My analysis of the UK Retail Price Index inflation “improvement” consultation

On Friday I attended the Retail Price Index “improvement” consultation which was held in Westminster. I wish today to give readers my feeling about the meeting which was well attended (approximately 80 people) and led to a fascinating and wide-ranging debate. Let me first explain why we were there and the best way is to use the original announcement from the National Statistician.

The National Statistician will consult on a number of possible options for improving the Retail Prices Index (RPI).

As a result of work to understand the reasons for the differences between the RPI and the Consumer Prices Index (CPI) estimates of inflation, the National Statistician is to invite users’ views on the way the RPI is constructed. The differences between the RPI and CPI under consideration are those caused when different formulae are used to calculate average prices where there is no information about precise expenditure. This is known as the ‘formula effect gap’.

If you had left the meeting and gone out into the street and asked people what inflation was you would be likely to get a range of views above all the current inflation measures. It is therefore odd I pointed out that we are only reviewing the measure which tends to give the highest reading! After all on such analysis it looks the most accurate.

The Royal Statistical Society is not happy either

The President of the Royal Statistical Society wrote to express it dissatisfaction with what has been proposed. Firstly on the grounds that the consultation period should be longer.

The potential changes could have a direct and material effect on a substantial number of people and organisations,,,,,,, so we regret that the timescale is less than the full 12 weeks.

So we have for some reason and truncated time frame and we also have serious questions about the scope of the consultation. The emphasis here is mine.

The other concern is the apparent limits of the consultation. The information published so far states that only the RPI formulae are under consideration, not those in the CPI, and that only the choice of formulae is being considered. The Jevons formula extensively used in the CPI is not without its critics as well as its supporters; even within the constraints of HICP rules it is not the only option and these constraints will not apply to the new “CPIH”.

Apologies for the acronyms where HICP is CPI and CPIH is the new proposed measure including a type of housing price measure which I discussed on the 24th of September. If they had set out to make them look confusing they would struggle to do a better (worse) job!

The section I have highlighted is important as I am sure it seems odd to you that if you have a difference between two measures you only review one of them! There has been something of a public relations push from the Office for National Statistics and the National Statistician to attack the Carli index used as a 27% component of the RPI but it seems to have slipped their mind that there are also doubts about the Jeevons index which represents some 63% of the CPI. We should be aiming to do what the Royal Statistical Society suggest below.

the work on the formula effect continues so that ultimately we do arrive at the best possible conclusion for both indices.

Note the “both” not just the one which tends to give the higher inflation reading.

The meeting itself

I do not wish to get too bogged down in the statistics but there were some fascinating interventions of the subject of the RPI/CPI gap which has been of the order of 0.9%. A very powerful intervention came from a gentleman who quoted the Office for National Statistics own 2010 technical manual.The emphasis is mine.

In the case of AR (using an arithmetic mean), it can be shown that in certain circumstances its use, when combined with chain-linking of the within-year indices, introduces a small upward bias in the overall price index. This phenomenon is known as ‘price bounce’ or ‘formula bias’.

This was powerful because in the context of that document a small upward bias would be 0.1% and now suddenly we were supposed to believe two years later that it was 0.9%. So what about the other 0.8%? To which apart from shuffling in their seats a little uncomfortably there came no response from the representatives of the Office for National Statistics or the National Statistician. But the driving force behind the logic of this position would be that we are in a “position of ignorance” as to whether RPI over-measures inflation or CPI under measures it.

It was also argued that due to its greater sensitivity the much maligned Carli index used in the RPI does pick up price changes which the ones used in the CPI do not.

There was also an intriguing intervention from an official from the German Bundesbank who speaking in a private capacity argued that the use of a laspeyres index such as the CPI introduces biases at the elementary level.

Methinks the lady doth protest too much

The representatives of the ONS and the National Statistician kept repeating that they were independent of government so much so that when I quoted from Queen Gertrude in the play Hamlet I got applause and quite a few “hear,hears” from members of the audience who were no doubt thinking along similar lines.

What about the Consumer Price Index?

The official bodies continually pressed the prominence of the CPI with the ONS representative telling us this.

(it) rapidly established a position of prominence

He forgot to point out that it got it from being used as the official measure which is not quite the same thing. An effective riposte to this came from the audience who stated that we had been provided with the uses of the RPI but not the CPI which was odd from something of such “prominence”. They were not deterred in any way by this and informed us that CPI

was widely acknowledged to be state of the art

He did not tell us by whom and apart from himself there were no other supporters for this line.

What does “improve” mean?

A challenge was made on the basis that the use of the word “improve” implied a moral judgement and would the National Statistician be kind enough to explain what it was?  We were told that no moral judgement was meant. To which an individual quoted the National Statistician’s own code of practice.

The Authority’s overall objective is to promote and safeguard the production and publication of official statistics that serve the public good.

Unfortunately our official bodies had plainly contradicted themselves as “the public good” clearly suggests some form of moral judgement.

What happened to the period 1996-2010 when it was estimated that clothing price inflation was under measured?

There was no response to this.

A likely legal challenge

It was pointed out that because of the large distributional effects that would be caused by this move it would be very likely that the UK government would be sued in the courts. This would be expensive and it is by no means certain it would win as the 2010 Equality Act could intervene. Over the weekend since the meeting this has been brought further into focus by Argentina losing in the law courts to Elliots Associates.

Groups that could sue would be index-linked government bond holders, those with inflation linked pensions,those with inflation linked savings, and those with inflation linked annuities. In short we are discussing those who have long-term contracts finding that the terms have been changed on them “mid-term” so to speak.

Comment

I hope that I have given you a good flavour of the discussion. If it feels one-sided then it was. There was one brief show of support for some of the moves from a representative of the Bank of Nova Scotia but that was it. Also just be clear all responsibility for this article is mine as it is based on my memories and the notes I made.

A separate issue was mentioned which was a change in collection of the values of private rents was going to be made. I made the point that this was admitting some of the criticisms made of the rental equivalence method of measuring house prices. How can something get approval when the underlying data is so unsure? In short, in my opinion the various changes either mooted or in the process of being made fall a long way short of the “public good” mentioned in the National Statistician’s Code of Practice. Sooner or later the use of Rental Equivalence will be completely discredited. Just at the point we most need reliable unbiased statistics we seem to be actually moving away from them.

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17 thoughts on “My analysis of the UK Retail Price Index inflation “improvement” consultation

  1. So CPI is “state of the art” Shaun? Modern art I presume… sounds like a formula for a Tracy Eminn unmade bed, whereas what is actually required is a nice straightforward pile of bricks. Thinking about it, I have a print of a Picasso at home, and the subject’s face is attached to the side of his hips…

    Anyhow, thanks for keeping ius abreast of matters, and for keeping the ONS honest!

    • Andy,

      You cannot be serious! “…for keeping the ONS honest!” Have they ever been honest? A leopard cannot change its spots.

    • Hi Andy

      Thanks. However at this point you are overstating my impact as I think I am making people aware of what is happening at this point and the ONS and the National Statistctian intend to carry on regardless. However they did look chastened by their reception and the quality of the responses which were with only one exception critical. So the posturing of phrases like “state of the art” which were no doubt designed to lull the unwary backfired.

  2. Shaun,
    very interesting as always. I think that you are too polite, as the obvious answer to all of your questions are:
    1. The ONS is not independent
    2. The politicians want to reduce inflation for political purposes and to cut government costs going forward
    3. The only way to balance the books without people really noticing is to underplay inflation

    With all respect to the great statisticians in the room, perhaps they should all step back and ask what they are trying to measure. The reality is that, for 90% of the population, it is an attempt to convey how much more expensive things are. I would hazard a guess that it would therefore be much more useful to that large majority if the index measured:
    1. Necessities, to include utilities, food, commuter costs, rent, mortgages, council tax etc, i.e. the things that we all have to pay as first call on our finances
    2. As a separate item, all non-necessities, as these can be axed quite easily from one’s budget. I recognise that there will be arguments as to what is a necessity, but no worse than the current ones about what is in the index.

    I think that people would therefore be able to see just how much their purchasing power is being eroded.

    • Hi James,

      I agree almost entirely; the only point I would make is with your second item listed. It is not that the government want to reduce inflation! In reality they want to do the opposite to write off more of their debt. So what they want to do and what they have again instructed the ONS to do is to find ways that “seem” to be statistically valid (to those uneducated and unaware) so as to reduce the published number for supposed inflation, so that they can continue to increase inflation hoping that most of the electorate will be fooled and not understand what is going on. In reality this is what successive governments have done since the last world war, increasingly and unashamedly. The main trick is to find ways of effectively re-indexing their published numbers, by adopting “new” datums from time to time, by changing the basis of the “measure” used, as here intended again, by manipulating the basket of items monitored for price changes, by altering the weightings of the key subsistence items against items known to have reduced in price (e.g. Chinese manufactured), etc.

      This type of manipulation is the same as that used by Confidence Tricksters. It is called fraud, dishonesty, lying, skulduggery etc.; but politicians have no conscience nor care about their deeds. This is clearly evident if you look at the prices of key items in 1958 for example and compare them to now. You cannot use the ONS’s fake numbers to get any correlation with reality, because they have concealed the real audit trail so often. For example a pint of beer in an average Saloon bar then was less than 10p, an average semi-detached house in the South East was only circa £500, a whole gallon (not a litre) of petrol was 6.5 p. This why they use all of these tricks to prevent economists and others examining a true audit trail of what they have done, and how they have robbed the people.

      As you point out, the ONS is not independent, indeed its staff are all paid by the government. The government thus instructs the ONS statisticians to find every possible way to manipulate the official inflation numbers downwards and the official GDP numbers upwards etc. They use the ONS as political cows to achieve their deceit. Several retired officers from the ONS have blown the cover on this and have stated publicly that the government pays bonuses for those ONS statisticians finding new methods for manipulating the numbers and threatens those who refuse to comply with dismissal. What we need is for independent statisticians within the Royal Statistical Society to undertake proper and unbiased monitoring of inflation and publication of the accepted numbers, on a basis which frees them from all government control and manipulation. It does not in any case project a true professional profile for those qualified statisticians who are prepared to go along with the governments continuous manipulation of these numbers without declaring this publicly. In my opinion such corrupt “professionals” should be ejected from membership of the Royal Statistical Society, as professionals would be and are from other Chartered and professional societies.

    • Hi James

      Actually the point that we should go back to basics was made,so many there agreed with you and the ONS/National Statistician found themselves under fire on pretty much all counts.It is the official bodies which seem to want to avoid such questions.

  3. Hi Shaun,

    Another great and interesting report.

    It is good but I suspect futile that you and other people are trying to keep the ONS less dishonest. With the UK’s consistently above target inflation and below target growth, then this is an obvious area for the Government and BOE to target to make the facts fit the fantasy. It will save Lord king, much spending on paper, ink, time and postage in having to write those awkward letters to the Chancellor.

    If we don’t believe the ONS / Government figures, are there any independent organisations that produce inflation statistics? If not that is a pity, as with a monopoly (boy, do Governments love monopolies) there is no regular challenge to the Governments figures, If there was then this would create much publicity and bring this whole area much more into the media limelight. Much like different mortgage lenders reporting house price inflation / deflation each month.

    Unfortunately, most lazy and / or ignorant journalists, just tend to swallow and largely repeat Government press releases. Although these days with online newspapers, these are often challenged by knowledgeable readers in the comments section, far more effectively, than by the journalists!

    I also suspect there would be a lot of work in setting up and running such a private system. I know that many people are too busy to be able to spend much time challenging Governments in this way, which I think is a pity as it allows Governments to get away with much more than they should be allowed to. This is bad for Government accountability and democracy.

    I still think that EPI for the measurement of essential monthly outgoings inflation and EPIP which also add non-absolute essentials but things you need to lead a normal life has a lot of merit, to show real costs. As somebody famously said on inflation figures, “But I can’t eat a CD”!!!

    A fundamental problem with all Government organisations is that the Government are the game keeper that makes the rules and also the poacher that plays the same system to their advantage.

    Unfortunately, when Governments set out to deceive for their own ends, the people they deceive firstly and foremost is themselves. This we can see with exam grade inflation, schools are getting forever better, while we are dropping like a stone in the international education league tables!

    • Hi Rods

      I do not think that the ONS and National Statistciany expected the response that they got. I do not mean so much hostile as in the Merseyside derby but the quality of many of the responses which frankly were much higher-brow than the “state of the art” waffle of their pre-prepared introductory speech. They did look rattled after the first round of questions/statements which I completed.

      There were reports that Google was going to produce a price index but that trail seems to have gone cold. In the modern era an organisation like that has a lot of price data and could maybe give it a go.

      I find it fascinating that I appear to be alone in following this trail.

      Oh and your use of the word “futile” made me think of the Borg from Star Trek….

  4. On the Star Trek theme I like the quote “Structural Integrity Field has collapsed. Hull breach in 2 minutes”. Only takes a few words to change to reflect this government…….”Moral Integrity field has collapsed, Government deception has begun”.

    Seriously though, this article really does help to bring out the lengths this corrupt government will go to disguise their true intentions. What really disturbs me is that they know the targetted victims remain (unbelievably!) too apathetic to do anything about it.

    What does it take to get pensioners to wake up to what’s hapenning ???

    • Hi Graham and welcome to my part of the blogosphere

      I will continue to do my best to make sure that these issues get as much publicity as I can raise. Unfortunately there is a lot of ignorance on these issues including many economists.

  5. It’s a good question why the ONS has stayed with the Carli formula in the RPI for so long. Statistics Canada ditched the Carli formula for the Dutot formula as of the October 1978 update of the CPI. The Dutot formula, in turn, was abandoned, except for the rent CPI, as of the January 1995 update. (The rent CPI just seems to have been overlooked, rather than anyone deciding that for this component the Dutot formula was more appropriate.)

    There is a school of thought that the unweighted index formula used in a price index to calculate elementary aggregates should be a simplification of the formula used for the primary classification to calculate a total index from basic commodity aggregates. In the CPI, that would be a chain Lowe formula. Simplify a chain Lowe formula and you can get a chain Carli or chain Dutot formula but never a chain Jevons formula. Then, since the Dutot formula does not allow for any changes in the units of measurement (e.g. some items cannot be measured per kilogram and others per unit) the Carli formula would be chosen wherever that was a problem over the Dutot formula. Even following this logic, though, it is hard to see why such a dismal formula would continue to be used to such an extent in the RPI for so long.

    There isn’t much to be said for the school of thought just described. I would never recommend calculating a consumer price series as a chain Törnqvist index, the formula for which the Jevons represents a simplification, but I believe the Jevons represents the best formula for almost all situations where there are no index weights. (The exception is where zero prices may legitimately occur; then the Jevons index is undefined and the Dutot index is the obvious alternative.)

  6. It would be interesting to hear what the ratings agencies have to say on this. As a holder of index linked bonds I would view the United Kingdom as being in default should they retrospectively change the basis on which they are calculated.

    • Hi Gary and welcome to my part of the blogosphere.

      I did make that point at the meeting although I used the economic or central banking concept of credibility. I did not say it in the article above but ” In short we are discussing those who have long-term contracts finding that the terms have been changed on them “mid-term” so to speak” was a point made by me.

      I believe that 8 of the UK index-linked Gilts have a clause that allows investors to have their money plus index linking retruned to them should a material adverse change be made. That’s the good part, the bad part is that the Bank of England decides.

      Unfortunately the ratings agencies have if anything even less credibility than the Bank of England.

    • Hi Susan and welcome to my part of the blogosphere.

      It depends on the pension scheme and also on the attitude of the pension trustees. The actual legal documentation will be in the trust deed but quite a few schemes give the trustees some flexibility to interpret it.

      I spoke to a gentleman after the meeting who had been a trustee for the British Aerospace fund who had resigned because he felt that they had weakened and not represented their pensioners.

  7. In principle, the ONS should be looking at ways to improve the formulas below the basic aggregation level for both the RPI and the CPI. Probably, the ONS decided to limit inquiry to the RPI for two reasons:

    1) the CPI is the UK HICP, and compiled according to Eurostat guidelines, so they don’t have the same freedom to change methodology that they do with the RPI,
    2) they see the use of the Carli formula as the big problem; since it is only used in the RPI there is no reason to extend the inquiry to the CPI.

    The first reason may not matter so much. The ONS itself introduced a discrepancy between the CPI and the UK HICP in March 2011 when it, questionably in my view, added vehicle excise tax and TV licences, as well as another component to the CPI. These are quite contrary to the principles of an HICP. As the Short Guide states: “special fees and taxes paid to government for licenses will be excluded (when there is no equivalent good or service received in return)”. It also clearly reduces the usefulness of the CPI as a target inflation indicator to the Bank of England, which won’t want its inflation indicator to increase due to tax hikes whose effect is to reduce the purchasing power of British households, i.e. its effect is deflationary. But I digress.

    Regarding the second reason, I tend to sympathize very much with the ONS. A lot of other countries got rid of the Carli formula years ago, and it is very much to be hoped that it is gone from the RPI as of the February 2013 update.

    Regarding the CPI being the headline inflation indicator of the ONS rather than the RPI, this is partly due to the RPI having a relatively limited target population compared to its counterparts in other countries. In my country, Canada, for example, the CPI covers all households except for those living on Indian Reserves and in parts of the Northern territories. Higher income households and pensioner households mainly dependent on state benefits aren’t excluded, as they are in the RPI. But I think the more important reason would be that the series used as the inflation indicator by a country’s central bank has become so much more important in an age of inflation targeting. At the same time, the series used as an escalator series have become less important with diminished unionization in most western countries, and a growing realization of the drawbacks of trying to index nearly everything for inflation.

    Maybe in other countries like Germany the HICP is still not the headline rate of inflation, but I suspect it will be in the future, probably not later than the time that the HICP or its successor series (the Household Expenditure Price Index?) incorporates a component for owner-occupied housing. And that’s as it should be.

  8. Before I read any of this I had already responded to the ONS consultation: I was similarly critical, exposing contradictions, misleading statements and technical flaws. Anyone contemplating a legal challenge might be interested in what I had to say, as, assuming I am correct, it looks as though, and I hate to say this, the ONS are cheats and liars. Contact me on gkr18@msn.com

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