Each and every month, more than 63 million eligible Americans count on receiving a Social Security benefit check. Most of these folks are retired workers, with better than 3 out of 5 relying on their monthly check to account for at least half of their income.
Perhaps, then, it’s no surprise that the single most important announcement made by the Social Security Administration each October is what the upcoming year’s cost-of-living adjustment (COLA) will amount to.
Social Security’s COLA calculation comes with a catch
In simple terms, COLA is Social Security’s means of accounting for the inflation that its 63 million-plus program recipients face throughout the year.
Prior to 1975, increases to Social Security payouts had to be passed by special sessions of Congress. This led to long periods of time where benefits remained static. For instance, no payout increases were passed during the entire 1940s! But since 1975, Social Security’s COLA has been tethered to the Consumer Price Index for Urban Wage Earnings and Clerical Workers, or CPI-W, allowing for annual inflationary increases.
Like most Bureau of Labor Statistics (BLS) price measurements, the CPI-W has a handful of major spending categories and dozens upon dozens of subcategories, each with their own respective weighting. Shelter, for example, makes up almost a third of the total CPI-W weighting, with all things energy (electricity, gasoline, and fuel oil) comprising closer to an 8% weighting. As the price of these goods and services changes throughout the year, it’s the BLS’ job to measure this change and report it in an easy-to-understand number, which we know as the CPI-W.
But there’s a catch to Social Security’s COLA calculation: Only three months out of the year actually matter.
Even though the BLS releases CPI-W data for every month of the year, Social Security’s COLA calculation only examines readings from the third quarter (July through September). The average CPI-W reading from the previous year acts as the baseline figure, while the average CPI-W reading from the current year is the comparison. If the average reading has risen from the previous year, it means beneficiaries will be getting a raise in the following year that’s commensurate with the year-over-year percentage increase (rounded to the nearest 0.1%). In the rare event that prices decline year over year (known as deflation), benefits will remain static from one year to the next. This has happened only three times since 1975 (2010, 2011, and 2016).
In other words, we’re currently in the first of three months that actually matter to determine Social Security’s 2020 COLA.
Timing is everything
But there’s something else unique about utilizing price data from the third quarter: It tends to be impacted by the weather.
The third quarter of the year tends to be the height of hurricane season, with most storms thankfully staying out to sea and away from land. But this past week, Barry, the second-named storm of the 2019 hurricane season, made its presence felt in the Gulf of Mexico.
According to CNBC, as of July 12, the energy industry had shut down 59% of oil production in the Gulf of Mexico (about 1.1 million barrels of oil per day), along with 49% of natural gas production, in preparation for Barry. A single refinery, capable of 253,600 barrels of oil production per day, had also shut down, while many others remained open but were operating at a reduced capacity. Though 10 refineries in New Orleans and the three in Lake Charles, Louisiana, remained open, they were also subject to flooding concerns.
Why’s this important, you ask?
In 2018, Social Security’s COLA rose 2% but was actually estimated at closer to 1.5% through about mid-August 2017. That changed when Hurricanes Harvey and Irma ravaged the energy industry in the U.S. at the end of August and early September, shooting gasoline and fuel oil prices higher by a double-digit percentage on a year-over-year basis, and having a tangible lift on the CPI-W. Even though energy is a far smaller weighting in the CPI-W than shelter, it had a significant impact on lifting Social Security’s COLA for 2018. My personal suspicion is that Barry could have a similar effect, albeit to a smaller extent than Harvey or Irma.
It’s a terrible irony, but hurricanes tend to be a positive for energy inflation, which in turn is good for Social Security’s COLA.
You’re not going to “get ahead”
But even if Barry winds up having a positive effect on energy inflation and Social Security’s COLA calculation, it’s important for Social Security benefit recipients to understand that this doesn’t mean they’re “getting ahead” of, or even necessarily keeping up with, the existing inflation rate.
Though COLA is designed to be an accurate measure of the inflationary pressures all of its recipients are contending with, it generally does a poor job of this. That’s because the CPI-W, as its name implies, is focused on the spending habits of urban and clerical workers, many of whom are of working age and aren’t receiving a Social Security benefit. Comparatively, 70% of Social Security recipients are retired workers. Urban and clerical workers spend their money very differently than seniors, meaning the most important spending categories, such as housing and medical care, are underweighted, while lesser important categories for seniors, such as apparel, transportation, and education, take more precedence.
According to an analysis from The Senior Citizens League, the purchasing power of Social Security dollars for retired workers has been cut by a third since 2000, all because the CPI-W does a poor job of accurately calculating the inflationary pressures that seniors are facing.
So, yes, Social Security’s 2020 COLA could get a lift from Barry and the 2019 hurricane season. However, that doesn’t mean retired workers will necessarily be any better off when receiving their raise come January 2020.
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