The Social Security Notch: An Economic Analysis By Dr. John Haldi

The Social Security Notch: An Economic Analysis By Dr. John Haldi

By John Haldi

The Notch refers to the one-time, precipitous and unprecedented drop in Social Security benefits paid to people born in 1917 and the years immediately thereafter.  This drop in benefits resulted from the 1977 Amendments to the Social Security Act.

The Notch clearly exists.  Every serious study of the effects of the 1977 Amendments admits that they caused a precipitous drop in benefits for a category of retirees often referred to as “Notch babies.”

The drop in benefits was especially precipitous because a 5-year transition formula in the 1977 legislation provided almost no cushion.  The meager help it did provide was extended to relatively few retirees.  The fact that so few people received so little money from the transition formula has been well known for most of the intervening quarter century.  The major issues now are:

  • What result did Congress intend to achieve with the transition formula?
  • Why did the transition formula fail to provide much help? and
  • Was the result fundamentally unfair and deserving of remedial legislation?

Clear indications of Congressional intent for the transition formula do not exist.  Nonetheless, the Senate Finance Committee described the purpose of the transition formula as being “to protect the benefit rights of people who are now approaching retirement and whose retirement plans have taken Social Security benefits into account.”(1) (emphasis added)  The GAO and the Commission on the Social Security “Notch” Issue generally infer that the transition rules “were expected to smooth the transition from the old (pre-1977) to the new (post-1977) formula, gradually reducing the levels of unanticipated overcompensation for succeeding retirees.”(2) (emphasis added)  To the extent that these statements represent correct inferences, the transition formula can be judged an almost complete failure.  Congressional intent is reviewed in Section 4.

The transition formula contains several different features that were designed to prevent inflation from being recognized and protect future solvency of the Social Security system.  The result was to shift the burden of inflation onto retirees.  When the inflation forecast relied on by Congress turned out to be dreadfully wrong--more like wishful thinking--Congress’ transition formula provided virtually no protection.  The different features combined to act like loaded dice against most retirees.  To help readers comprehend what went wrong, Section 5 presents a new graphic way to illustrate the problem.

Unfortunately, problems with the 1977 Amendments are not limited to the transition formula.  For those working past age 62, the basic benefit scheme shortchanges the recognition of earnings and reduces benefits.  This deepened the Notch effect for those who were born in 1917-1921 and continued working to age 65 or beyond.  In addition, when inflation increases rapidly and average earnings fail to keep up, features in the 1977 law can result in what appear to be anomalous benefit awards that appear arbitrary and smack of unfairness.  These features adversely affected many Notch babies.  It also should be recognized that, should economic conditions like those of 1978-82 recur, disparities in Social Security benefits similar to those that affected the Notch babies also could recur.  These problems are discussed in Section 6.

Until the new law was enacted, any expectations about future Social Security benefits could have been based only on the 1972 law.  For those who were within a few years of retirement in 1977, the basic formula dashed those expectations almost totally, and most retirees received no relief from the transition formula.  The drop in benefits was unexpectedly steep (see Section 7) In retrospect, the 1977 Amendments appear to have been unduly harsh on those who retired within a few years after 1977; i.e., the Notch babies who were born in 1917 and immediately succeeding years, and who have had little choice but to adjust to lower benefits and live with the inflation that occurred.

The 1977 law did not result in the level of fairness that should have been anticipated.  This result is due as much to the formulas contained in the law as to prior economic conditions.  Unfortunately, some reviews of the Notch seem predisposed to dismiss the problem, rather than to remedy it.  The Notch and the factors that gave rise to it should be reconsidered, as discussed in Section 8.

(1) Cited in the Social Security Commission Final Report Appendix, p. 34.  This reference and many others appear in the Social Security Notch Source Book, a collection of legal and historical authorities on the Notch assembled by William J. Olson, Esq.  Even more material is available on a CD-ROM, which is a companion to the Source Book.  Both resources are available from TREA Senior Citizens League.
(2) GAO Notch Report, p. 15.

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Dr. John Haldi received his B.A. from Emory University with a major in Mathematics and a minor in Economics.  He went on to receive his M.A. and Ph.D. in Economics from Stanford University.

Dr. Haldi is currently the President of Haldi Associates, Inc., a consulting firm that has done work in the areas of state budget reform, medical malpractice and alternative work schedules.  He has previously worked in the U.S. Bureau of Budget in Washington D.C. and the Post Office Department.