The Social Security program is an important source of income for many Americans. Nearly 66 million people -- about 20% of the U.S. population -- received Social Security benefits in November, and nearly 9 in 10 retired workers depend on those monthly checks to make ends meet.
Over the past year, the rising costs of gas, groceries, and other necessities have drawn attention to a potential problem: Social Security benefits may be losing buying power. Of course, the Social Security Administration uses annual cost-of-living adjustments (COLAs) to keep benefits in lockstep with inflation, but many policy experts and politicians argue that COLAs have failed to achieve that goal because they are based on a flawed methodology.
Image source: Getty Images.
How cost-of-living adjustments are calculated
Social Security's annual COLAs are based on changes in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). Specifically, the CPI-W in the third quarter of the current year is compared to the CPI-W from the third quarter of the previous year, and the percentage increase (if any) becomes the COLA for the next year. For example, the CPI-W increased by 8.7% year over year in Q3 2022, so Social Security recipients' benefits were increased by 8.7% in 2023.
However, the CPI-W measures a market basket of goods and services that is based on the spending patterns of workers. Those workers are generally younger than most Social Security beneficiaries, and people who are still in the workforce generally spend their money differently than seniors do. As a result, the CPI-W overemphasizes spending categories that are less important to seniors (e.g. transportation, apparel, education), but underemphasizes spending categories that seniors spend more on (e.g. housing, medical care).
Another way to measure inflation
Policy experts and politicians frequently point to the Consumer Price Index for the Elderly (CPI-E) as a better measure of how inflation impacts seniors. The CPI-E is designed to track the spending patterns of people 62 and older, and puts more weight on the prices in categories that are most relevant to them.
How big is the difference? According to The Senior Citizens League, the CPI-E on average finds annual inflation to be 0.2 percentage points higher than the CPI-W. That same figure has been cited by the Office of the Chief Actuary, a government agency responsible for statistical estimates related to the Social Security program. And while 0.2 percentage points may sound like a small number, small disparities can compound significantly over time.
Based on that assumption, many politicians have proposed legislation that would replace the CPI-W with the CPI-E in Social Security's COLA calculations. But Social Security beneficiaries should examine the data a little more closely.
How much buying power have Social Security benefits lost?
The chart below details the third-quarter changes in the CPI-W and CPI-E for each year over the past two decades. In other words, the CPI-W column represents the actual COLA that was applied to benefits in the following year, while the CPI-E column represents the COLAs that would have been applied to benefits if Congress changed the way the Social Security Administration measures inflation.
|
Year |
CPI-W |
CPI-E |
|---|---|---|
|
2003 |
2.1% |
2.4% |
|
2004 |
2.7% |
3.1% |
|
2005 |
4.1% |
3.7% |
|
2006 |
3.3% |
3.4% |
|
2007 |
2.3% |
2.6% |
|
2008 |
5.8% |
5.1% |
|
2009 |
0% |
0% |
|
2010 |
0% |
0% |
|
2011 |
3.6% |
2.9% |
|
2012 |
1.7% |
1.8% |
|
2013 |
1.5% |
1.6% |
|
2014 |
1.7% |
2% |
|
2015 |
0% |
0.6% |
|
2016 |
0.3% |
1.5% |
|
2017 |
2% |
2.1% |
|
2018 |
2.8% |
2.6% |
|
2019 |
1.6% |
1.9% |
|
2020 |
1.3% |
1.4% |
|
2021 |
5.9% |
4.8% |
|
2022 |
8.7% |
8% |
|
Total |
65.3% |
65.9% |
Data source: Bureau of Labor Statistics. Chart by Author.
Over the last two decades, the third-quarter CPI-W has increased by 65.3% while the third-quarter CPI-E has increased by 65.9%. So benefits have lost buying power, but the impact in terms of dollars is minimal.
For context, the average benefit paid to retired workers was $922.10 per month in December 2003. That figure would have risen to $1,525.03 by December 2023 strictly based on the current formula (i.e., using the CPI-W to calculate COLAs), but it would have risen to $1,528.54 by December 2023 if the CPI-E were used to measure inflation. That means the average retired worker from 2003 would receive about $3.52 more per month in 2023 if COLAs had been based on the CPI-E over the last two decades.
Extrapolating further, I have calculated the total Social Security benefit that the average retired worker from 2003 would have received in both scenarios over the 20-year period ending in December 2023.
- COLAs based on CPI-W: $284,696.54
- COLAs based on CPI-E: $286,322.06
Assuming the CPI-E is a better measure of inflation for seniors, Social Security benefits have indeed lost some buying power, but the difference between the two scenarios is minimal. The average retired worker would have received an extra $1,625.52 in total benefits over the 20-year period ending in December 2023 -- that works out to an average of $81 per year.
With that in mind, readers may wonder why policy experts and politicians are pushing for change. The difference between the two scenarios has been more pronounced at certain times in the past, but the CPI-W has actually outpaced the CPI-E in recent years. That trend can be seen in the chart above. For instance, the CPI-W has increased 15.2% over the last three years, while the CPI-E has increased 13.2% during the same period. That means Social Security benefits have actually received larger COLAs in recent years because the CPI-W was used
