Number’s Up For The Consumer Price Index

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Written By Mahmoud Sarvari

The nearest the normally sedate world of statistics comes to a spat has finally been settled in an orderly fashion after almost three years of debate.

The argument was over how to correctly measure UK inflation in the economy.

The Office of National Statistics maintains inflation measures.

However, the country’s venerable statisticians took their measured approach to disputing how inflation is calculated.

First, they rejected the Retail Price Index (RPI) as the headline measure of inflation as they felt the formula calculating the rise and fall of the cost of living was flawed.

The Consumer Price Index (CPI) replaced the RPI, but the rumour was the government preferred the CPI as the formula excluded housing costs and returned a lower inflation rate than the RPI.

Years of debate

As benefit and state pension increases are based on the rate of CPI in September each year, The Treasury has made a significant saving on funding index-linked state payments to the unemployed, disabled and elderly.

But the statisticians wanted to replace the CPI with another measure that also included housing costs as they are a major factor contributing to inflation.

So, in 2013. The CPIH – the ‘H’ stands for housing costs – was introduced with the intention of replacing the CPI as the headline inflation measure at some point.

Now, after years of inquiries, debate and reports, the CPIH has won designation as an official national statistic.

But the new index won’t report the official inflation rate for some while as statisticians need a running in period to test how good the results are.

The problem they need to resolve is how to measure housing costs.

The CPIH ignores mortgage and other related costs and relies on ‘rental equivalence’.

“This answers the question ‘how much would I have to pay in rent to live in a home like mine?’ for an owner-occupier,” says the ONS.

Unlikely to reach agreement

“In other words, we value housing services by looking at the cost of the next best alternative to home ownership, namely renting a property: ‘if I did not own a home, I would need to rent one’.

“Rents are therefore a proxy for the cost of home ownership. Importantly, the rental equivalence approach does not capture changes in asset value; rather it measures the change in price of housing services provided.”

Now, the teams building the index feel rental equivalence is not flawless either.

“it is unlikely there will be agreement among all users on the best approach. Nevertheless, the potential of the rental equivalence measure to more accurately reflect the consumption costs of owner occupiers is greater and, as such, is our preferred method of measuring this item,” says the ONS.

So that’s straightforward then. The ONS is replacing the official cost of living index with a new one designed to more accurately reflect the true rate of inflation, but before measuring starts experts have their doubts that the underlying formula returns the right figures.