The Social Security cost-of-living adjustment (COLA) is designed to help retirees keep up with rising costs due to inflation. Unfortunately, that doesn't always work out, and 2024 is shaping up to be another disappointing year for seniors.
Retirees have seen their Social Security benefits lose 36% of their buying power from 2000 to 2023, according to research from The Senior Citizens League. That's actually an improvement from 2022, as a result of 2023's 8.7% COLA. But it looks like 2024's 3.2% COLA is failing to keep up with rising expenses yet again.
High inflation is particularly challenging for seniors, and some may be wondering if they'll get some reprieve in 2025. There's some good news and some bad news on that front.
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How Social Security determines the cost-of-living adjustment
Before we can dive into why the 2024 COLA is falling short of retirees' needs, it's important to understand how the government calculates the annual cost-of-living adjustment.
The COLA is determined based on a measure of inflation called the CPI-W. Most people are familiar with the CPI, or Consumer Price Index. It measures the cost of a specific basket of goods in any given month. The Bureau of Labor Statistics will also publish variations on the basket tailored toward specific groups. The CPI-W measures a basket of goods commonly purchased by urban wage earners and clerical workers.
The Social Security Administration takes the average CPI-W reading during the third quarter -- July through September -- and compares it to the average CPI-W reading during the prior-year quarter. The COLA is equal to the change. If the CPI-W declines, the COLA is 0%.
Two big problems with the COLA
There are two problems that arise for seniors when it comes to their annual cost-of-living adjustment.
First of all, the COLA is backward-looking. The Social Security Administration looks at what inflation was, and it makes the annual adjustment based on the inflation you've already experienced. That's a fine solution to the rising living expenses in most economic environments. It becomes much more of a burden in volatile high-inflation environments like the U.S. has experienced over the past three years. The current system requires seniors to wait until the next year to make up for the rising cost of goods they're experiencing presently. Granted, a system reliant on predicting future inflation rates is fraught with potential pitfalls due to inflation's inherent unpredictability.
The second problem with the COLA has to do with how it's calculated. As mentioned, it uses a short snapshot of inflation for a very specific group of people, urban wage earners. It shouldn't be a surprise that urban wage earners spend their money differently than retired senior citizens. So, the average senior experiences much different changes in their cost of living from year to year. Often the COLA falls short of the actual change in seniors' living expenses.
What's interesting is the Bureau of Labor Statistics provides a specific CPI for the elderly, the CPI-E. The reading measures price changes based on the spending patterns of Americans age 62 and older -- the exact group eligible for Social Security retirement benefits. If the Social Security Administration used CPI-E to calculate the COLA, retirees would've received a 4% increase to their monthly benefits checks in 2024 instead of just 3.2%.
On top of that, the CPI-E has increased faster than the 2024 COLA in each of the first three months of the year. Seniors experienced year-over-year cost-of-living increases of 3.5%, 3.4%, and 3.7% in January, February, and March, respectively. In other words, retirees are once again experiencing a reduction in their spending power.
Will 2025 be any different?
There's a chance seniors will get some reprieve in 2025. As inflation remains elevated, it's likely the COLA for next year will be higher than expected. The Senior Citizens League currently forecasts a cost-of-living adjustment of 2.6%, up from its original forecast of 1.75%.
Meanwhile, it's reasonable to expect inflation to decrease from its current level by next year. While many expected inflation to come down this year, that has yet to materialize, and economists have become less optimistic it will move significantly lower by the third quarter. But many believe the Federal Reserve will start cutting interest rates by the end of the year as its fight against high inflation eases, indicating strong expectations that inflation will move lower.
Of course, that only provides a momentary bit of relief for retirees. The bigger problem is the disconnect between the CPI-W and the true cost-of-living changes for seniors. While several members of Congress have proposed a switch to using the CPI-E to calculate the annual COLA, the law as it stands today still leaves the door open for seniors to lose purchasing power.
