Reforming the US Social Security : Wage Indexing or Price Indexing: An Option Theory

Using an option pricing framework, we extend Stock and Wise (1990)’s and Fraser, Jennings, and King (2000)’s into a new model that shows how different forms of price indexing alter the calculation of the present values of Social Security benefits. We find that, under the current method (wage indexing), the Social Security Trust Fund will quickly deteriorate and eventually go bankrupt. We use present values of monthly Social Security benefits to establish that the PIA factor indexing will least likely affect the solvency of the Social Security Trust Fund. Using our results, we propose that a swift action be taken to implement the PIA factor indexing as recommended by the 2001 Commission to Strengthen Social Security. Our results demonstrate that without changes to the Social Security program, the program could quickly default by 2048. In view of the foregoing, we advocate a hurried action by Congress to confront the upcoming Social Security insolvency