How to Calculate a Cost-of-Living Adjustment
A cost-of-living adjustment equals the benefit multiplied by the inflation rate, and adding it to the old benefit keeps purchasing power constant.
The Cost-of-Living Adjustment formula
Calculator
Enter a benefit and two CPI readings to get the inflation rate, the COLA it justifies, and the new payment.
The payment before any adjustment.
CPI in the earlier period.
CPI in the current period, on the same base year.
Multiplying $2,000 by 4% in decimal form gives an adjustment of $80, which replaces what inflation took rather than granting a real raise.
- Inflation rate
- 4%
- New benefit
- $2,080
- Real benefit before the COLA
- $800
- Real benefit after the COLA
- $800
- Price level
- Prices rose
The price index moved from 250 to 260, a change of 4%.
New benefit equals the old benefit times one plus the inflation rate.
The old payment restated in base-year dollars.
Matching the figure above is the check that the adjustment exactly held purchasing power constant.
A fixed payment with no COLA loses real value every year that prices rise.
How to calculate Cost-of-Living Adjustment, step by step
- 1Find the inflation rate. The percentage change in the price index between the two periods: [(CPI₂ − CPI₁) ÷ CPI₁] × 100.
- 2Convert the rate to a decimal. Divide the percent by 100, so 3.5% becomes 0.035 before you multiply.
- 3Multiply by the current benefit. COLA = benefit × inflation rate in decimal form.
- 4Add the COLA to the benefit. New benefit = old benefit + COLA, which restores the buying power the old payment used to have.
Worked example: Cost-of-Living Adjustment
CPI rises from 250 to 260, so inflation = [(260 − 250) ÷ 250] × 100 = 4%. A $2,000 monthly benefit earns a COLA of 2,000 × 0.04 = $80, making the new benefit 2,000 + 80 = $2,080. Check it in real terms: (2,080 ÷ 260) × 100 = $800, exactly what (2,000 ÷ 250) × 100 = $800 bought before the adjustment.
Cost-of-Living Adjustment questions
Does a COLA give a real raise?
No. A COLA only replaces what inflation took, so real pay is unchanged. A real raise requires an increase larger than the inflation rate.
Which price index is used for a COLA?
Usually a version of the Consumer Price Index, since it tracks the basket households actually buy. Some contracts cap the adjustment or use a lagged index.
What happens to a fixed benefit with no COLA?
The nominal payment stays flat while prices rise, so its real value falls every year. That is why people on fixed incomes lose from unanticipated inflation.
Get AP Econ exam tips in your inbox
Occasional emails with study tips, new interactive graphs, and exam-season reminders. Free, no spam.
No spam. Unsubscribe anytime. Read our privacy policy.
Keep track of what you have studied
A free EconLearn account adds progress tracking, your quiz history, and achievements. Studying here is free either way, and there is nothing to pay for as a student.
Create a free accountAlready have one? Sign in
Last updated