The Insidious "Cost-of-Living" Raise

Jun 11, 2014

Once a year, for most employers and employees, the issue of cost-of-living raises comes up.  As currently practiced, they are more accurately labeled "Cost-of-maintaining-current-lifestyle" or "Cost-of-Maintaining-Poverty" raises.

A cost-of-living raise is not supposed to be a cost-of-maintaining-current-lifestyle raise. Nor is it supposed to reward one for doing a good or above-average job; that's the purpose of a merit raise. It's not supposed to compensate for the additional education or training required to perform one's job – that's already accounted for in the base pay differential between different jobs.

It is, pure and simple, supposed to adjust for the actual cost of living.

In this case "living" means the cost of buying healthy food; paying rent for modest living quarters or maintaining a modest house; the cost of average transportation; the cost of normal medical bills not covered by insurance; and similar things.

The gallon of milk costing a low-wage earner $5.00 costs the high-wage earner the same. A high-wage earner may have chosen to spend extra income on a more expensive house or car, more expensive private schooling, or wine and lobster for dinner. But that's not something that comes under the label "cost-of-living".  That comes under the label: "cost of maintaining a more expensive lifestyle".  Those are things an individual can choose, or not choose, to spend extra income on. A cost-of-living raise is meant to keep people from descending into poverty as a result of inflation. No more, no less.

Cost-of-living increases as implemented today are one of the causes of the large income disparities currently present in our society. Virtually all cost-of-living increases are based on a percentage of one's current salary. If the cost-of-living went up 3 per cent, a typical cost-of-living increase is allocated as a 3 per cent raise for all concerned.

It sounds like a fair deal. But it is far from that. Any scheme which allocates funds as a percentage of existing salary, instead of as a fixed amount, favors people at the top of the pay scale at the expense of those at the middle and bottom.

Consider three employees: Employee A is barely scraping by on a $25,000 salary. B is making $40,000. and C is making $100,000. For a 3% raise, Employee A gets $500, B gets $1200, and C gets $3,000 – 4 times as much as A. Yet the cost of basic necessities – what the cost-of-living increase is supposed to pay for –is the same for all of them. Milk costs the same, gas costs the same, medical supplies and drugs cost the same. Anything which costs more for the higher-paid employee does so because that employee has  made a choice to spend more in that area, not as a necessity. Before the cost-of-living increase, the spread between C and A was $75,000. After the increase, it has grown to $77,500. Nothing has changed to justify this increased disparity. They're both still doing their same jobs, with the same degree of dedication and skill.

The disparity gets worse over time; compounding works the same on cost-of-living raises
as it does on anything else. With a consistent 3% raise, after five years the spread will have grown to $86,945, almost $12,000 more than it was initially. After ten years, the disparity will have grown by over
$25,000; and at the end of twenty years, over $60,000. At the start, C made 4 times as much as A. After twenty years, C still makes 4 times as much as A. But in absolute dollars, the difference is huge – the $75,000 spread has grown to $135,000.

We don't buy necessities based on percentages. We buy them based on absolute dollars, and that's what cost-of-living increases are designed to offset. There are far more equitable ways of allocating cost-of-living increases which still preserve the performance and responsibility bias of the original salary spread.
They are simple calculations; sixth grade algebra students can do them. Here's one: Add up the salaries. Multiply by the cost-of-living increase as a percentage. Divide by the number of salaries. Allocate that amount to each individual.

For the above example: The total of all salaries is $165,000.  3% of that is $4,950, divided by 3 people = $1,650 per person, regardless of salary. In year one, A's salary goes from $25,000 to $26,650, B's from $40,000 to $41,650, and C's from $100,000 to $101,650. After five years, A will be making almost $5,000 more than under the percentage of salary scheme; B will be making $2,000 more. C will be making $7,000 less, but that is still a $1,650 increase. The spread between C and A will still be $75,000. It will not have grown, nor will it have shrunk. In ten years, A will be making almost $44,000, $10,000 more than s/he would have been making if given salary-based percentage increases. After twenty years, s/he will be making $69,000, $24,000 more than under the salary-based scheme. Yet the spread between the
high and low salaries will still be $75,000, as it should be. After all, this is a cost-of-living increase, not a cost-of-maintaining-economic-disparity increase.

So if you happen to be a person responsible for divvying up cost-of-living raises, I hope you will consider giving actual cost-of-living raises. Or if you are an employee in the position of making suggestions to management, consider asking them to consider giving actual cost-of-living raises, as opposed to cost-of-maintaining-current-lifestyle raises.

This is Gary Aitken, and in case you missed it, this is not news; it's an editorial.
And you're visiting Montana Public Radio. One of the few places where you can listen to actual news
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