The monthly Social Security benefit you start out collecting isn't necessarily the same benefit you'll receive for the rest of your life. That's because benefits are subject to annual cost-of-living adjustments, or COLAs.
The purpose of COLAs is to help seniors on Social Security maintain their buying power as inflation drives living costs up. Over time, living costs tend to rise naturally. If Social Security benefits were to stay the same forever, seniors would no doubt be at a huge disadvantage. But since some seniors collect Social Security for 30 years or longer, it's only fair to boost them in a manner that aligns with rises in living costs.
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But while Social Security is supposed to protect seniors from inflation, in reality, it often falls short. And that's why retiring on those benefits alone is a truly dangerous idea.
A major shortcoming
These days, workers and retirees alike are grappling with intense levels of inflation. Most recently, the Consumer Price Index, which measures changes in the cost of consumer goods, rose 9.1% on an annual basis. That's a considerably higher reading than normal.
But even during periods of more moderate inflation, living costs still tend to rise, and that's why Social Security COLAs were implemented. The problem with those COLAs, though, is that they often fail to actually match the pace of inflation because they're based on a limited data set.
Each year, the Social Security Administration announces the following year's COLA in October after aggregating third-quarter inflation data. At that point, seniors get a single raise for the upcoming year -- a raise that doesn't account for ongoing inflation.
In 2022, Social Security benefits rose 5.9%. But seeing as how inflation was just measured at 9.1%, it means that that raise is already causing seniors to fall behind financially.
In fact, the Senior Citizens League estimates that Social Security beneficiaries have lost 40% of their buying power over the past 22 years. And much of that boils down to the fact that COLAs have not been generous enough.
Don't rely on Social Security alone
Seniors who are already retired and heavily reliant on Social Security may not have many options for generating income at this point. But those who are still working have a prime opportunity to build savings to supplement those benefits.
It's those savings that could really spell the difference between being cash-strapped in retirement or not. While Social Security has a tendency to lag behind inflation, those who invest their savings wisely have the potential to outpace it. And ultimately, seniors who bring savings with them into retirement are likely to fare better during periods like this, when inflation is soaring and Social Security benefits can only go so far.
Meanwhile, some advocates are pushing for changes to the way Social Security COLAs are calculated so that senior-specific costs are better taken into account. That could help solve the issue of beneficiaries losing buying power. But for now, lawmakers don't seem to be in a rush to change the method of calculating COLAs, which is all the more reason for workers today to focus on building and boosting their retirement savings.
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