Friday, October 16, 2009

All the Sugar and Twice the Caffeine

Social security payments rise automatically with inflation through a mechanism known as the cost of living adjustment (COLA). The adjustment is asymmetric - social security payments adjust upward for inflation, but not downward with deflation. This year, the index that the COLA is based on - the CPI for urban wage earners and clerical workers in the 3rd quarter - was 2.1% lower than a year ago, which implies that there should be a COLA of zero.

Although deflation is generally bad news for the economy as a whole, one group that benefits are those who have fixed nominal incomes. Since prices have fallen over all, a given dollar income has greater purchasing power. That is, the real value of social security payments would rise, even if the nominal level (i.e., the dollar amount) stayed constant.

But that's apparently not good enough: through some confluence of money illusion, pandering and self-interest, the zero COLA has come to be viewed as unfair to seniors. The administration is proposing to add an artificial sweetener in the form of a $250 extra payment to social security recipients.

Normally, that's not very good policy - EconomistMom, for one, is not happy - but as Ezra Klein points out: "The economy needs more stimulus and this is good stimulus."

Potentially, a bad precedent. But hopefully we won't see deflation again.


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