U.S. Markets Weekly – July 18 – July 22, 2011

Posted July 23, 2011 by CLeahey

[private][private]MARKET DATA AND THE OUTLOOK
As Congress and President Obama haggle over a deal to raise the debt ceiling, one proposal to cut deficits is to change the way Social Security payments and tax rate hurdles are indexed to inflation. Currently, these payments are adjusted every year to reflect changes in the CPI for wage and clerical workers (CPIW). But many economists believe that the CPIW overstates changes in the cost of living because by using a fixed basket of goods and services this inflation measure assumes that households do not adjust their spending patterns in response to changes in relative prices for substitute goods. The switch to chained-CPI indexing is opposed by those on the right and left. On the left, the argument against this change is that the CPIW actually understates changes in the cost of living for retirees who spend a larger share of their incomes on health care than the average household. Moving to the chained-CPI would make the disadvantage worse. On the right, the move amounts to a “stealth” tax increase as it would slow the rate of increase in these parameters, leading to higher tax payments. In any case, the CBO estimates that changing the COLA adjustment would save just $131B over 10 years – only 2% of the cumulative $7T in deficits that CBO is projecting. Meanwhile, increases in government revenues are possible as a number of tax code parameters are indexed to inflation – including personal and dependent exemptions, size of the standard deduction, income thresholds for individual income tax brackets, size of tax-deduction for retirement account contributions, size of exemption from gift tax, and a number of phase-out boundaries for tax credits including the EITC. Together with savings on entitlements, the CBO estimates that deficits could be cut by $300B over the next 10 years (4.3%) – a small but meaningful drop in a very large bucket.

DE-USEW-7-22-11[/private][/private]