What Does ‘Cost of Living’ Really Mean and Why Does it Vary By State?

During the COVID-19 pandemic, many people started working remotely for the first time. Many people are starting to return to office jobs, but others are continuing to work remotely. Without being tied down to a physical office location, we are seeing people move to different locations across the country. If you’ve lived most of your life in one location, you might be surprised to find that costs vary in different states and municipalities.

What is Cost of Living?

Cost of living is defined as the total amount of money that is needed to live in a particular area. One way that cost of living can be measured as either a raw monthly or annual amount. Another way that you will often see cost of living measured is as a cost of living index. The Council for Community and Economic Research (CCER) has compiled, published and studied cost of living information at the local level since 1968. 

Typically a cost of living index takes the average cost of living across the whole nation and sets that as a baseline of 100. Then states or metropolitan areas where the cost of living is higher than the national average have numbers greater than 100, and those with a lower cost of living have an index of less than 100. This allows you to easily compare the cost of living in different locales. If you live in an area with a cost of living index of 109, then you know that your cost of living is roughly 9% higher than the national average.

What Makes Up the Cost of Living Formula?

There are a variety of different companies and organizations that calculate the cost of living in different locations, and each one uses a slightly different cost of living formula. As one example, the U.S. Bureau of Labor Statistics publishes the Consumer Price Index (CPI). The CPI is used by the government to determine things like the cost-of-living adjustment for Social Security.

BLS calculates CPI indexes for the following categories in addition to an overall index:

• Food (both at home and away from home)
• Energy (gasoline, fuel oil, electricity and natural gas)
• New and Used vehicles
• Apparel
• Medical Care
• Shelter / Housing
• Transportation services

Prices for each of these areas varies from month to month and in each different state and community.

Why Does Cost of Living Vary By State?

If you’ve ever traveled to or lived in different parts of the United States, you may have noticed that prices often change as you go to different areas. There are a variety of different reasons why cost of living varies by state and even within a given state. One major reason for differences in cost of living is how rural or urban an area is. Generally speaking, cities and urban areas have a higher cost of living than rural areas.

Cost of living of specific commodities can vary with other factors as well. How close a state or metropolitan area is to various natural resources can also play a factor. If you live in an area with access to oil or natural gas, it stands to reason that your energy costs might be lower than other areas. Similarly, being closer to farms and other food production can keep an area’s food costs lower. State and local tax policies also contribute to the overall cost of living.

Which States Have the Lowest Cost of Living?

The cost of living by state varies depending on the year and also on the methodology used to calculate the cost of living. According to the 2020 fourth-quarter Cost of Living Index report from CCER, the ten states with the lowest cost of living are:

1. Mississippi
2. Kansas
3. Oklahoma
4. Alabama
5. Arkansas
6. Georgia
7. Tennessee
8. Missouri
9. Michigan
10. Indiana

Keep in mind that these are just average costs of living for an entire state and the cost of living will vary greatly within a state. Cost of living in rural Albany, Georgia will be much less than living in metro Atlanta. Another thing to consider is that your income may be lower in areas with a lower cost of living, though that may not be as much of a factor if you have a remote job.

The Bottom Line

A state or metropolitan area’s cost of living is defined as the cost it takes to live in that particular location. A cost of living index is a way to normalize and compare the cost of living between different areas. A cost of living index of 100 represents the national average. Higher numbers are more expensive and lower numbers are less expensive. There are several companies and organizations that calculate cost of living indexes, and each use slightly different formulas and prices. Moving from a high cost of living area to one with a lower cost of living is a smart way to make your money go further without increasing your income.