Why Seniors Should Embrace Higher Oil Prices

After no Social Security COLA for two years, conditions are right for repeat of 2008’s big boost.

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The pain of higher prices at the pump could be eased greatly for seniors if it also helps deliver a hefty annual cost-of-living adjustment (COLA) for Social Security benefits in 2012.

In 2008, a big summer jump in fuel prices led to a third-quarter hike in consumer prices. Social Security uses third-quarter prices to set the following year's COLA, and the summer spike in oil prices also fueled a 5.8 percent COLA for 2009, the largest one-year rise in more than 25 years.

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Even after energy prices subsided, that COLA was still in place. In fact, it is widely cited as a main reason seniors were able to weather the recession as well as they did. The poverty rate among people age 65 and up actually fell in 2009, while it rose for all other age groups.

In fact, consumer prices jumped so much in the summer of 2008 that they remained higher than the third-quarter averages in both 2009 and 2010. Because inflation had not risen in those years, there was no Social Security COLA for either 2010 or 2011.

[See Zero Social Security COLA Again for 2011.]

Heading into this year's summer driving season, we're already in the midst of a major gasoline-price gusher, driven by Middle East instability, a weak U.S. dollar, and rising economic growth outside the United States. In some markets, the $5-a-gallon "barrier" has already been topped, and many forecasters expect gasoline prices to flirt with $6 a gallon this summer.

So, how big of a COLA bump might we see? Social Security bases the COLA on a version of the Consumer Price Index that is designed to measure prices for working people. It's produced by the U.S. Bureau of Labor Statistics (BLS) and is called the CPI for Urban Wage Earners and Clerical Workers, or the CPI-W.

Social Security rules say that for a COLA to be applied, prices as measured by the CPI-W during the third quarter of the year must be higher than the average CPI-W for the third quarter of the last year that produced a COLA. So, this means going back to the CPI-W average for the third quarter of 2008.

The CPI-W average for that period in 2008 was 215.495, an index reading that is measured from a base of 100 for average prices in the 1982-84 period. Two years later, in the third quarter of 2010, the CPI-W average was still only 214.136.

[See Social Security COLA Doesn't Match Inflation.]

Rising energy and food prices had, by last month, driven the CPI-W to a level of 220.024. According to a BLS statistician, energy prices represent a big chunk of the CPI-W—nearly 11 percent. This includes the retail prices of all energy products—electricity, heating oil, and propane, as well as gasoline. But rising gasoline prices clearly can drive up the CPI-W all by themselves.

If the CPI-W keeps increasing, an average for this year's third quarter of 225 or even 230 is not a far reach. If the average hit 225, for example, the 2012 Social Security COLA would be 4.4 percent. If it averaged 230, which would be less likely, the 2012 COLA would be a whopping 6.7 percent.

A sizable increase in the COLA is not all good news for seniors. The COLA is also used to peg basic Medicare premiums for existing beneficiaries. They've been frozen for the past two years as well, and would begin rising again if the COLA increases.

Twitter: @PhilMoeller