October is when we learn the percentage increase in the annual cost of living adjustment (COLA) impacting the monthly annuity payments for federal retirees and Social Security payments. Retired federal employees receiving annuity payments are naturally curious about how this annual increase will impact their annual income. How is the August 2023 inflation data likely to impact the 2024 COLA? 

The COLA is calculated based on inflation during the third quarter — July, August, and September as measured by the CPI-W (Consumer Price Index for Urban Wage Earners and Clerical Workers). Inflation for those three months is added together, and then an average is calculated. This average is compared with the third quarter average from one year ago. The percentage difference between these two data points is the amount of the COLA, which would be payable in checks received in January 2024. The COLA for 2024 will be around 3.2%, based on the latest available estimate from the Senior Citizens League. Based on the August inflation data released by the Bureau of Labor Statistics (BLS), inflation went up again, impacting the 2024 COLA payment when it is calculated.

In August, the CPI-W increased 3.4% over the last 12 months to an index level of 301.551. For the month, the index increased 0.6%. The CPI-W figure for August 2023 was about 3.58% higher than the average CPI-W for the third quarter of 2022, which was 291.901. Last year, federal retirees received an 8.7% increase for Civil Service Retirement System (CSRS) annuities and Social Security benefits and a 7.7% increase for Federal Employees Retirement System (FERS) annuities.

The COLA for 2024 will be calculated in October and reflected in January 2024 payments. The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) is a variation of the consumer price index, as compiled by the Bureau of Labor Statistics (BLS). The CPI-W is calculated using average costs for more than 200 items, including food, beverages, housing, transportation, and other common household goods. 

This differs from the Consumer Price Index for All Urban Consumers (CPI-U). When hearing about inflation in the news, the data are typically based on the CPI-U and not the index used for calculating the annual COLA. For the latest month, the CPI-U rose 0.6% in August after increasing 0.2% in July. For the past 12 months, this index rose 3.7%. The CPI-W went up 3.4% over the last 12 months.

While the CPI-W and CPI-U measure the average change over time in the prices paid by urban consumers for a basket of consumer goods and services, their target population is different. CPI-W targets urban wage earners and clerical workers, while CPI-U covers all urban consumers regardless of their occupation or income level. The CPI-U represents approximately 93% of the U.S. population not living in remote rural areas. The CPI-W represents about 29% of the U.S. population.

The CPI-E uses the same formulas and prices as the CPI-W, but their importance is determined, or weighted, differently by BLS. This sample size is about one-third the size used for the CPI-U. This means there can be a larger sampling error. This is one reason the CPI-E is still considered “experimental.”  The CPI-E was created in 1988 but is considered by BLS to be an experiment. It is not used by the federal government to adjust retirement benefits. According to one report, the difference in using the CPI-E would amount to about 0.2% per year in benefits.

The reality is that changing the calculations for determining the annual COLA for millions of retirees benefiting from this process is complex and could prove to be expensive. As the federal government is already drowning in debt and running trillion-dollar deficits, adding to federal expenditures in a significant way will create problems and political conflict.

According to the National Active and Retired Federal Employees Association (NARFE):

[R]etirees lose purchasing power due to underestimated inflation. The CPI-W tracks the spending habits of the urban workforce, thus inadequately assessing the differences in costs for the goods and services seniors frequently purchase. For example, medical care costs for seniors are double the rate of the general population.