Most seniors rely on their monthly check from Social Security to cover some aspect of their living expenses. More than two decades’ worth of polls from Gallup show that between 80% and 90% of retired workers count on their Social Security benefit in some capacity every year.
For these retirees, there’s no announcement from the Social Security Administration that bears more weight than the annual cost-of-living adjustment (COLA).
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Here’s how the Social Security Administration calculates its annual COLA
The best way to think about COLA is as a tool used by the Social Security Administration to ensure that program recipients don’t lose purchasing power to inflation. If the goods and services retirees buy increase from one year to the next, Social Security benefits should, in an ideal world, increase by a commensurate amount. COLA is the “raise” passed along most years to account for inflation.
You’ll note that I’ve chosen to put “raise” in quotation marks. This is because COLA is a measure designed to match the inflation rate and not outpace it. In other words, the near-annual payout increase a Social Security beneficiary might enjoy isn’t the same as an employer giving their employee a raise, which could actually allow an employee to outpace an increase in the inflation rate.
Before 1975, there was no rhyme or reason to cost-of-living adjustments. For decades, benefit increases were passed along by special sessions of Congress at arbitrary times. Since 1975, the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) has been the inflationary tool used by Social Security.
The CPI-W has eight major spending categories and many subcategories, all of which have their own respective weightings. The purpose of these weightings is to allow the CPI-W to be whittled down to a single number, which can then be easily compared to a previous point in the timeline to determine if inflation or deflation (falling prices) have occurred.
Calculating Social Security’s annual COLA is actually quite simple. Only the CPI-W readings for the third quarter — we’re talking July through September — are used in the calculation. The other nine months, while helpful in identifying inflationary/deflationary trends, don’t play into the COLA calculation.
If the average CPI-W reading from Q3 of the current year is higher than the average CPI-W reading in Q3 of the previous year, inflation has occurred and beneficiaries are due a “raise.” The amount of that “raise” is simply the year-over-year percentage increase in the average third-quarter CPI-W reading, rounded to the nearest tenth of a percent.
Historically high inflation powered benefits higher in 2023, but it’ll be a different story next year. U.S. Inflation Rate data by YCharts.
How big a Social Security “raise” should retirees expect in 2024?
With the above in mind, understand that we haven’t yet reached the months that matter (July through September) for Social Security’s COLA calculation. Nevertheless, monthly CPI-W data can help us identify trends and make educated guesses as to what Social Security’s cost-of-living adjustment in 2024 might look like.
This past Tuesday, the U.S. Bureau of Labor Statistics released the May inflation report, which showed that the CPI-W had increased by 3.6% over the last 12 months. That’s the lowest trailing 12-month inflation rate since March 2021, and substantially below the 8.7% COLA beneficiaries received this year.
According to the newest estimate from The Senior Citizens League (TSCL), a nonpartisan senior advocacy group, Social Security’s COLA is on pace to rise by just 2.7% in 2024, based on extrapolated expectations from the May inflation report.
What would a 2.7% COLA actually mean for Social Security beneficiaries? For the average retired worker, who brought home about $1,835 in April, it means a benefit increase of just shy of $50 a month. As for long-term disabled workers and survivors of workers who’ve passed away, a 2.7% COLA would translate into a monthly benefit hike of about $40 and $39, respectively. In other words, 2024’s COLA is shaping up to be a far cry from the historic nominal-dollar “raise” passed along this year.
The biggest reason for this drop-off in inflation is a sizable decline in the price of energy commodities, such as oil and natural gas. On an unadjusted 12-month basis, fuel oil, gasoline, and utility gas service have respectively declined by 37%, 19.7%, and 11%, according to data from the Consumer Price Index for All Urban Consumers (CPI-U), which is a similar inflationary measure to the CPI-W.
However, common expenses for seniors, such as food and shelter, remain stubbornly high. Food and shelter costs have risen 6.7% and 8%, respectively, over the trailing 12 months, based on the May CPI-U readings.
Image source: Getty Images.
Social Security’s COLA has a history of disappointing retirees
Unfortunately, a relatively small cost-of-living adjustment isn’t an anomaly for beneficiaries. It’s something they’ve become quite accustomed to. Over the past 14 years, Social Security’s COLA has been 0% three times and 2% or lower on 10 occasions.
The prevailing issue for the program’s more than 49 million retired-worker beneficiaries is that the CPI-W isn’t doing a particularly good job of tracking the inflationary pressures they’re dealing with. The reason for this can be seen by digging into the nuts and bolts of what makes the CPI-W tick.
As its full name shows, the CPI-W follows the spending habits of “urban wage earners and clerical workers.” These are typically working-age Americans who aren’t receiving a Social Security benefit and who spend their money very differently than retired workers aged 62 and up. Since the CPI-W places added weighting/emphasis on categories that matter little to retired workers, such as apparel and education, it’s shortchanging critical spending categories for seniors, such as shelter and medical care.
Over a span of 23 years, the CPI-W has meaningfully shortchanged Social Security’s retired workers. Data from TSCL finds that the purchasing power of Social Security dollars has declined 36% since this century began. This is a trend that isn’t going to change anytime soon.
Although lawmakers from both parties recognize that the CPI-W is flawed, their approaches to resolving the problem come from opposite ends of the political spectrum. As a result, neither party has been willing to find common ground with their opposition, thus leading to the ongoing stalemate where nothing gets fixed.
Regardless of whether TSCL’s estimate of a 2.7% cost-of-living adjustment in 2024 for Social Security beneficiaries is spot-on or only somewhat in the ballpark, the writing is on the wall that this loss of purchasing power, courtesy of the CPI-W, is set to continue.
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