The cost of living adjustment (COLA) for Social Security recipients and federal retirees has averaged about 1% since 2012. This includes Social Security and federal retirees not receiving any increase in 2016.
The Social Security Administration will not make its official announcement about the 2018 COLA until mid-October, and the final figure will go into effect in January 2018. The annual COLA increase, if any, is determined by an arcane formula based on data from the Bureau of Labor Statistics. Statisticians and economic prognosticators can, and are, making educated guesses about the amount of next year’s COLA increase.
As we reported earlier, based on Consumer Price Index (CPI) data through April of 2017, the Senior Citizens League (TSCL) estimates that the Social Security COLA for 2018 will be about 2.1% as reported in Investment News. Keep in mind that the actual figure will vary depending on what the inflation data reflect prior to October 2017.
Now, with the figures for the latest month in from the Bureau of Labor Statistics, the latest inflation figure shows the COLA is inching up toward that earlier 2.1% estimate. The monthly change in the CPI for May was 0.07. So, as of May, the amount toward a 2018 COLA increase is 1.51. It was 1.44% as of April so the figure is continuing to edge higher.
Former federal employees who are now retired are undoubtedly feeling the pinch of inflation on items that older American generally purchase but are not counted heavily in the way that older Americans actually use these products and services. As an example, younger people generally do not have the same medical expenses as older Americans. Older Americans are not spending heavily on education expenses. The current CPI does not reflect realities such as these examples.
Organizations such as the National Association of Active and Retired Federal Employees (NARFE) advocate switching to the Consumer Price Index for the Elderly (CPI-E). This change would result in higher COLAs. The organization and other employee interest groups also oppose changing to the Chained CPI, which would result in lower COLAs.
A “Chained CPI” pops up frequently as discussions about how to start reducing America’s massive national debt which is now about $20 trillion dollars.
What is the “Chained CPI”?
While the consumer price index deals with the rise and fall of expenses for fixed items, a “chained CPI” would also consider choices people may make as a result of behavioral changes. For example, if the price of beef goes up, many people will buy chicken instead because it may be a substitute that costs less. Also, when the price of a product goes up, people will probably buy less of that product.
The chain weighted CPI would incorporate changes in both the quantities and prices of products. The result is that when calculating costs for multi-billion dollar programs like Social Security and the federal retirement system, a chained CPI would result in smaller benefit increases over time and require less federal spending as a result. That is why this option is frequently a topic of discussion with regard to deciding how to reduce or eliminate the federal government’s annual budget deficits.
A switch to the chained CPI is often considered a more accurate measure of inflation but such a system system will not as accurately reflect increased costs for older Americans. As a summary of one legislative proposal noted in an earlier budget proposal, “Since the chained CPI grows more slowly than the traditional CPIs, benefits and eligibility thresholds would grow more slowly, resulting in lower spending.”
Eliminating the COLA
Of more immediate concern for federal retirees, the 2018 budget proposal calls for eliminating COLAs for current and future federal retirees under the Federal Employees Retirement System (FERS). For retired federal employees under the Civil Service Retirement System (CSRS), COLAs, the budget, if it were enacted, would reduce CSRS COLAs by 0.5%. Eliminating COLAs is projected to save $524 million in FY 2018.
Here is an explanation of the rationale underlying the elimination of annual COLAs for some federal retirees:
The employee retirement landscape continues to evolve as private companies are providing less compensation in the form of retirement benefits. The shift away from defined benefit programs and cost of living adjustments for annuitants is part of that evolution. By comparison, the Federal Government continues to offer a very generous package of retirement benefits. Consistent with the goal to bring Federal retirement benefits more in line with the private sector, adjustments to reduce the long-term costs associated with these benefits are included in this proposal.
High Three Calculation vs. a High Five Calculation for Retirement Annuities
The 2018 budget proposal again raises moving from a high-3 to a high-5 system for computation of retirement benefits and eliminating the supplement for FERS employees who retire before they reach Social Security eligibility at 62. The current supplement is roughly equal to the value of Social Security benefits for those retiring before turning 62.
Outlook for 2018
With inflation starting to creep up, there is a good chance that the 2018 COLA will be 2% or a little higher.
Underlying the concern about the national debt, higher inflation will lead to a larger percentage of the federal budget being spent on interest for the huge amount of money that is being borrowed. If the annual budget deficits continue to be the same or go higher while interest rates also go higher, the pressure to reduce government spending will also increase. This could mean that proposals made but not enacted in previous years will be given more serious consideration when the government has to confront the results of huge federal deficits that have continued for a number of years.
It is unlikely that a chained CPI will go into effect in the near future. It is also unlikely that the CPI-E will start being used to provide higher annual COLA’s for Social Security recipients and federal retirees.
It is a possibility that the amount federal employees contribute to future retirement pensions will increase. The Congressional Budget Office (CBO) concluded in a recent report that federal employee benefits are 52 percent higher for federal employees than private sector employees. That report has been the basis for a hearing in the House which had two purposes:
- To discuss the recent Congressional Budget Office (CBO) report comparing federal compensation to that of the private sector.
- To identify potential areas for improvement and modernization in the current federal compensation system.
It is not possible to predict what changes will occur for current or future federal retirees in this year’s budget negotiations or related legislation. There is no basis for panic, but there is reason to pay attention to changes that may impact retirees’ financial future. Proposals for significant changes are usually altered during the legislative process and often current employees are not impacted when changes are made.
In a country with the significant political and cultural disputes dominating daily headlines and social media, and our political system embroiled in disputes about the policies and spending of the federal government, accurate predictions and financial planning will be challenging for those planning for retirement.