Retirement & Financial Planning Report

One long-considered change to the way inflation adjustments would slightly increase COLAs for federal retirement, Social Security and other major benefits programs while another would decrease it by a bit less, the Government Accountability Office has said.

GAO’s assessment is largely in line with studies done previously by the Congressional Budget Office into changing from the current methodology, which is based on 12-month changes to an inflation index called the CPI-W, the consumer price index for urban wage earners and clerical workers.

“Some economists have argued that the CPI-W may overestimate the true cost of living in general because individuals can partially offset the effect of relative price increases by purchasing different goods and services. Other economists have argued that it may underestimate the true cost of living for retirees by misrepresenting the goods and services that older Americans consume,” the report said.

The CPI-W has been criticized as overstating increases in the cost of living because it does not take into account changes in consumer behavior as prices fluctuate for interchangeable items—the classic example being to buy more chicken and less beef if the price of beef rises. They support using an alternate index called the chained CPI-U, which does account for those changes.

In contrast, those who take say the current measure understates the true costs experienced by beneficiaries of retirement programs advocate using the CPI-E, the CPI for the elderly, which takes into account the different spending patterns of those age 62 and older by shifting the statistical weights for certain expenditures such as medical care and shelter.

The GAO estimated the effects of both changes over a 30-year period, looking back to actual experience for 15 years and projecting ahead 15 years using historic and projected inflation data. It concluded that using the CPI-U would decrease COLAs by about 1/4 of a percentage point per year, which would result in benefits being increased by about 7 percent less by 2033 than they would have been increased otherwise.

Using the CPI-E would result in the opposite effect, but to a lesser degree, it said: an increase of about 1/7 of a percentage point per year, a cumulative additional increase of about 4 percent in that time over the increase under the current method.

While the former change would decrease costs to the government of indexed benefits programs and the latter would increase them, making any change would incur additional costs up-front, GAO added. That is especially the case with the CPI-E, it said, because the Labor Department considers it an experimental measure—even though it has been in existence for 30 years—and a several-year effort to refine it would be needed before it would be considered valid for setting COLAs.