OTHER OPINION: DEBT | BrainerdDispatch.com | Brainerd, Minnesota

OTHER OPINION: DEBT

Beating inflation

Posted: May 30, 2011 - 8:38pm

Getting the debt under control will require some difficult choices, but not every step must be painful. There is a relatively easy way to save about $300 billion over the next decade — by adopting a more accurate method of calculating increases in the cost of living. Even in an era of trillion-dollar deficits, that is real money - and the savings would be even greater in later years. This change, which has been endorsed by groups across the ideological spectrum, ought to be taken up in the debt reduction discussions being chaired by Vice President Joe Biden.

Much of the federal government’s spending and revenue collection is on autopilot. Benefits for programs such as Social Security and civilian and military pensions, and eligibility levels for other programs, are indexed to inflation. As the cost of living rises, benefit checks grow, too. Tax brackets and other features of the tax code are similarly indexed. So as prices rise, so does the size of the standard deduction or the level at which a particular income tax bracket applies. Indexing makes sense, but the measurement is inaccurate. It overstates inflation because the market basket of goods that is used to measure increases in the cost of living does not allow for what economists call upper-level substitution bias. For example, imagine that apples are part of the basket. If the price of apples doubles, it’s likely that consumers will purchase fewer apples and more, say, pears. But the traditional calculation of the consumer price index assumes that consumers will buy the same basket of goods every month no matter what the price. 

An alternative measure, known as the Chained CPI, adjusts for change in consumer behavior and provides a more accurate inflation measure. The difference is small — a fraction of a percentage point annually — but the effect compounds over time.