PAY, TAXES TIED TO CPI : CHANGE IN CALCULATION WOULD PRODUCE MAJOR IMPACT.

Byline: Robert A. Rankin Knight-Ridder Newspapers

Millions of Americans would get smaller annual hikes in their Social Security benefits and paychecks and would pay higher taxes if the government revises the way it measures inflation, as recommended Wednesday by a blue-ribbon commission.

Salaries, wages, union contracts and a host of other financial agreements in the United States - even alimony payments - are often tied to the government's Consumer Price Index (CPI). All would rise more slowly than under current practice, if the proposed reform becomes law.

But federal deficits would go way down too. The proposed reform could save the government more than $100 billion each year - and the deficit was $107.3 billion in the fiscal year that just ended.

Those are the politically explosive stakes as President Clinton and Congress weigh what to do with the commission's recommendations on a seemingly dry and arcane subject: how to revise the CPI, the government's most widely used statistical measure of price changes over time.

The commission concluded that the index overstates the true cost of living. As a result, the commission said, Americans for years have been getting bigger pay and benefit increases than needed to keep up with inflation.

Both the White House and top leaders in Congress say they intend to study the question carefully before acting, if they act at all. All sides know that the proposed reform poses extremely dangerous political risks, but it also might be the linchpin of a bipartisan deal on how to balance the budget by 2002, which both Clinton and Congress are committed to doing.

``It's not enough to solve the whole deficit problem or to sustain Social Security over the long run, but it helps enormously,'' said Martha Phillips, executive director of the Concord Coalition, an independent bipartisan group devoted to ending deficits.

The reform's potential to help resolve two of the nation's most difficult financial problems may help politicians dare to do it.

``That's one tough political decision,'' Phillips said. ``Maybe the analogy is `do you like to take your Band-Aids off very slowly or all at once?' This is an all-at-once deal.''

The CPI is intended to measure how quickly prices are rising for typical consumer purchases. It is compiled monthly by researchers from the Labor Department's Bureau of Labor Statistics (BLS), who track some 90,000 prices of a ``market basket'' of goods and crunch them into the single statistic.

The problem, most experts agree, is that the way CPI is calculated exaggerates the actual cost of living - by 1.1 percentage points, on average, according to the commission of prestigious economists appointed by the Senate Finance Committee in June 1995 to study the question.

The five-person panel recommended Wednesday that the Labor Department develop a new Cost of Living Index to replace the CPI with a more accurate measure. The panel was led by Michael Boskin of Stanford University, who was a top adviser to President Bush.

Under the proposed reform, the average retiree's Social Security benefits would rise by $96 less in 1997 than under current law - and by a total of almost $22,000 less through 2015.

Similarly, the reform would mean that a typical four-person family with $50,000 annual income would pay a total of more than $12,000 in higher taxes through 2015 than under current law.

Both the government and private-sector businesses use the CPI as a base for calculating how much the general cost of living is rising. Both link the annual CPI rate directly to many of their payments - such as Social Security benefits and employee wages - to help ensure that people's income keeps pace with their rising living costs. For the 12 months through October, the index rose at a 3 percent annual rate.

If a new cost-of-living index led to cuts in all federal and private payments by the 1.1 points recommended by the Boskin commission, it would mean smaller future increases in income for millions, if not most, Americans.

``It (CPI) is widely used for raises, and for labor negotiations,'' said Delos Smith, an economist with the Conference Board, a business-research center in New York. ``A lot of savings and investment plans are based on it.''

Many would pay higher taxes too, because the tax code uses CPI as the basis for raising the standard deduction, personal exemptions and the income levels where higher tax rates kick in.

``Clearly this is a significant finding and, indeed, should be taken seriously,'' Senate Finance Committee Chairman William Roth, R-Del., said of the Boskin commission's report. Roth promised hearings on the proposal next year and called for President Clinton to take the lead in setting a bipartisan approach in reviewing the question.

The White House took a cautious stance.

Joseph Stiglitz, chairman of Clinton's Council of Economic Advisers, issued the administration's formal response, saying it ``believes it is important to have the most accurate measure possible to ensure that Social Security and other benefits are protected from inflation and to adjust tax brackets to keep our system fair.''