Down to Wire for Social Security Cost-of-Living Adjustment

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm here with Bob Johnson, our director of economic analysis. We're going to look at some recent inflation data and what it could mean for the Social Security cost-of-living adjustment.

Bob, thanks for joining me.

Bob Johnson: It's great to be here today.

Glaser: So, before we get to the Social Security angle, let's take a look at this most recent CPI report. It shows that inflation remains pretty tame.

Johnson: Yeah. On a month-to-month basis, we were flat, which is just about in line with what everybody was thinking and certainly, lower gasoline prices in the month were a big help in the calculation. But overall, month-to-month there was no inflation.

Now, we step back and look even year-over-year, we were about 1% year-over-year on the headline basis. That's everything. And that's certainly a very tame number. It's been about the same number since February. So, it's kind of a six-month streak that we're looking at where there really hasn't been much change in that headline number.

Glaser: Some of the weakness in energy, not a new story, but you see that some of the weakness in food prices actually is something that's a bit surprising.

Johnson: That is the one new thing and the one thing that really jumped out at us in the report--and it's been building for a little bit of time here, but it's still a surprise to see it again--is that food at home, that is, things we buy at grocery stores, were down about 1.6% year-over-year. So that's one of the larger declines that we've seen in that category. Month-to-month it was still down a couple of tenths of a percent, too. So it's kind of an ongoing trend. And again, recall that we've had a few years where we had prices go up, up, up because we had this crop shortage a few years ago and that made beef and pork and other prices go down temporarily and then go through the moon, and now we're kind of working through that all in reverse. Grain prices started coming down a couple of years ago but now a lot of the meat prices are down, some of as much as 5% to 6% year-over-year, and so that's bringing the data down a little bit right now, which is a real change from what we've usually seen.

Glaser: One other trend you've been tracking is goods and potential good deflation. Is that still the case?

Johnson: Absolutely. And that's one that hasn't changed much year-over-year in that kind of category. It's about 20% of the CPI calculation and that's kind of goods. And one of the interesting things in that set of numbers is that a lot of it gets the strong dollar help or whatever and that's what everybody says. This time around the number was really helped along by used car sales, and that data showed kind of a 2% to 3% year-over-year decline in used car prices. We now have all these cars coming off lease and so forth. We've had this big run in new car sales. Now all those cars are maturing and coming off, and so we've really put some pressure on that category and that's a big thing holding back the goods category right now. And even new car sales, they usually grow a little bit, didn't grow at all. And again, as we've had this supply of used cars that are more reasonably priced, dealers have had to be more aggressive in their pricing and they haven't quite seen the sales where they want to be, and so there was no inflation in new car prices either. So that's really what's hurt the overall goods index right now. Not so much the foreign and the strong dollar story, which was really the story probably three or four months ago.

Glaser: Now, when you look at some other components, so things like rent, any changes there?

Johnson: Yeah. That was one of the really good pieces of news in the report. The one thing is that it was just a month, but at least we've seen the cost of shelter go down from 0.3% in a month to 0.2% and the year-over-year rate stabilized in the 3% range. So, thank goodness, a little rest there. We had thought maybe it would come a little sooner in the year with all the new apartment buildings opening up. But it looks like now we've had our first month, this is our first break, let's see if it continues.

Glaser: And how about healthcare?

Johnson: Healthcare was one of the real disasters in the report. Clearly, on a year-over-year basis, whether you're looking at commodities, namely drugs, or if you're looking at doctor services or if you're looking at hospitals, all growing on a year-over-year basis 3% to 4%. Remember the headline number is about 1% and even core is about 2% and you've got healthcare running mid-3% to 4%. So, clearly, an issue. We'll have to see if it's kind of seasonal timing, but it certainly seems to suggest a problem.

Glaser: Healthcare is certainly a big worry of retirees and last year getting no adjustment from Social Security kind of compounded that worry. Looking at next year's adjustment, do you think that we're in an environment where we're going to see zero again?

Johnson: It's going to be real tight. Let me tell you some of the reasons behind it. They use a slightly different index. We always talk about the CPI, which is CPI-U. There is actually another component, which is called W of the CPI, and that's what they do the Social Security on. And usually, what they do is they take the three months, July, August, and September, of the current year and compare them to the prior year and then that changes your payment starting in January. So, that's how it's usually done.

This year because there was an increase last year, they are going to go all the way back to 2014 and see what the July, August, September looked like then. And so, that's a little bit bigger barrier to jump over. So, you might think, we've kind of talked about that 1% headline inflation and that means we'd be in the bag. But when you actually take it back to 2014 and do the W instead of the U, it looks more like 0.3%. At least, I think it's going to be a positive number. August and September were real low inflation months a year ago. So we'll have to see.

Glaser: So, relatively small adjustment likely coming for retirees. Current workers though might see a bigger chunk of their paychecks though going into the trust funds?

Johnson: Yes, absolutely. One of the unusual things is that each year that maximum wage base, which is about $118,000 right now and it was the same in 2015, that's usually adjusted by the average wage growth, not by the CPI. But there is one little hook in that and that is, if the CPI doesn't go up then they don't make the wage adjustment. But when we trip back into having that adjustment, where we get a CPI adjustment, then that means you play catch-up. So we'll get the kind of 4% wage growth that we normally get, which we should have gotten last year, plus the 4% for this year. So that wage base growth could be about 8%. We could end up in the mid-120s for that wage cap. So, again, not necessarily great news, especially for high-end earners.

Glaser: Bob, I know, a lot of people will be carefully watching these next couple of reports to get that final number.

Johnson: Yes.

Glaser: Well, thanks, as always, for sharing your thoughts.

Johnson: Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.