security benefits alone would not alter this structure (although
the $1 benefit reduction would be a larger percentage of the smaller price indexed
benefit). However, if both Social Security benefits and the exempt amounts subject
to the RET were price indexed, the growth rate in the real wages being earned by
workers would exceed the growth rate of the exempt amounts. This change would
push more and more wages over the exempt amount, making the same level of
benefits subject to a larger reduction under the RET.
Formula for Computing Maximum Family Benefits (MFB). Under
current law, the formula for the maximum family benefit is structured similarly to
that of the current-law PIA formula. For the family of a worker who becomes age 62
or dies in 2005 before attaining age 62, the total amount of benefits payable may not
exceed:26
150% of the first $801 of the worker’s PIA, plus
272% of the worker’s PIA over $801 through $1,156, plus
134% of the worker’s PIA over $1,156 through $1,508, plus
175% of the worker’s PIA over $1,508.
As with the current-law PIA formula, the dollar amount bend points connected to
each replacement factor are indexed to increases in the national average wage. A
logical question to ask if the regular PIA bend points are price indexed is whether the
MFB formula factors should also be indexed.
As discussed above, even without making any changes to the MFB formula
factors, the family benefit based on an insured worker’s earnings record will be
reduced relative to current law. This reduction is due to the link between the
worker’s PIA, a family member’s benefits and the MFB. Continuing the example
26 A special formula is used for computing the maximum benefits payable to the family of
a disabled worker.

CRS-28
from Table 9 above, if the MFB formula factors were also price-indexed in line with
the PIA factors, the new MFB would be $904. This new MFB is $3,668 smaller than
what the family members would qualify for based on the spouse’s PIA. Thus, each
family members benefit would be reduced to $226, a reduction of 80% due to the
MFB. This large reduction occurs because each beneficiary is affected twice by
price- indexing: (1) through the reduction of the MFB that occurs automatically when
the worker’s PIA is decreased; and (2) through the reduction of the MFB factors by
price-indexing.
Coverage for Social Security Benefits. In order to be insured for Social
Security retirement benefits, traditional workers must have earned 40 quarters of
coverage by working in Social Security covered positions.27 The amount of earnings
required for a quarter of coverage in 2005 is $920 and this dollar amount increases
automatically each year with increases in the national average wage index. Workers
can earn no more than 4 quarters of coverage in a year. Domestic employees and
election workers are subject to special coverage thresholds to qualify for Social
Security benefits. In 2005, a domestic worker must earn at least $1,400 in a single
private home to obtain coverage, and this amount is indexed annually with the
increase in the national average wage. Election workers must earn $1,200 in 2005
to qualify for Social Security coverage. This amount is also indexed annually to the
increase in the national average wage.
Price indexing Social Security benefits would not affect the quarters of coverage
or coverage thresholds needed to qualify for Social Security benefits; however, it
would create a disconnect between the ‘cost’ of the coverage earned and the benefits
ultimately received. If the earnings required to obtain a quarter of coverage were also
price-indexed, lower paid workers would find it easier to meet the coverage
requirement because the growth in wages would exceed the growth in the coverage
thresholds. Thus, price-indexing the quarters of coverage or coverage thresholds
could lead more workers to ultimately qualify for Social Security benefits, which is
beneficial from a coverage standpoint, but potentially costly from the standpoint of
solvency.
Substantial Gainful Activity Amounts for Disabled Workers. To be
eligible for Social Security disability benefits, a person must be unable to engage in
“substantial gainful activity” (SGA). A person who earns more than a certain
monthly amount (net of impairment-related work expenses) is typically considered
to be engaging in SGA and would not be eligible for DI benefits. The amount of
monthly earnings considered as SGA depends on the type of disability. The Social
Security Act specifies a higher SGA amount for statutorily blind individuals while
Federal regulations specify a lower SGA amount for non-blind individuals. In 2005,
the SGA for statutorily blind individuals is $1,380. For non-blind individuals the
2005 SGA is $830. Both SGA levels increase annually with increases in the national
average wage. Although price indexing the PIA would automatically reduce the
disability benefits of those eligible for DI benefits, this form of price indexing would
not affect a disabled individual’s ability to qualify for these benefits. However, if the
SGA levels were also subject to price indexing, the growth in earnings would outpace
27 Fewer quarters of coverage are required to be eligible for disability benefits or for
survivor benefits that are based on a worker’s earnings record.

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the growth in the SGA, ultimately leading fewer individuals with disabilities to
qualify for DI benefits not because of increased ability or work effort, but just due to
the difference between price growth and wage growth.
Trial Work Period for Disabled Workers. After an individual becomes
eligible for disability benefits, the person may attempt to return to the work force.
To encourage DI beneficiaries to test their ability to work, Social Security provides
a “trial work period” in which the beneficiary may have earnings and still collect DI
benefits. Social Security does not consider a disability to have ended until a disabled
worker is able to perform a certain level of “services” for at least 9 months (not
necessarily consecutive) out of a rolling 60-month period. In 2005, any month in
which the disabled worker’s earnings exceed $590 is considered to be a month of
services. This dollar threshold is indexed to the annual increase in the national
average wage. Price indexing Social Security benefits would not directly affect the
level of earnings considered to qualify as a month of services for the disability trial
work period. However, if the trial work period dollar threshold were also price-
indexed, the growth in earnings would outpace the growth in the trial work period
threshold, ultimately causing more individuals with disabilities to lose their DI
benefits not because of increased ability or work effort, but just due to the difference
between price growth and wage growth. This reduction in the trial work period
threshold may therefore create a disincentive for those currently receiving DI benefits
to attempt returning to work.
V. Conclusion
Social Security faces a long-term deficit in the income dedicated to the program
compared to the benefits promised under current law. One way to restore the
program to long-term financial solvency would be to slow the growth of benefits.
Under current law, Social Security benefits are indexed to growth in the national
average wage. They increase from one generation to the next at the rate that the
national average wage rises. Basing initial benefits on the rate at which prices rise
rather than the rate at which wages rise would slow the growth rate of benefits
because in the long run prices grow more slowly than wages.
Price indexing initial benefits for all beneficiaries would result in small annual
reductions in initial benefits, but the cumulative reductions would be substantial
when compounded over many years. This could have serious implications for low-
wage workers, who depend heavily on Social Security as a source of retirement
income. Price indexing initial benefits also would make deeper cuts in benefits if
wages grow faster than projected, even as Social Security’s financial situation would
be improving. Likewise, if wages grow more slowly than projected, price indexing
would make smaller cuts in benefits, leading to a larger long-term financing deficit.
One way to preserve benefits for low-wage workers would be through
progressive price-indexing of initial benefits. Under progressive price-indexing, the
initial benefits of low-wage workers would continue to be fully wage-indexed, the
benefits of average-wage workers would be based on a mix of wage-indexing and
price- indexing, and the benefits of high-wage workers would be fully price-indexed.
President Bush has suggested that Congress consider progressive price-indexing of
Social Security as a means of restoring Social Security to financial solvency. The
Social Security Administration has analyzed a method of progressive price-indexing

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that would continue to wage-index Social Security benefits for workers with career-
average earnings in the lowest 30% of the earnings distribution. SSA has estimated
that this proposal would eliminate about three-fourths of the program’s 75-year
unfunded liability. One consequence of this method of progressive price-indexing
would be that, eventually, all workers with earnings in the top 70% of the earnings
distribution would receive the same benefit.