The Johnson Panel has embarrassed itself by recommending CPIH as the UK inflation measure

The credit crunch era has come up with quite a few surprises but officialdom has progressed in the same way. This reminds me of yesterday’s blog where I discussed the way that central banks have been leaden footed and unable to respond to fast-moving events just as they expand their supposed spheres of influence. Quite toxic mix if you think about it. Today has seen another example of such matters and it comes from the (Paul) Johnson panel which has reviewed UK consumer price statistics. When it was announced that Paul Johnson would led the review I recalled an article in the Daily Telegraph back on the 18th of March 2013 where he expressed his views.

Paul Johnson of the Institute for Fiscal Studies claimed: “There is broad agreement that the current RPI methodology is not fit for purpose. Where they’ve ended up is that it’s better to be consistent than right, which is kind of surprising.”

Impartial then? More like a mind already made up. This reminds me of an episode from Yes  Minister back in 1982 when the apocryphal civil servant Sir Humphrey Appleby expounds his view on the subject of official enquiries and presumably panels.

A basic rule of government is never look into anything you don’t have to, and never set up an inquiry unless you know in advance what its findings will be.

There is another episode where Sir Humphrey tells Jim Hacker that you never manipulate such things instead you appoint someone who does not need manipulating!

What does the Johnson Panel conclude?

First we get an approval of the status quo.

Paul Johnson’s report finds that, other than not accounting for owner occupiers’ housing costs, the Consumer Prices Index (CPI) is a well constructed measure of inflation. Users should have confidence in it.

The Yes Minister theme repeats here as I am reminded of this from Jim Hacker.

Never believe anything until it is officially denied

I have to confess it also reminds me of Russian claims that they have confidence in the value of the Rouble from a while ago.

But there is more as we get a positive and then a negative recommendation as shown below.

The Office for National Statistics (ONS) should move towards making the Consumer Prices Index including owner occupiers’ housing costs (CPIH) its main measure of
inflation;

Government and regulators should move towards ending the use of the RPI as soon as practicable and, where they decide to keep using it, the Authority should ask them to set
out clearly and publicly their reasons for doing so;

Even by the standards of Yes Minister and satire these are extraordinary conclusions which I will explain below.

The CPIH has been a national embarrassment

I argued against the introduction of CPIH in its current form and back on the 24th of September 2012 I explained why. As you can see I warned of disaster.

Jill Leyland of the Royal Statistical Society has analysed the data comprehensively and it was quite plain that the use of house prices would have given at least some sort of signal whereas to quote her directly if we look at the period from 1988.

There is little difference between CPI and the rental equivalence version of CPIH

In some ways even worse some of the Rental Equivalence data had to be estimated as the series planned to be introduced only began in 2007 in England,2009 in Wales and 2010 in Scotland. So we have no actual evidence of the long-term reliability of these numbers.

So not only was the measure likely to be unfit for purpose as it failed to detect the biggest UK house price boom ever recorded, they had no reliable data series. You do not have to take my word for it as on the excerpt below from a letter written on the 14th of August 2014 by the Chair of the UK Statistics Authority Sir Andrew Dilnot makes clear.

the Authority has concluded that the CPIH measure should discontinue its designation as National Statistics pending the further work by ONS that you referred to in your letter to me. ONS should also ensure that this change in status and the potential shortcomings of the CPIH measure are made
clear to users.

In essence officialdom was admitting that the numbers were wrong and the estimate was of the order of 0.2% per annum. I will let readers guess which way?!

If we stick with the numbers for August there was a rather explicit admission of the strategic or conceptual problem.

The Consumer Prices Index (CPI) grew by 1.5% in the year to August 2014,

Let us now add in house prices which were behaving as shown below.

UK house prices increased by 11.7% in the year to August 2014, unchanged from the year to July 2014.

Quite a boom is it not? So much so that if we look at real wages which had been falling on a sustained basis at that time it looked like a house price bubble. But fear not as we have a measure for this.

CPIH (not a National Statistic) grew by 1.5% in the year to August 2014,

Yes it was completely unaffected by the boom in house prices and therefore it writes its own critique.

Added to this is the fact that the CPI measures were introduced on the grounds that the UK would then be more aligned with Europe and the Euro area in particular. So why are we now using a different method which produces a much lower answer?

More details can be found at the link below.

http://www.mindfulmoney.co.uk/wp/shaun-richards/why-i-believe-that-the-uk-is-about-to-choose-and-use-the-wrong-measure-of-house-price-inflation/

What about the RPI?

The official view is that this measure is flawed leading to it overvaluing inflation. There has been quite a debate on this with Dr. Mark Courtney producing a paper in favour of the RPI which was discussed at the Royal Statistical Society just before Christmas. I view it in economic terms via the Bank of England inflation expectations survey the latest results of which are shown below.

Asked to give the current rate of inflation, respondents gave a median answer of 2.8%………Median expectations of the rate of inflation over the coming year were 2.5%.

Thus we see that the annual rate of RPI inflation at 2% was much nearer to what people surveyed think inflation is than the CPI at 1%. On this basis to take forwards the CPI and scrap the RPI seems to be rather bone headed to me. Surely you investigate the measure which is furthest away?

The official view in essence is that the general population is wrong. The problem posed by that is that it is the individuals proposing this plan who are the ones who have been consistently wrong on the subject! Think CPIH if nothing else…

Most people reading this will be losers

Back when I analysed this issue back on the 8th of October 2012 I compiled a list of losers should the RPI be scrapped.

Who will be affected?

Anybody with wage bargaining involving a measure of inflation

pensioners with a pension which depends on inflation

Investors in UK index-linked Gilts

Savers with National Savings and other index-linked bonds

And that is just for starters….

Also there will be a loss of confidence in the system as the basis on what the last time I checked was around 22% of the UK national debt will change. This is because UK index-linked Gilts use the RPI.

Comment

There is an element of deja vu in all this as regular readers will recall this from my Mindful Money days. From January 10th 2013.

http://www.mindfulmoney.co.uk/wp/shaun-richards/victory-on-the-uk-retail-price-index-and-it-feels-good/

This was the previous review on the subject and just like the issue of Ireland rejecting the Maastricht Treaty we find that officialdom has another go! Although rather than vote rigging they have avoided any element of voting this time around. Back then The RPI CPI User Group at the Royal Statistical Society put it particularly well I thought.

Understanding and faith in published statistics are incredibly important as is the long historical record that the RPI represents.

In conclusion the best critique of the Johnson Panel is that they recommend the CPIH.

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22 thoughts on “The Johnson Panel has embarrassed itself by recommending CPIH as the UK inflation measure

  1. as our HMG still uses RPI for tax raising are they now going to use CHIP instead ?

    No? though so , thus we can see the real faith in the figures !

    Forbin

    • Hi Forbin

      That is the one area where the Paul Johnson Report is off message! The Chancellor will not be pleased when he reviews a system which does not allow him to charge us at a hgher rate (RPI) whilst paying out at a lower rate (CPI).

      Perhaps the ennoblement will be downgraded to a knighthood…..

  2. Shaun,
    I expect you to keep on banging-on about these lies and manipulations. Very few other commentators do, I believe because so few are technically adept. As you say the Govt like to select the indices that fit their policies and obfuscation.

    It is time for people power, Lets have the SPI, Shaun’s composite of unarguable baseline price feeds that can be authentically and independently checked. Designed for the average joe or median population point, including a mixture of OOH and Rental Equivalence, Motor car service, repair and fuel as well as railway fares. You know actual things people buy. Using live feeds from the internet we can include those wonderful faling prices from Tesco.com and rising cost of obtaining your 10 year passport.

    I look forward to it….:-)

    Paul C

    • You can’t be technically inept enough to avoid seeing the very basic math of 1.5% CPI and 11.7% HPI = CPI-H of 1.5%.

      You’re complicit or corrupt.

      Has anybody been able to put that simple information to them and illicit a response?

  3. Hi Shaun
    I echo Paul C’s view, you need to start the UK equivalent of the US ShadowStats. Its the only chance of trying to keep any semblance of reality.
    Unless Mr Johnson also knows how to subvert the Law, RPI will have to stay, as its written into several contracts in such a way that do not allow it to be superseeded by a more ‘accomodating’ index.

    • Hi JW

      If we go back a couple of years now to the original RPI “ïmprovement” review points such as that swung the day. From an early point there was the issue of index-linked Gilts but later on the establishment was confounded when Network Rail asked what they should do with the £30 billion or so of RPI linked debt that they had?!

  4. I know it’s way off topic, but this:
    “There is another episode where Sir Humphrey tells Jim Hacker that you never manipulate such things instead you appoint someone who does not need manipulating!”
    and this:
    “A basic rule of government is never look into anything you don’t have to, and never set up an inquiry unless you know in advance what its findings will be.”
    are just so apropos the child abuse enquiry.
    Any idea why?

  5. Hi Shaun,
    Excellent article and thanks.
    I know that you have alluded to this in the past so you will excuse me correcting your “Who will be affected” paragraph. This should read:
    “Pensioners with a pension which depends on inflation except for members of the Bank of England Pension scheme where all benefits remain linked to the Retail Prices Index”

    • Hi Hoppingpot

      You make an interesting point. I wonder if the old style Bank of England pension scheme (last seen full of index-linked Gilts) will be one of thee objectors to th changes! Perhaps Knight of the Garter Mervyn King will march up and down with a pacard saying “protect my £8 million pension” alongside Paul “protect my £5.7 million pension” Tucker..

  6. Thank you very much for today’s blog, Shaun. As usual, I only find out about the things I am most interested in, like the release of the Johnson Report, from reading your blog.
    One of the glories of UK statistics has to be the conception of the Eurostat harmonised index of consumer prices (HICP), which was largely developed by Britishers like Peter Hill and John Astin. It was their brilliant insight that a consumer price series for upratings like the RPI was inappropriate to an inflation target indicator used by a central bank. For that purpose an HICP would have to be developed using different rules quite inappropriate to an upratings index like the RPI. Even though they were a long way from incorporating an owner-occupied housing index in the HICP, they realized the only approach consistent with HICP principles that could conceivably be used was the net acquisitions approach.
    Now less than 12 years after the UK HICP was adopted as the Bank of England’s target inflation indicator, Mr. Johnson wants to switch to the CPIH for just about everything, although it is absolutely inappropriate to anything. It’s a dysfunctional inflation indicator because it has the wrong OOH component, and it’s a dysfunctional upratings index because nothing in it was designed with the needs of an upratings index in mind. Mr. Johnson would put not just the RPI, but its replacement, the RPIJ, on the chopping block. To Mr. Johnson, the RPI has adopted a defective payments approach to OOH. It doesn’t use a payments approach at all; it uses an accounting approach, which, all things considered, is probably superior to any other approach currently used to calculate OOH for an upratings index. He criticizes the treatment of insurance in the RPI because it’s different from the HICP’s, when the RPI’s approach is superior for upratings purposes. (In fact, the treatment of insurance in the HICP is dysfunctional even for an inflation indicator, and should be reworked.)
    I know that song riffs are more your style than mine but this is a Tobacco-Road kind of report: “Take dynamite and a crane. /Blow it up and start all over again.”

  7. Hi Shaun, aren’t student loans RPI linked (+ 3%) as well? Another colossal debt bombshell pending alongside PFIs of course as being manifested with hospitals.

  8. Good article. One additional point about RPI and CPI is that the way that they are calculated means that RPI is the truer measure of changes in the value of money and CPI will always under value this change by as much as 1.5%. I have argued with the Bank ever since CPI was introduced and they do now hide away an explanation on their website calling it the formula effect. It is the fact that RPI is an arithmetic average and CPI is a geometric average. There is a simple calculation that can produce 25% inflation in RPI and zero inflation in CPI using the same figures and it is RPI that correctly records changes in the value of money in the example

  9. Pingback: ONS proposal to adopt CPIH for inflation and to bury RPI •

  10. Just a matter of correction: the review was by Paul Johnson, not a “panel”. There was indeed an advisory panel (I should know, I was on it!) but as its name implies it was indeed advisory and no more than that. Advice can be accepted or rejected . . .

  11. Pingback: Move to new UK inflation measure sparks controversy - World News Feed

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