Yesterday lunchtime I went to the Royal Statistical Society to attend a meeting on a new proposed inflation measure. This is to be their response to a paper jointly written by Jill Leyland of the RSS and John Astin who was involved in the construction of CPI at Eurostat. This proposed a new Household Inflation Index which I consider to be an improvement What Jill and John were aiming at was a new inflation measure which would better reflect the circumstances of the ordinary household than present measures. Before I present more on the proposal let me give a simple reason why. The current official inflation measure in the UK called CPI ( Consumer Prices Index) measures the situation of someone around 66% on the expenditure distribution scale and not 50% so it is quite a difference from either the average or median. If you think that it is potentially misleading then so do I.
The Index of Household Payments
You may be wondering at the name change well Nick Vaughan who used to be at HM Treasury but now is apparently an independent at UK Statistics told us that they had spent as much time discussing this as the principles. I found that rather stunning. However I will draw from the proposal what I think are the meat of the new suggestions.
utilisation of a payments approach to measuring owner-occupier housing costs, and the inclusion of some measurement of the capital cost of housing
Those who follow my work will know that I believe the UK establishment has gone to enormous efforts to avoid this so that it can pump up the housing market and claim that as growth and ignore the fact that much of it is inflation. I made the point in the discussion that this area is the one debated time and time again so let me complete the detail.
These elements include but are not limited to: mortgage interest payments, mortgage protection premiums, minor repairs and maintenance, Stamp Duty land tax, transaction fees, building insurance and ground rent…….. the index should include down payments, mortgage capital repayments and major renovations or extensions.
Also the issue I raised earlier about CPI being unrepresentative on the expenditure scale is addressed below.
application of equal weight to the expenditure of all UK households (household weighted)
Some call this democratic weighting although I am not sure that always helps. But we are switching from those with more expenditure having more influence on the measure. another change is this and if you are wondering where it might be relevant then university tuition fees are a clear example.
measurement of price changes, in principle, at the time that goods and services are paid for, rather than when they are acquired.
There are other changes such as more comprehensive coverage of interest costs such as student loans. I do not think this is perfect as I would look for a net rather than a gross measure ( i.e deduct savings interest ) but overall there is much to support this proposal which is why I do.
How the proposal was nobbled before it even began
Easy they plan to produce it only annually rather than monthly. There were audible gasps at this and a lot of criticism. A very good point was made by Simon Briscoe when it was argued that as it was based on the national accounts CPI should on such grounds only be produced quarterly to match the GDP (Gross Domestic Product) data!
I pointed out that I had been expecting a Sir Humphrey Appleby style nobbling of the scheme and that this was it. I asked why they had wasted taxpayers money and people’s time on a proposal which now was now pretty much pointless? Yet again the UK establishment had operated against a plan to measure housing costs. I told Nick Vaughan that the establishment he represented had brought forward an utter turkey in this area which is CPIH (where H is for housing costs) and if you use Twitter as a measure of acceptance then it was registering 0 mentions on days it was released apart from me. I stated that for something which he was proposing as the new single national measure that was another failure. I have just checked over an hour after its release and the number of mentions is again 0.
There were two other bizarre establishment claims. Incredibly it was claimed that the plan was for one inflation measure so they did not want to produce others. An excellent reply said that in the latest Bank of England Quarterly Report there were 30 different measures in the first 4 pages! Thus mentions of a single measure were pure fantasy.
Next was this claim “people do not know what they spend their money on”. The general consensus was that this was both condescending and wrong.
Let me highlight the principles above from today’s data. Here is our official measure.
The all items CPI annual rate is 0.6%, unchanged from last month.
Now let me show you house prices.
Average house prices in the UK have increased by 8.3% in the year to July 2016 (down from 9.7% in the year to June 2016), continuing the strong growth seen since the end of 2013.
Now look at what the experts picked by the UK establishment have done with this.
The all items CPIH annual rate is 0.9%, unchanged from last month.
This is because they use rents as a measure. I pointed out to the meeting yesterday that when CPIH was proposed I had raised at the RSS the issue that we had no reliable measure of them. This was proven correct when the initial system was abandoned. Also that it was a known fact that they take 3 years to respond to economic changes meaning that if the Bank of England used it and made a policy change then it was much more likely to be wrong than right,especially when we allow for the time policy changes take to work (18/24 months to work fully).
Also look at the gap between our current inflation measure and the previous one.
The annual rate for RPIX, the all items RPI excluding mortgage interest payments (MIPs) index, is 1.9%, unchanged from last month
That is not only the fault of the RPI and a difference of 1.3% compares to a change in the inflation target of 0.5%.
What will happen next?
Whilst annual inflation was unchanged there are signs in the system of what the Scorpions called the winds of change.
The overall price of materials and fuels bought by UK manufacturers for processing (total input prices) rose 7.6% in the year to August 2016, compared with a rise of 4.1% in the year to July 2016.
That is apparently mostly being driven by the oil price rather than the lower UK Pound although of course the two do combine. So far it is only edging into the next stage.
Factory gate prices (output prices) for goods produced by UK manufacturers rose 0.8% in the year to August 2016, compared with a rise of 0.3% in the year to July 2016.
So as 2016 develops we will see input costs affect output costs and then CPI. Just as a reminder I was expecting a pick-up in the annual rate before we had the lower UK Pound so now we will get the beginnings of a joint effect. Last year the price of crude oil fell overall towards the year-end as we wait to see what it does this year.This will have an economic effect via lower real wages for example.
If we look at today’s numbers we see that the headline annual rate was unchanged although as I have discussed above there are upwards pressures in the pipeline. The gap between house prices and the inflation rate is glaring and as the Bank of England will give more details on the house price friendly Term Funding Scheme later this week seems a deliberate policy. That is why first time buyers need so much “Help”.
Meanwhile we see a potential advance in UK inflation measurement completely undermined. As was pointed out by John Astin we need more information and not less. Also I noted that quite a few of my points were made by others so it was nice to see the messages getting home. By contrast the official response was poor and included saying yes when they meant no and also waffling away rather than answering questions.