As the summer heat reaches its peak in August every year, speculation begins to heat up regarding what the annual Cost of Living Adjustment (COLA) federal annuitants will receive for the upcoming year will be. The announcement is made by the U.S. Bureau of Labor Statistics (BLS) every October. The annual adjustment impacts both CSRS and FERS (over age 62) annuitants as well as anyone currently receiving social security benefits. For 2020, the COLA was 1.6 percent, following a 2.8 increase for 2019. Early indications are that the COLA for 2020 may be zero percent. This is of course bad news for the millions of Federal retirees who rely on pension and social security income as their primary income source.
The COLA is intended to help those living on a fixed income keep up with inflation over time. Historically the COLA is tied to the Consumer Price Index for Urban Wage Earners and Clerical Workers, or CPI-W for short. CPI-W represents a subset of the Consumer Price Index for All Urban Consumers, or CPI-U. CPI-U intends to capture the overall inflation rate in the U.S. Currently, there is a growing discussion around whether or not CPI-W is the best index to represent the actual inflation experience of retirees.
Just this past June, The Government Accounting Office (GAO) released a report suggesting that the “BLS has not evaluated the extent to which its existing data are adequate to produce CPI’s that reflect what these subpopulations pay, where they shop, and what they purchase.” (GAO Report to Congressional Requestors- Retirement Security, June 2020). It has been 40 years since the BLS last reviewed the accuracy of the of the data used in compiling the index. The report indicates that officials at BLS cite budgetary reasons for not having evaluated the extent to which its data accurately reflect current experience, but have agreed to “explore cost-efficient ways to evaluate the data currently used….”
One suggestion to address the potential disconnect has been to use the CPI-E index rather than the CPI-W. The CPI-E calculates a hypothetical index for Americans aged 62 and older and was developed as part of the Older Americans Act of 1987. The index has always been considered experimental and has not been used to adjust benefits. However, the index has yielded annual inflation rates about .2 percentage points higher than the CPI-U according to the GAO report. The BLS notes that due to limitations inherent in methodology any conclusions drawn from the data should be used with caution. Further, any change to the index would require legislation from Congress. It is fair to say that Congress has their hands full just managing the current state of the country these days and therefore any movement on this issue is unlikely in the near future. However, experience shows that many retirees are struggling to keep up with inflation over the long term as longevity risk continues to become more important in financial planning for retirees. As the country continues to age, finding the best way to accurately reflect their experience can only be prolonged for so long.
As for this upcoming year, if the COLA is in fact zero, we can point to the virus as a reason. While food prices have increased during the first 6 months of the year, the dramatic drop in gasoline usage due to shutdowns and less travel is counteracting other price increases.
*We will keep you posted as the story unfolds. Inflation is a real challenge to retirement security and we will do our best to make you aware of the latest theories and strategies as they develop.
**Written by Jennifer Meyer, Financial Planner. The information has been obtained from sources considered reliable but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Jennifer Meyer and not necessarily those of RJFS or Raymond James. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Investing involves risk and you may incur a profit or loss regardless of strategy suggested. Every investor’s situation is unique and you should consider your investment goals, risk tolerance, and time horizon before making any investment or financial decision. Prior to making an investment decision, please consult with your financial advisor about your individual situation. While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.**