Do changes in the exchange rate used to calculate the COLA cause the assignee to lose/gain purchasing power?

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As part of our “back to basics” webinar series, Marie Soubessens and Kevin Theissen presented on The Effects of Inflation and Exchange Rate Fluctuations on the COLA. Throughout this 30-minute webinar they invited the audience to answer some quick questions.

One question was “do changes in the exchange rate used to calculate the COLA cause the assignee to lose/gain purchasing power?”

Responses were:

No 27%
Yes 43%
Sometimes 30%

All three answers are correct! But why is that?

No. In a perfect world, an assignee should not gain or lose purchasing power due to exchange rate changes. This is what the COLA is for, to protect the home purchasing power by providing a differential element that is calculated based on the current exchange rate, assuming the assignee is still paid in home country currencies but spends in host country currencies. As the exchange rate fluctuates, frequent revisions of the COLA are to be expected, to stay on top of any exchange rate variation. So, the philosophy of the COLA is that the assignee should not lose or gain host purchasing power based on exchange rate change.

Yes. We are not living in a perfect world. The COLA is calculated at a given exchange rate (be it a spot rate, a monthly average, or anything else) whilst the reality is that exchange rates are constantly changing. The COLA does cover for the exact difference in cost of Goods & Services at the time of its calculation. However, because the value of a currency never stands still, that same COLA (and the transferred Spendable Income) in home currency will not buy the expected amount of host currencies a few seconds later. Assignees may gain or lose purchasing power at host due to a now more or less favorable exchange rates. Differences are often minimal and/or may offset each other until the COLA is next updated. But what if these differences are larger? This is exactly why companies review the COLA as often as administratively permitted.

Sometimes. Within the same programme you have assignments in the EUR zone and outside the EUR zone. Assignments in the EUR zone are not affected at all by the exchange rate changes, but others may be. On certain routes (Home to Host), the relative inflation may exactly offset the effect of the exchange rate change—from one update to the other the COLA remains the same. On other routes, the COLA will change. And what about companies retroactively calculating the COLA and paying the difference to the assignee? In this case, the assignee is not losing on Exchange Rate change. But they may gain (unless the company asks the employee to repay some of the COLA back, which we have never seen), making “sometimes” a very valid response.

You want to know more about our approach to COLA and exchange rates? Do you want to receive a link to the recording of our Webinar? Click here or contact us!