Why Wages, Not COLA, Matter More for Future Retirees
The Social Security Administration recently announced 2026 cost-of-living adjustments (COLAs) for current beneficiaries of 2.8 percent—an increase that reflects the recent increase in prices as measured by the Consumer Price Index (CPI).
The 2026 COLA isn’t likely to be life-changing for current beneficiaries. In fact, most people think this COLA isn’t enough to keep up with rising prices. According to a survey by AARP, only 22 percent of respondents think that “a cost-of-living adjustment (COLA) of right around 3 percent for Social Security recipients is enough to keep up with rising prices.”
Although the financial media tends to focus on CPI-based annual COLAs, a lesser-known metric of the Social Security Administration—the National Average Wage Index (AWI)—has a bigger impact on future benefits. While the COLA adjusts existing benefits, the AWI affects how future benefits are calculated. For anyone age 60 and under, it’s the more important measure.
Image created with ChatGPT. (C) Tableaux Wealth
The National Average Wage Index (AWI)
The AWI is based on the national average wage. In general, wages tend to increase faster than prices. Since 2000, the AWI has outpaced the CPI by an average of about 0.8 percent per year. The index is projected to increase by about 4.4 percent this year—significantly more than the CPI.
Here’s how that wage growth, reflected in the AWI, translates into future Social Security benefits.
Social Security benefits are based on a worker’s lifetime earnings. Past earnings are adjusted higher to reflect how wages have grown over time. The computation starts with something called Average Indexed Monthly Earnings, or AIME. To calculate AIME, Social Security starts with your 35 highest-earning years. Each year’s earnings are “indexed” to bring past earnings up to today’s wage levels, using the AWI. After adjusting for wage growth, those 35 years of earnings are averaged and divided by 12 to get a monthly figure, your AIME.
From there, Social Security applies a formula to determine your Primary Insurance Amount (PIA). The PIA is the base monthly benefit you’d get at the full retirement age. The formula is progressive, replacing a relatively higher percentage of earnings at lower income. The formula also uses “bend points” that determine the progressiveness of benefits. Those bend points are updated each year as well, based on the AWI.
This formulation gives the AWI a critical role in shaping future benefits. Higher AWI numbers raise the indexing factors used to adjust past earnings. That means a worker’s historical income is converted into higher, wage-indexed amounts, which pushes up their AIME. At the same time, the bend points in the benefit formula rise along with the AWI, making the overall payout more generous for future retirees.
The AWI in 2024 was 4.84 percent, as compared with a COLA of just 2.5 percent. This higher AWI increased workers’ AIME and PIA. For a worker expecting a $2,000 monthly benefit, that difference could mean roughly $45 more per month (for someone turning 60 in 2024).
In short, an increase in the AWI means that both past earnings and benefit formulas are scaled up with wage growth. According to the Social Security Administration, “Such indexation ensures that a worker's future benefits reflect the general rise in the standard of living that occurred during his or her working lifetime.” So although the CPI gets all the attention for current retirees, the AWI may be more important for anyone under age 60.
Why it Can Pay to Work Longer
Social Security protects against three key financial risks. First, benefits are not contingent on stock or bond returns, avoiding the market risk that comes with other retirement assets. Second, benefits receive cost-of-living adjustments, mitigating the risk that rising prices could lead to a reduced standard of living. Finally, Social Security benefits should last as long as you live, protecting against the financial risk associated with longevity.
For these reasons, the Center for Retirement Research at Boston College has repeatedly found that working longer and delaying Social Security benefits can have a sizable impact on long-term financial security. Workers who have the capacity to work longer can dramatically improve their standard of living in retirement by waiting to claim.
The modest 2026 COLA may barely offset rising Medicare premiums. But for those still in the workforce, rising wages are the real story. The AWI—not the COLA—is what will determine how well your standard of living holds up in retirement.
This article originally appeared in the Berkshire Business Journal.