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Since 1975, Social Security beneficiaries have received annual cost-of-living adjustments (COLAs) tied to a subset of the consumer price index known as the CPI-W, which tracks the price of goods and services across the economy.
Here’s how it works: The CPI-W for the third quarter of the current year (the average reading between July and September) is divided by the CPI-W for the third quarter of the previous year. The percentage increase becomes the COLA next year.
Importantly, COLAs are designed to protect Social Security’s purchasing power by ensuring that benefits increase at the same rate as inflation. For example, CPI-W inflation rose 2.5% in the third quarter of last year, so Social Security payments rose 2.5% this year. This is the smallest COLA since 2021.
Unfortunately, Labor Department data released last week showed that CPI-W inflation has reaccelerated in the past three months. This trend is bad news for retired Social Security workers. Here’s why.
The cost of living adjustment (COLA) applied to Social Security payments in a given year is based on CPI-W inflation for the third quarter of the previous year. In this regard, COLAs are a reimbursement mechanism to compensate retirees for lost purchasing power benefits in the previous year.
This means that retired workers are always behind to some extent, but the problem is more serious when inflation rises. In other words, while any inflation reduces the purchasing power of benefits, Social Security loses purchasing power more quickly when inflation is trending higher. This is happening today.
Specifically, after falling to 2.2% in September 2024, CPI-W inflation reaccelerated to 2.4%, 2.6% and 2.8% in October, November and December, respectively. This means that inflation has increased every month since the COLA was calculated. One consequence is that the COLA of 2.5% in 2025 underestimated full-year CPI-W inflation of 2.9% in 2024.
That means Social Security’s purchasing power fell by four-tenths of a percentage point, which is another way of saying that the 2025 COLA wasn’t big enough. The deficit would have a small impact if it was a one-time event, but the same thing happened with the previous COLA. Specifically, CPI-W inflation increased by 3.8% in 2023, while profits increased by only 3.2% in 2024.
So the cumulative COLA over the last two years should have been 6.8%, but profits only increased by 5.8%. For context, the average retired worker received $1,905 per month in December 2023. The monthly payment would now be $2,034 if benefits increased by 6.8%, but that retiree receives only $2,015 per month today because benefits only they increased by 5.8%. The discrepancy amounts to $228 for the entire year.
