Cost of living adjustment

The cost of living is the cost of maintaining a certain standard of living for an individual or a household. Changes in the cost of living over time can be measured in a cost-of-living index. Cost of living calculations are also used to compare the cost of maintaining a certain standard of living in different geographic areas. Differences in the cost of living between locations can be measured in terms of purchasing power parity rates. A sharp rise in the cost of living can trigger a cost of living crisis, where purchasing power is lost and, for some people, their previous lifestyle is no longer affordable.

The link between income and health is well-established. People who are facing poverty are less likely to seek regular and professional medical advice, receive dental care, or resolve health issues. The cost of prescription medicine is often cited as a metric in cost of living research and consumer price indices. Cost of living pressures may lead to household energy insecurity or fuel poverty as well as housing stress.As the cost of living steadily increases, the amount of household income necessary for a financially comfortable life subsequently increases, thus resulting in the number of people who do possess the privilege of a comfortable financial situation decreasing over time
Said privileges of financial comfort become more exclusive to higher classes
as the cost of living becomes difficult to afford for more and more people.

Definition

Cost of living is the cost of maintaining a certain standard of living. Changes in the cost of living over time can be operationalized in a cost-of-living index. Cost of living calculations can be used to compare the cost of maintaining a certain standard of living in different geographic areas. Differences in cost of living between locations can be measured in terms of purchasing power parity rates.

Major components of the cost of living include food, housing costs and energy. Energy costs include heating, light and cooking costs. In the United Kingdom, about 18% of an average home's energy costs relate to the cost of heating water.

Cost-of-living adjustment (COLA)

Employment contracts and pension benefits can be tied to a cost-of-living index, typically to the consumer price index (CPI). Another statistical measure, COLA, adjusts salaries based on changes in a cost-of-living index. Salaries are typically adjusted annually. They may also be tied to a cost-of-living index that varies by geographic location if the employee moves. In this latter case, the expatriate employee will likely see only the discretionary income part of their salary indexed by a differential CPI between the new and old employment locations, leaving the non-discretionary part of the salary (e.g., mortgage payments, insurance, car payments) unmodified. Som
examples of cost-of-living adjustments
made recently are a 3.2% increase in Social Security benefits and an increase in the maximum annual contribution limit to traditional and Roth IRA's from $22,500 to $23,000, both of which were implemented in 2024.

Annual escalation clauses in employment contracts can specify retroactive or future percentage increases in worker pay which are not tied to any index. These negotiated increases in pay are colloquially referred to as cost-of-living adjustments or cost-of-living increases because of their similarity to increases tied to externally determined indexes. The cost-of-living allowance is equal to the nominal interest minus the real interest rate.

Consumer Price Index (CPI)

When cost-of-living adjustments, negotiated wage settlements and budgetary increases exceed ''CPI'', media reports frequently compare the two without consideration of the pertinent tax code. However, CPI is based on the retail pricing of a basket of goods and services. Most purchases of that same basket require the use of after-tax dollars—dollars that were often subject to the highest ''marginal tax rate''. Consequently, the COLA will necessarily have to exceed the CPI inflation rate to maintain purchasing power.

The widely recognized problem known as bracket creep can also occur in countries where the marginal tax brackets themselves are not indexed — COLA increases simply place more dollars into higher tax rate brackets. Only under a flat tax system would a percentage gain on gross income translate into a comparable inflation-offsetting gain at the after-tax level.

Some salaries and pensions in the United States with a COLA include:
* Social Security
* Civil Service Retirement System (CSRS)
* Federal Employees Retirement System (FERS)

Pensions in Canada with a COLA include:
* Canadian Auto Workers union (CAW) Local 200 (Ontario)

Social security benefits

United States

Social security benefits in the United States receive cost-of-living adjustments (COLAs) to match increases in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). They can also receive funds from public charities for specific issues. The COLAs are made at most annually and are calculated based on the value of the CPI-W in the third quarter of the year (averaging the values from July, August, and September). COLAs can only increase benefits, so in deflationary years when the CPI-W drops there is no COLA.

Canada

Canada's social security system incorporates cost-of-living adjustments (COLA) across multiple federal and provincial programs to maintain the purchasing power of retirement benefits amid inflation. Federal programs include the Old Age Security (OAS) pension, which is adjusted quarterly and increased by 2.0% over the past year. For the January to March 2025 period, OAS showed no increase as the CPI reflected a small dip over the previous three months. The Canada Pension Plan (CPP) benefits will see increases due to cost-of-living adjustments to address rising living costs.

Beyond federal initiatives, provincial and occupational pension plans also implement COLA mechanisms. British Columbia's Municipal Pension Plan applied a 1.6% increase effective January 1, 2025, while Ontario's OPTrust pensions increased by 2.7% for 2025. The Alberta Teachers' Retirement Fund demonstrates variable adjustment rates, with 1.74% for service before 1993 and 2.03% for service after 1993.

COLA calculation methodologies share common features but vary in implementation. Most provincial plans use the Canadian consumer price index (CPI) changes measured over specific periods. The College Pension Plan bases its 2.6% COLA on "the change in the 12-month average Canadian consumer price index (CPI) up to the end of October 2024 compared to the previous 12-month period". The Alberta Teachers' Fund uses the Alberta Consumer Price Index (ACPI), which is specific to Alberta's economy. For new retirees, COLA is typically pro-rated based on pension receipt duration.

These adjustments significantly impact retirees' long-term financial security. OPTrust illustrates this effect: a $20,000 pension that began in 1995 would grow to $37,313 by 2025—an 87% increase over three decades. While preserving purchasing power remains the primary goal, pension administrators must balance this with sustainability concerns. The College Pension Plan notes that "the plan's ability to provide you a full COLA demonstrates the health of the plan's inflation adjustment account", while the BC Municipal Pension Plan has removed COLA caps through 2025 due to the financial strength of the plan's accounts.

As Canada faces ongoing inflation pressures, these cost-of-living adjustments across federal, provincial, and occupational programs provide crucial protection for retirees, demonstrating Canada's commitment to safeguarding retirement benefits against inflation's erosive effects while maintaining system sustainability.

Worldwide survey

There are multiple statistical methodologies used to corroborating data that can effective measure the cost of living in a region, namely by assessing the purchasing power of a population in regards to the cost of products, land and/or assets; the average income; or both. Due to differences in the statistical formulae used to generate a hierarchal order in the cost of living, these research methods often diverge and occasionally conflict in their findings.

Economic Intelligence Unit

The Economist Intelligence Unit produces a semi-annual (twice yearly) worldwide cost of living survey that compares more than 400 individual prices across 160 products and services. They include food, drink, clothing, household supplies and personal care items, home rents, transport, utility bills, private schools, domestic help and recreational costs.

The survey itself is an internet tool designed to calculate cost-of-living allowances and build compensation packages for corporate executives maintaining a western lifestyle. The survey incorporates easy-to-understand comparative cost of living indices between cities. The survey allows city-to-city comparisons, but for the purpose of this report all cities are compared to a base city of New York City, which has an index set at 100. The survey has been carried out for more than 30 years.

In March 2017, Singapore remains the most expensive city in the world for the fourth year running, in a rare occurrence where the entire top five most expensive cities were unchanged from the year prior. Sydney and Melbourne have both cemented their positions as top-ten staples, with Sydney becoming the fifth most expensive, and Melbourne becoming the sixth. Asia is home to more than five most expensive cities in the top twenty but also home to eight cheapest cities of the cheapest ten.

Rising cost of living

Larry Summers estimated in 2007 that the lower 80% of families were receiving $664 billion less income than they would be with a 1979 income distribution, or approximately $7,000 per family. Not receiving this income may have led many families to increase their debt burden, a significant factor in the 2007–2009 subprime mortgage crisis, as highly leveraged homeowners suffered a much larger reduction in their net worth during the crisis. Further, since lower income families tend to spend relatively more of their income than higher income families, shifting more of the income to wealthier families may slow economic growth.

The 2022 World Inequality Report, a four-year research project organized by the economists Lucas Chancel, Thomas Piketty, Emmanuel Saez, and Gabriel Zucman, shows that "the world is marked by a very high level of income inequality and an extreme level of wealth inequality". According to the report, the bottom half of the population owns 2% of global wealth, while the top 10% owns 76% of it. The top 1% owns 38%. This wealth disparity and its contributions to poverty have had significant negative effects on the general population
such as Europeans choosing not to take prescribed medication due to its detrimental cost
o
Americans being forced to spend more money on housing and utilities
and thus less on personal consumption for necessities or leisure.

Other uses

Stipends or extra pay provided to employees who are being temporarily relocated may also be called cost-of-living adjustments or cost-of-living allowances. Such adjustments are intended to offset changes in welfare due to geographic differences in the cost of living. Such adjustments might more accurately be described as a per diem allowance or tied to a specific item, as with housing allowances. Employees who are being permanently relocated are less likely to receive such allowances, but may receive a base salary adjustment to reflect local market conditions.

A non-taxable cost-of-living allowance is frequently given to members of the U.S. military stationed at overseas bases if the area to which a service member is assigned has a higher cost of living than the average area in the United States. For example, service members stationed in Japan receive a cost of living allowance of between $300 and $700 per month (depending on pay grade, years of service, and number of dependents), in addition to their base pay.

See also

*
* ACCRA Cost of Living Index
* Cost of living in Namibia
* Eardex.com
*Housing stress
* United Kingdom cost of living crisis
* United States Consumer Price Index
* Inflation
* Precariat
* Price index
* Cost of Living Allowance (U.S. Military)
* List of countries by GNI per capita growth
* List of U.S. states by adjusted per capita personal income
Specific:
*
*
*
* List of most expensive cities for expatriate employees
* Middle class squeeze
* Cost of raising a child
* Walk to work protest
* Sam Vimes "Boots" theory of socioeconomic unfairness

References

External links

Economist Intelligence Unit worldwide cost of living survey results
(requires registration)

Cost-of-Living Calculator
relative to time from American Institute for Economic Research (AIER)

Notable cost-of-living adjustments for 2024

People in Europe choosing not to take prescription medicine due to cost-of-living crisis

Effects of the cost-of-living crisis on affordability of housing in America

Studies on the cost of living for the professional class of America in 1928

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