Social Security and the Inflation Conundrum

Under current law, Social Security beneficiaries receive an annual cost of living adjustment (COLA) to their payments based upon the current inflation rate. For 2017, recipient payments will increase 0.3% based upon the inflation rate as measured by the Consumer Price Index (CPI). This translates into an average payment increase of $5 per month for each beneficiary.

Any increase is better than nothing, but does anyone realistically believe a $5 per month increase will cover the increased cost of living a retiree will likely experience next year?

According to some estimates, the real cost of inflation for retirees is closer to 2%. The difference is the cost of things seniors typically buy are rising more rapidly than the average cost of all goods and services. For example, medical costs continue to rise while the cost of consumer electronics is declining (think of the cost of a big-screen tv today vs. 10 years ago). Are seniors more likely to incur medical expenses or purchase more consumer electronics?

Although seniors may need or deserve a larger COLA, there is long-term problem with higher annual increases. The higher inflation rate, the sooner Social Security will become insolvent. Social Security paid $743 billion to retirees in Fiscal 2015. A 0.3% increase translates into an extra $2.2 billion in payments for Fiscal 2016; not accounting for any increase in the number of beneficiaries. A 2% increase would cost an additional $14.8 billion. An extra $12.6 billion may not seem like a lot, but the compound effect of a 1.7% increase over 10 years would be an extra $750 billion. 

Under the current projections, Social Security is expected to become insolvent in 2035. The higher the annual COLA, the sooner this will occur. Consequently, what may be good for seniors in the short-term may be bad for them in the long run.

Determining the inflation rate for Social Security payments presents a conundrum. Do we continue with the current basis for adjusting Social Security payments, or should we increase the Social Security COLA to a more realistic rate, knowing it exacerbate the long-term solvency problem?