As a result of the COVID-19 pandemic, about 3 million retired workers who turn 60 years old in 2020 will very likely have much lower lifetime Social Security benefits than previously expected. Without legislative changes, the average earner stands to lose nearly $1,500 per year for the rest of their life. Fortunately, there is a simple legislative change—explored in detail below—that would fix these problems without lowering the benefits of any other cohort of retirees. Chairman of the U.S. House Ways and Means Social Security Subcommittee, Rep. John Larson (D-CT), has introduced such legislation*—and Congress should fix this situation as soon as possible.
The problem: The economic toll from the pandemic will very likely affect Social Security benefits
The initial retirement benefits that Social Security beneficiaries receive in the first year of retirement are determined by a formula that depends, in part, on the growth of average wages in the economy. Due to the economic fallout from the COVID-19 pandemic, the key measure of average wages—the average wage index (AWI)—is very likely to decline in 2020. As a result, the initial retirement benefits for those who are first eligible to receive benefits in 2022—when they reach the age of 62—would be significantly less than what was anticipated only months ago, before the pandemic began to exact its economic toll. The effect is very likely to be so significant that workers turning 62 in 2022 would receive initial retirement benefits that are less than those of workers who were born a year earlier and who had essentially the same earnings history. This incongruity is what Social Security experts call a benefit notch. Such a notch would be unfair to the beneficiaries who turn 60 in 2020 and first become eligible to retire in 2022 because benefits are normally expected to grow for each successive cohort of retirees. Moreover, the benefit reduction and notch would have long-lasting consequences, as they not only would affect benefits in the first year of one’s retirement but also lower them for every year going forward, as annual benefits are determined by adjusting the initial level for inflation.
Under the latest projections of the chief actuary of the Social Security Administration (SSA), the AWI is likely to fall by about 5.9 percent between 2019 and 2020. Using this figure—which could change as more data become available—an average earner born in 1960 would lose $1,428 per year in inflation-adjusted dollars for the rest of their life.** Moreover, workers who earned substantially more than the average level of earnings in their working years would lose significantly more than that.
Spouses of these retirees—who draw spousal benefits based on their spouses’ earnings records—would also suffer lower initial and lifetime benefits. And some retirees receive benefits because they have children or other relatives who are dependents; these additional benefits would also be reduced.
Additionally, the AWI problem would affect about 1 million individuals drawing Social Security disabled-worker benefits who become newly eligible for benefits in 2022. Their initial and lifetime benefits would be lower, as would the benefits of their spouses and dependents. The effect on lifetime earnings could be especially large for those who become disabled at a young age, as they would receive reduced benefits for each and every subsequent year that they draw Social Security benefits.
Some individuals drawing Social Security survivors’ benefits would be affected as well. Individuals who lose a working or disabled-worker spouse, who are caring for children under the age of 16, and who are not already entitled to a Social Security benefit themselves are entitled to survivors’ benefits—as are their children. If the survivor’s spouse dies in 2022, these survivors’ benefits would be reduced because of the reduction in the AWI. In addition, widows and widowers of Social Security workers, retirees, and disabled-worker beneficiaries who die receive survivors’ benefits if, in general, those benefits are greater than those the widow or widower would receive based on their own lifetime earnings. If the spouse dies in 2022, the spouse’s survivor payments would also be reduced because of the fall in the AWI.
The source of—and solution to—the problem
When the current Social Security formula was put in place in 1977, no provision was made for the contingency that economic conditions would be so dire that average wages would fall in any given year. This problem first surfaced in 2009 during the Great Recession. The AWI, however, fell by a relatively small amount, and policymakers chose not to do anything about it. As a result of the COVID-19 pandemic, however, the decline in the AWI is likely to be about four times as big now as it was during the Great Recession.
There is ample precedent for fixing this problem. The first precedent concerns Social Security cost-of-living allowances (COLAs). As mentioned above, payments in years after beneficiaries’ first year of retirement are indexed to inflation using a version of the consumer price index (CPI). However, under the law, if prices fall in any year, benefits are not adjusted downward; rather, they remain the same. The second precedent concerns the Social Security contribution and benefit base, also known as the taxable maximum. The taxable maximum is the dollar amount of annual earnings above which the Social Security payroll tax does not apply. The taxable maximum is indexed to the AWI—but like COLAs, it is never adjusted downward.
The same should be the case for determining initial Social Security benefit levels; they should not be allowed to decline even if the AWI declines. To accomplish this goal, Congress must provide specifically that the AWI used for the benefit computation is not allowed to decline from one year to the next, even if the actual AWI falls. But for retirees, this change must apply only to the initial benefit computation for workers who turn 60 in the year that the actual AWI falls. Otherwise, the benefits of workers in other cohorts would be lowered. The bill that Chairman Larson introduced does just this: It fixes the problem without lowering the benefits of workers in other cohorts.
Another advantage of Chairman Larson’s proposed change is that it would prevent the problem from recurring. If the AWI were to fall again at some point in the future, new legislation would not be needed. Another decline in the AWI could be a real possibility in as early as 2021, especially if policymakers do not take the decisive steps needed to prevent the current crisis from turning into a deep and prolonged recession.
Congress must act sooner rather than later
In theory, the AWI problem could be fixed anytime before 2022, when, for example, workers who turn 60 this year are first eligible to retire at the age of 62. But that delay would cause significant anxiety for these workers, whose future benefits would be at risk. Moreover, people decide when to retire based on projections of their incomes in their initial year of retirement and in the remainder of their lives. It would be most unfair to workers’ decision-making processes to have the expectations of their future incomes be uncertain for some period of time while they are trying to make such an important decision.
Congress needs to act sooner rather than later to ameliorate this problem. One possibility would be to include a fix in the stimulus legislation to cope with the economic effects of the COVID-19 pandemic that Congress is currently considering.
Costs of the solution
Two issues that are likely to arise in any discussion of fixing this problem are its cost to the Social Security trust fund and its cost to the federal budget. With regard to the cost to the Social Security trust fund, there are three ways to look at the issue.
One way is to view the cost relative to costs in a world in which no pandemic had occurred. For example, the cost could be measured using the economic assumptions in the most recent Social Security trustees’ report (2020), which were formulated before the pandemic began. From this perspective, the cost would be zero because the legislative change would restore the world of Social Security benefits to what it would have looked like had there been no pandemic.
A second way of looking at the issue is to view the cost of the change relative to costs in a world that reflected economic assumptions indicative of the economic recession caused by the pandemic. From this viewpoint, there would be a cost associated with fixing the problem. For example, the chief actuary of the SSA estimates that if the AWI in 2020 were to fall 5.9 percent below its 2019 level, the AWI adjustments proposed by Chairman Larson would cost $90 billion in present-value dollars for the 75-year period from 2020 through 2094—about 0.02 percent of taxable payroll over that period. (The 75-year actuarial imbalance in the Social Security trust fund is estimated to be 3.21 percent of taxable payroll in the 2020 Social Security trustees’ report). The cost over the 10-year period from 2020 to 2029 would be about $21 billion in nominal dollars.
The third way of looking at this would be to construct a baseline that reflects occasional decreases in the AWI such as those experienced in 2009 and, very likely, now. From this perspective, there would also be a cost to fixing the problem.
The issue is less one of cost and more one of restoring fairness to beneficiaries. In the absence of Chairman Larson’s fix, the trust fund saves money at the expense of beneficiaries. The chairman’s adjustments restore that money to the beneficiaries. This seems to be a fair outcome.
With regard to the federal budgetary cost of the AWI changes in Chairman Larson’s bill, the Congressional Budget Office (CBO) wrote in its estimate of the Families First Coronavirus Response Act:
Following standard practice, most of the costs [of the Families First Act] have been estimated relative to CBO’s March 2020 baseline (which used CBO’s economic projections of January 2020) and CBO expects that approach to provide informative estimates of the costs of most of the provisions of the act. However, for some provisions, that approach would not provide useful estimates, in CBO’s assessment. In particular, the costs of provisions related to unemployment insurance have been estimated using an updated and notably higher projection of the unemployment rate.
This precedent supports the argument that a CBO estimate of the AWI adjustment that would be made relative to the CBO’s March 2020 baseline—before the pandemic—would not be useful. Therefore, any estimates of an AWI adjustment would likely be made relative to an updated baseline. If this were the case, the CBO would show there to be a cost of the adjustment in Chairman Larson’s bill. The CBO has not yet made an estimate of the size of that cost.***
As with the cost to the Social Security trust fund, the issue is less one of costs and more one of restoring fairness to beneficiaries. Without Chairman Larson’s adjustments, the trust fund saves money that would otherwise go to beneficiaries. The chairman’s changes restore those funds to the beneficiaries. This seems like a fairer and more appropriate perspective on the issue.
If Congress does not act, future retirees who turn 60 in 2020 will very likely suffer a dramatic reduction in their Social Security benefits as a result of the fall in the AWI caused by the pandemic. These retirees would also receive benefits that would be significantly less than the payments received by retirees who turned 60 last year, creating a serious Social Security benefit notch. The benefits of spouses and dependents of retirees, workers with disabilities and their dependents who are first eligible for benefits in 2022, and some survivors and their dependents would also be lowered. This problem can be eliminated with a legislative change. There is ample precedent in the Social Security world for the type of policy reflected in this modification—and the change should be made legislatively as soon as possible.
Alan Cohen is a senior fellow at the Center for American Progress.
* Author’s note: Chairman Larson’s legislation also includes other provisions that provide for changes to the Social Security program to cope with the COVID-19 crisis on an emergency basis.
** Author’s note: An average earner is one whose earnings equaled the AWI in each year.
*** Author’s note: The CBO also analyzes the Social Security trust fund’s balances and imbalances.