The UK Plan is to turn a good inflation measure (RPI) into a bad one ( CPIH)

by Shaun Richards

A feature of these times is that we see so many official attempts to hide the truth. In the UK at the moment one of the main efforts is around the inflation numbers and next week on the 25th we will get an announcement about it. The official documentation shows the real reason for the change albeit by accident.

Since 2010, the measured rate of RPI annual inflation has been on average one percentage point per annum above the CPIH.

They want to get rid of the RPI for that reason that it gives a reading some 1% higher as they can then tell people inflation is 1% higher at a stroke. The “independent” UK Statistics Authority and National Statistician have  thoroughly embarassed themselves on this issue. There have been 2 main efforts to scrap the RPI both of which have crumbed under their own inconsistencies and now the plan is to neuter it by applying some Lord of the Rings style logic.

One Ring to rule them all, One Ring to find them, One Ring to bring them all, and in the darkness bind them.

In the future we will only have one inflation measure and it will be the one that has been widely ignored since its introduction in spire of desperate attempts to promote it.

The Authority remains minded to address the shortcomings of the RPI by bringing the methods and data sources from the National Statistic, the CPIH, into the RPI. In practice this means that, from the implementation date, the RPI index values will be calculated using the same methods and
data sources as are used for the CPIH. Monthly and annual growth rates will then be calculated directly from the new index values.

So the “improvement” will involve including rents which do not exist and they comprise quite a bit of the index.

Given that the owner occupiers’ housing costs (OOH) component accounts for around 16% of the CPIH, it is the main driver for differences between the CPIH and CPI inflation rates.

For those unaware if you own your own home you are assumed to pay yourself rent and then increases in the rent you do not pay are put in the inflation numbers. Even worse they have little faith in the numbers used ( from actual renters) so they “smooth” them with an average lag of about 9 months. So today’s October rent numbers reflect what was happening around January and are therefore misleading. Putting it another way if you wish to have any idea of what is happening in the UK rental sector post pandemic do not look here for clues.

The supposedly inferior RPI uses house prices via a depreciation component ( a bit over 8%) and mortgage interest-rates ( 2.4%). Apparently using things people actually pay is one of the “shortcomings”. Meanwhile back in the real world if I was reforming the RPI I would put house prices in explicitly.

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I find myself in complete agreement with the TUC on this.

Nobody is claiming the RPI is perfect. But it remains the best measure for living costs and would be straight forward to modernise.

As has been shown across Europe it would be perfectly possible to have RPI existing in parallel to CPIH (​or CPI) and have the latter measure focus on guiding monetary policy.

We are disappointed that expert calls to retain the RPI have been repeatedly ignored. The Royal Statistical Society and House of Lords Economic Affairs ​Committee have both presented compelling evidence for keeping it.

The basic issue is that the inflation numbers will be too low.In addition measures of real wages will be distorted too. These things echo around the system as for example when RPI was replaced by CPI in the GDP data the statistician Dr. Mark Courtney calculated that GDP was then higher by up to 0.5% a year. If you cant change reality then change how it is presented.

Today’s Data

We see that inflation is starting to pick up.

The Consumer Prices Index (CPI) 12-month rate was 0.7% in October 2020, up from 0.5% in September.

Remember that prices are being depressed right now by the VAT cut.

On 8 July 2020, the government announced that it would introduce a temporary 5% reduced rate of VAT for certain supplies of hospitality, hotel and holiday accommodation, and admissions to certain attractions.

I appreciated it last night when I bought a cooked chicken which has become cheaper. In terms of the inflation numbers we do have measures which allow for this. They are at 2.3% ( if you exclude indirect taxes called CPIY) and 2.4% ( if you have constant indirect tax rates or CPI-CT). We do not know exactly how prices would have changed without it but we do know that inflation would be a fair bit higher and would change the metric around Bank of England policy and its 2% inflation target.

The major movers were as follows.

Clothing; food; and furniture, furnishings and carpets made the largest upward contributions (with the contribution from these three groups totalling 0.16 percentage points) to the change in the CPIH 12-month inflation rate between September and October 2020………These were partially offset by downward contributions of 0.06 and 0.04 percentage points, respectively, from the recreation and culture, and transport groups.

You may note they have sneaked CPIH in there as it is the only way they can get it a mention as it is so poor it is widely ignored.

Another point of note is that the inflation measured by CPI is in services at 1.4% whereas good inflation is 0%.

If we look at the RPI we see another reason why it is described as having “shortcomings”. It has produced a higher number as it has risen from 1.1% in September to 1.3% in October.

The trend

In terms of the 2 basic measures we see that opposite influences are at play. The UK Pound £ has been reasonably firm and is just below US $1.33 as I type this so mo currency related inflation is on the way and maybe a little of the reverse. However the price of crude oil has been picking up lately with the January futures contract at US $44.27. Whilst this is around 30% below a year ago the more recent move this month has been for a US $7 rise.

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In terms of this morning’s release there was a hint of a change.

The headline rate of output inflation for goods leaving the factory gate was negative 1.4% on the year to October 2020, up from negative growth of 1.7% in September 2020……The price for materials and fuels used in the manufacturing process showed negative growth of 1.3% on the year to October 2020, up from negative growth of 2.2% in September 2020.

So less negative and at this point crude oil was still depressing the prices so we can expect much more of a swing next time around if we stay at present levels.

Petroleum products and crude oil were the largest downward contributors to the annual rate of output inflation and input inflation respectively.

House Prices

I think you can see immediately why they want to keep house prices out of the official inflation measures.

UK average house prices increased by 4.7% over the year to September 2020, up from 3.0% in August 2020, to stand at a record high of £245,000.

They much prefer to put this in.

Private rental prices paid by tenants in the UK rose by 1.4% in the 12 months to October 2020, down from an increase of 1.5% in September 2020.

Just as a reminder home owners do not pay rent so this application of theory over reality conveniently reduces the headline inflation number called CPIH.

As ever there are regional differences in house price growth.

Average house prices increased over the year in England to £262,000 (4.9%), Wales to £171,000 (3.8%), Scotland to £162,000 (4.3%) and Northern Ireland to £143,000 (2.4%)….London’s average house prices hit a record high of £496,000 in September 2020.

Comment

Next week we will get the result of the official attempt to misrepresent inflation in the UK. All inflation measures have strengths and weaknesses but the UK establishment is trying to replace what is a strong measure (RPI) with a poor one ( CPIH). I think it is particularly insidious to keep the name RPI but in reality to make it a CPIH clone. A group that will be heavily affected is first time buyers of property who will be told there is little inflation because of a theoretical manipulation involving imputed rents but face a reality of much higher house prices.

“It takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!” ( Mad Hatter )

If you set out to destroy trust in national statistics then they are on the right road.