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Tuesday, October 25, 2022

Not Enough COLA

Main Takeaways:

• Even with Cost of Living Adjustment, Social Security Beneficiaries fall behind because of inflation.
• Because inflation is cumulative and continuous and COLA is once a year, beneficiaries' real payments are falling throughout the year.
• The average beneficiary actually lost almost $800 because of inflation.

Background

It should come as no surprise that many government programs that involve payments (either to or from the government) are indexed to inflation. If you pay attention when you do your taxes, the tax brackets are updated every year, as are the standard deductions, 401k contribution limits, and more. Indexing the tax code was signed into law by Ronald Reagan in 1981 and took effect in 1985. Before that, as prices rose and incomes grew to keep pace, taxpayers' effective tax rates would go up even if their real incomes stayed the same. Indexing fixed that problem.

Government payments would also be affected by inflation, but this would be more direct. In the 1970s, as inflation grew, Social Security recipients found that their checks were buying less and less. In 1975, cost of living adjustments (COLA) began being made to Social Security payments to ameliorate that problem for the nation's retirees. The first adjustment in 1975 was 8.0%. In 1980, the highest adjustment ever was made to the payments--14.3%.

In the 1980s and on, inflation ebbed and fell from prominence as an issue. In fact, there was no adjustment at all either 2009, 2010, or 2015. In fact, in 2009, the inflation rate was negative, so seniors essentially got a raise.

Now it's 2022, and inflation has returned with a vengeance. Last week, we found out just how large the adjustment would be--8.7%, the largest in more than 40 years. This will put more than $140 into retirees' pockets every month.

The White House is celebrating this historic increase.

Thanks to President Biden, Social Security checks are going up while Medicare premiums are going down.

— The White House (@WhiteHouse) October 24, 2022

While the White House is trying to take credit for a policy signed into law by his second most infamous predecessor. It also escapes him (and many voters undoubtedly), that what he's actually taking credit for is the high inflation itself.

While the White House and news outlets claim that the adjustment will put approximately $140 in the average recipient's pocket every month going forward, in fact it will actually just bring retirees back to where they were a year ago. So, yes it's an additional $140 compared to the month before, but in real terms, it's $0 more than the year before

And because this adjustment is made only once a year, since inflation is rising throughout the year, retirees in fact have fallen behind, even after including the additional $140! From January through November prices are rising for retirees yet their benefits remain the same, so they must purchase their groceries with less money. Just because the checks are adjusted in December and then onward, this does not make up for the fact that their bills have been increasing all year long.

As an illustration, imagine someone receives a monthly benefit of $1500 from Social Security. (This is not far from the actual average).

Each month, your benefit buys less and less, until December, when it is adjusted up and then the payment catches up with your costs of living, but only going forward. You're still in the hole.

In the hypothetical example above, the recipient would lose $761, in real terms, over the course of the year before SS adjusted the payment to account for inflation.

Using actual Social Security data, the average beneficiary will lose just under $800, in real terms because of 2022 inflation. As the White House tweet says: Thanks to President Biden.

Notes: For actual calculations, I used the CPI-E, a price index created exclusively to track prices for retirees. Using CPI-U would actually lead to an even higher number. I also used the average payment from December 2021. The average payment increases every month slightly due to changes in the composition of beneficiaries. Finally, for October, November, and December inflation numbers, which have not yet been reported, I used the average inflation for the most recent three months as a forecast.