Tuesday, December 31, 2019

RPI versus CPI

There is no perfect measure of inflation.

I was challenged the other day for quoting the Retail Price Index (RPI) which was described as a "discredited measure."

I don't accept that but I do accept that it might have been helpful to quote both the Consumer Price Index (CPI) and RPI measures and I have gone back and changed the post concerned to do so.

There are various ways to measure inflation and about the only thing which most economists and statisticians agree on is that no one measure is ideal for every purpose.

In my professional work I would usually look at all the main measures to get the best picture of what is going on and then use whichever seemed most relevant to the specific target group.

There is considerable disagreement among economists and statisticians about whether the RPI or the CPI is the better measure of inflation. But many would concur with the view which the distinguished economist and statistician Simon Briscoe of the gave in a note produced for the Royal Statistical Society (RSS) meeting held on 13 June 2018, as follows:

"There are many different purposes for a price index. No one price index fulfils any one of those stated purposes perfectly. No one index is perfect for all purposes. Considering the purpose of the price index is the obvious starting point for analysing its appropriateness."

I think that the RPI should be a tool in the locker, but the RPI advisory committee which ran for forty years until Gordon Brown's unwise decision to scrap it should be re-created, so that proper governance is in place which might have prevented the problems which the House of Lords recommended in January this year should be fixed.

If you use only RPI then I think there is a risk that you will overestimate the level of inflation, except during severe recessions.

If you use only CPI then I think there is a risk that you will underestimate the underlying level, and you may miss one warning indicator, the two diverging, which can indicate an unbalanced economy.,

You'll also miss a good recession indicator warning - when RPI goes lower than CPI.

Incidentally there are also governance issues with the CPI.

I am sympathetic to the view that the current policy of governments of all parties to "cherry pick" which index to use by uprating charges in line with RPI but using CPI to index payments, while helpful to the national finances, looks unfair to those who have to pay the former and receive the latter. We need a more consistent policy.

There ARE some economists who don't like RPI at all and would scrap it, but I think the recommendation which the House of Lords took in January 2019 - keep it as one of a package of measures but fix the issues they highlighted - is a more balanced view.

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