For most current retirees, Social Security provides income they simply couldn't do without. A 2023 survey from national pollster Gallup found that 88% of retirees lean on their Social Security benefit as a "major" or "minor" source of income.
Considering how important Social Security income has been to the financial well-being of seniors for decades, it should come as no surprise that the annual cost-of-living adjustment (COLA) reveal during the second week of October is one of the most awaited announcements each year.
But if the April inflation report from the Bureau of Labor Statistics (BLS) is indicative of what's to come, a double-edged sword awaits Social Security's nearly 51 million retired-worker beneficiaries in 2025.
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What's the purpose of Social Security's cost-of-living adjustment (COLA) and how is it calculated?
Social Security's cost-of-living adjustment is the mechanism used by the Social Security Administration (SSA) to adjust benefits for inflation. In simple terms, if the cost of the goods and services that seniors buy rises, Social Security benefits should, in a perfect world, increase by the same percentage to ensure there's no loss of purchasing power. The program's COLA is tasked with keeping benefits on par with the inflation recipients are contending with.
From when the first Social Security check was mailed out in January 1940 through 1974, COLAs were entirely arbitrary and determined by special sessions of Congress. Only 11 benefit increases were passed along during this span, with zero adjustments made during the entirety of the 1940s.
Beginning in 1975, the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) was installed as Social Security's annual measure of inflation. It contains more than a half-dozen major spending categories and many subcategories, each of which have their own respective weightings. These weightings allow for the CPI-W to be chiseled down to a single figure each month, which makes for lightning-quick month-to-month and year-over-year comparisons to decipher which direction prices are headed.
The interesting quirk with calculating Social Security's COLA is that only CPI-W readings from the third quarter (July-September) matter. The other nine months of the year can help identify trends, but won't be used in the calculation that determines whether or not beneficiaries will receive a larger benefit check in the upcoming year.
If the average CPI-W reading from the third quarter of the current year is higher than the average CPI-W reading from the comparable quarter of the previous year, inflation has occurred and Social Security beneficiaries are due for a "raise." The amount of the increase is based on the year-over-year percentage change in these average third-quarter CPI-W readings, rounded to the nearest tenth of a percent.
A stubbornly high inflation rate might lead to a fourth straight year of an above-average COLA for Social Security beneficiaries. US Inflation Rate data by YCharts.
The forecast for Social Security's 2025 COLA continues to inch higher
Although we haven't yet reached the months that matter for Social Security's COLA calculation, monthly inflation reports from the BLS are providing invaluable clues as to what to expect when the SSA announces the 2025 COLA during the second week of October.
Over the last three years, the 5.9% (2022), 8.7% (2023), and 3.2% (2024) cost-of-living adjustments have come in above the two-decade average of 2.6%. Beneficiaries are crossing their fingers and hoping this pattern will continue for a fourth consecutive year. While this looked highly unlikely just a few months ago, the April inflation report from the BLS suggests the 2025 COLA is climbing.
Thanks to stubbornly high core inflation, which excludes changes in food and energy costs, the April CPI-W rose 3.4% over the last 12 months. That's well above the Federal Reserve's long-term inflation target of 2%.
In mid-January, nonpartisan senior advocacy group The Senior Citizens League (TSCL) issued a long-term COLA forecast for 2025 of just 1.4%. But following BLS inflation reports for the months of January, March, and April, TSCL's long-term 2025 COLA forecast has increased to 1.75%, 2.6%, and 2.66% (which would round to 2.7%), respectively. Based on TSCL's projections, the expected 2025 COLA has nearly doubled in four months, and is currently on track to be slightly above the two-decade average.
If TSCL's prognostication proves accurate, a 2.7% COLA in 2025 would increase benefit checks for the average retired worker by about $52 per month.
As for the average worker with disabilities and average survivor beneficiary, monthly payouts would be expected to rise by $42 and $41, respectively.
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Social Security's 2025 COLA is shaping up to be a double-edged sword for retirees
On paper, the prospect of Social Security benefits increasing by more than the two-decade average for a fourth consecutive year probably sounds great. The problem lies in how the program may achieve this feat.
As noted, the prevailing inflation rate remains above the central bank's long-term target of 2% because of consistently high core inflation. More specifically, shelter inflation -- "shelter" accounts for rental costs (including utilities), as well as the estimated cost to rent an owned home, sans utilities (i.e., owners' equivalent rent) -- came in at 5.5% on an unadjusted 12-month basis for the Consumer Price Index for All Urban Consumers (CPI-U). The CPI-U is a similar inflationary measure to the CPI-W.
Meanwhile, medical care services inflation has been steadily moving higher and is now at 2.7% over the trailing 12-month period for the CPI-U.
Why bring up shelter and medical care services when there are a number of other prominent spending categories? The answer is that a higher percentage of seniors' budgets is devoted to shelter expenses and medical care services than it is for the average working-age American. Although Social Security beneficiaries may be in line for another above-average COLA in 2025, the categories driving this increase are experiencing inflationary pressures at, or well above, the expected "raise" retirees could be receiving.
In other words, there's a very high probability that seniors will experience a loss of purchasing power, as the categories that matter most to them endure price increases at an even faster rate than the expected 2025 cost-of-living adjustment.
Retired-worker beneficiaries losing purchasing power is nothing new. A May 2023 report from TSCL notes that the purchasing power of a Social Security dollar declined by 36% between January 2000 and February 2023. Based on data from the April inflation report, the unfortunate continuation of this pattern looks to be in order.
