The August inflation rate is now in. It is the second of the three months for computing the 2025 COLA. Federal employees and retirees (or soon-to-be retirees) often wonder what their income will be in 2025.
The 2025 federal employee pay raise will likely average about 2% (including locality pay). This is the amount for the raise articulated in President Biden’s alternative pay plan letter issued on August 30th. That is an average, and employees in some areas, such as San Francisco, Seattle, and Washington, DC, will likely get a higher pay raise than the rest of the country.
Average Federal Salary $106,663
According to the Office of Personnel Management, at the end of February, the average pay for federal employees was $106,663, and the average for federal employees in Washington, DC, was $144,209.
This average will likely increase by the end of the year as within-grade increases and promotions result in an average federal salary increasing more than the pay raise percentage.
The Senior Citizens League’s latest estimate on the 2025 COLA was 2.57% which was released after the July inflation data was reported. The Bureau of Labor Statistics will calculate the September inflation rate next month, and we will know the final COLA figure at that time.
The COLA will likely be slightly higher than the pay raise for current federal employees in 2025. As indicated by the August inflation data, it now seems likely the 2025 COLA will be a little less than the 2.57% estimate.
A COLA that is higher than the pay raise is not unusual. Over the last five years, the COLA average has been higher than the pay raise.
While readers’ comments indicate dissatisfaction with the pay raise and the likely amount of the COLA for next year, the federal government is having a spending crisis.
August Inflation Data
The labor market’s weakness made investors anxious before the latest inflation figures were released. The general consensus was that lower inflation would provide more clues about what the Federal Reserve would do with interest rates next week. Lowering the interest rate may help the job market and also boost for the stock market.
The inflation rate has been slowing but trending in the right direction. This may allow the Federal Reserve to focus on the labor market and possibly lower interest rates for the first time in four years.
The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.2% in August, the same as in July. Over the last 12 months, the all-items index increased 2.5%. This is the lowest it has been in three years.
The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) increased 2.4% over the last 12 months to an index level of 308.640. This is 2.45% higher than the average CPI-W for the third quarter of 2023. This is relevant because the annual COLA is calculated by comparing the change in the CPI-W based on the average of the third-quarter months of July, August, and September.
Here is how the COLA calculation works:
- CPI-W readings are taken from the third quarter (July – September).
- These data are compared to the average CPI-W reading from the previous year’s third quarter.
- The average reading from the current year’s third quarter (2024) is compared to the figure from the third quarter of 2023.
- If the average CPI-W reading goes up in 2024, then the difference, rounded to the nearest 0.1%, is what beneficiaries will receive as an increase in 2025.
- If the figure is lower— indicating deflation—no adjustment is made. That happened several times under the Obama administration.
A problem with the latest inflation data is “core inflation”.
Core inflation measures prices after removing food and energy costs. Food and energy are more volatile than other tracked prices. This data is called the core rate. In August, the core rate was 0.3%, matching the biggest increase in five months.
The Fed views the core rate as a better predictor of future inflation since food and energy prices can bounce up and down in the short run. The 12-month increase in the core rate remained at 3.2%.
Inflation and the Federal Budget
The Federal Reserve’s short-term rate is near its highest level in two decades. While this can (and probably has) reduced the inflation rate, it has raised the cost of borrowing money. Wages have generally not kept up with the inflation rate, so many Americans feel strapped as expenses have increased much faster than wages.
Inflation is also impacting federal government spending. The United States is headed for a two-trillion-dollar deficit for fiscal year 2024. This deficit is coming despite record revenue for the government. According to the Wall Street Journal, “…revenues in the first 11 months of fiscal 2024 were running 11% above a year ago. Total receipts were $4.4 trillion, including $2.2 trillion in individual income taxes (up 11%), $1.6 trillion in payroll taxes (up 6%), and $420 billion in corporate income taxes (up 29%).”
Interest on the public debt is up 35%, due in part to higher interest rates. This $870 billion, spent on interest payments, is more than the American military’s $753 billion budget. While defense spending was up 7%, that may not be enough to counter growing threats against the country.
Social Security trustees project a 21% benefit cut is coming in 2033. While everyone may want a higher pay raise and higher government benefits, the money is not there. We cannot say we have not been warned.
What Will the Federal Reserve Do Now?
Based on the latest inflation data, the Federal Reserve is likely to start lowering interest rates. Those making the decision do not want to send the economy into a recession, and they also want to lower inflation. That is a tight line to follow.
The increase in the core inflation rate may lead to the Federal Reserve approving a small reduction in the interest rate rather a larger percentage some analysts were projecting.
