Kiss your 10.1% Social Security goodbye in 2023 | Smart Change: Personal Finance

(Sean Williams)

In July, more than 48 million Americans received Social Security retirement benefits. The vast majority of these recipients — 89%, according to a poll by national pollster Gallup in April — depend on the program to make ends meet during retirement.

It’s a similar story for America’s huge workforce. When Gallup surveyed non-retirees earlier this year, a whopping 84% expected their Social Security benefits to be a “major” or “minor” source of income during their golden years.

The point is, Social Security is or will be an indispensable source of income for most Americans. That’s what makes the announcement of the annual cost of living adjustment (COLA) in the second week of October so important. This year’s announcement is slated to release on October 13 at 8:30 a.m. ET.

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What is the Social Security Cost of Living (COLA) Adjustment?

The Social Security COLA is a way for the program to recognize changes in the price of goods and services over time (i.e., inflation). Ideally, as the price of food, shelter, medical care and a number of other important goods and services rises, we should see social security checks rise to ensure that beneficiaries do not lose purchasing power over time. COLA is the “raise” passed on to the program’s more than 65 million beneficiaries that explain inflation. You’ll see “raise” in quotes to indicate that this is not a typical raise offered by an employer to help people outpace inflation.

Before 1975, there was no rhyme or reason about when cost-of-living adjustments were passed. Rather, special convention sessions that are randomly assigned increase at random intervals. But since 1975, the Consumer Price Index for Urban Wages and Employees (CPI-W) has served as Social Security’s inflationary chain.

The CPI-W is a predefined basket of goods and services with eight major spending categories and dozens and dozens of subcategories, each of which has its own respective percentage weighting. These weightings allow the CPI-W to be expressed as a neat single number, which can be easily compared to the previous year’s period to determine whether inflation or deflation (falling prices) has occurred.

Determining Social Security’s COLA involves using only third quarter (July to September) CPI-W measurements. While the other nine months of the year can help identify price trends, they won’t take Social Security’s COLA into account.

To calculate the Social Security cost of living adjustment for the coming year, compare the average CPI-W value of the third quarter (Q3) of the current year with the average CPI-W value of Q3 of the previous year. If the current year is higher, then inflation has occurred and beneficiaries are queuing up for an “increase.” The amount of the increase is the year-over-year percentage difference in the average CPI-W readings for the third quarter, rounded to the nearest tenth of a percent.

High inflation should lead to the largest annual increase in nominal benefits in history by 2023. US Inflation Rate data by YCharts.

Say goodbye to any hope of a double-digit COLA in 2023

In 2023, recipients can count on receiving their largest Social Security increase in more than four decades. It was written on the wall that this would be the case when US inflation reached 9.1% in June, also a record more than four decades.

However, the size of next year’s COLA has been declining for more than a month. Initially, Mary Johnson, a Social Security policy analyst at The Senior Citizens League (TSCL), an unbiased senior advocacy group, estimated that COLA could rise to 11.4% by 2023 if inflation data moves beyond expectations. The Bureau of Labor Statistics (BLS) July inflation report, which showed headline inflation was falling, quickly calmed this high estimate.

Following the release of August inflation data by the BLS last week, Johnson’s next high-end estimate of 10.1% COLA may also be kissed goodbye. While Wall Street was unhappy with August’s 8.3% inflation rate, it remained a two-month decline in the overall figure.

As of Johnson’s September 14 update, Social Security’s COLA now appears to be on track for an estimated 8.7% increase in 2023. For the average retired worker, who would be taking home $1,683 a month by December 2022. However, an 8.7% “raise” would equate to an additional $146 per month in 2023, or just over $1,750 more for the full year.

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Retired workers face a potential double blow

On the surface, the biggest nominal dollar increase in Social Security ever could be viewed as positive. But for the more than 48 million retired workers currently receiving benefits, the 2023 Social Security COLA is just another disappointment among many.

For starters, it’s important to recognize that a major adjustment in the cost of living is a reflection of historically high inflation. Seniors aren’t just going to take an estimated 8.7% increase in their monthly payout and live big lives. Instead, rapidly rising food, shelter and medical care costs — including projected increases in monthly Medicare Part B premiums — are much more likely to devour next year’s COLA.

Perhaps the bigger problem facing retired workers is the continued loss of purchasing power for Social Security income. According to a May report from TSCL, seniors have witnessed the purchasing power of a Social Security dollar increase by 40% since the early 2000s.

The culprit behind this ongoing loss of purchasing power? The CPI-W.

As the official name of the CPI-W implies, it tracks the spending patterns of “urban wage earners and white-collar workers.” These are mostly working-age Americans who do not receive Social Security benefits. More importantly, they spend their money very differently than the seniors who make up the bulk of Social Security’s more than 65 million beneficiaries. The end result is that major expenses, such as shelter and medical care, are underweight in the COLA calculation, while minor expenses, such as clothing and education, are given extra emphasis.

Because there is no clear path to solving the COLA Social Security dilemma, retired workers can expect the purchasing power of their Social Security income to continue to decline over time.

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