Measurement of UK Consumer Price Inflation A presentation given to the Royal Statistical Society,...

Measurement of UK Consumer Price Inflation

A presentation given to the Royal Statistical Society, January 2011

Pam Davies, Darren Morgan & Phil Gooding Office for National Statistics

Topics included in the presentation

1. History & Background of the CPI & RPI

2. Current Practice: coverage, approach & methods

3. Differences between the CPI & RPI

4. Uses and Users of the CPI & RPI

5. CPI & RPI Governance

6. Future CPI & RPI Work Programme

7. Consultation

1. History & Background of the CPI & RPI

1. History & Background of the CPI & RPI

RPI:

• ‘old lady’ of UK inflation measures

• established in June 1947 although not ‘official’ until January 1956

• 1947 - 1994: improvements via recommendations from RPI Advisory Committees

– 1956: population coverage established

– 1962: weighting framework should be updated every year via a household budget survey

– 1971: construction of regional prices feasible but costly and determined should not proceed

– 1974: measurement of owner-occupied costs changed to Mortgage Interest Payments from rentals equivalence

– 1995: measurement of house depreciation included

• 1995 – 2008: improvements agreed via protocols between ONS (UK Statistics Authority), Bank of England

& Treasury

– 2004: move to hedonic regression approach to quality adjustment for certain high-tech goods

• Since 2009: Consumer Prices Advisory Committee set up to Advise the Authority on improvements

– 2010: change to Average Effective Rate from Standard Variable Rate in measurement of Mortgage Interest Payments

1. History & Background of the CPI & RPI

CPI:

• ‘new kid on the block’ - born Jan 1996; key principle international comparability &

standards

• standards of construction and continuous improvement via European legislation

– 2000: population extended from private households to also include institutional

households and visitors to the UK

– 2001: hospital services and nursing and retirement homes included

– 2002: financial services expressed as proportion of transaction value included

• meteoric rise:

– developed by EU to assess membership of the European Monetary Union

– became ECB’s inflation measure to define/assess price stability in Euro area

– since Dec 2003 basis for UK Government’s inflation target

– from Apr 11 used in indexation of benefits, tax credits and public service pensions

2. Current Practice: coverage, approach & methods

2. Current Practice: coverage, approach & methods

Topic CPI RPIPopulation Base

• all private & institutional households

• foreign visitors to the UK

• excl. top 4% of households by income • excl. pensioner households (those who derive three quarters of total income from state benefits)

• excl institutional households

• excl. foreign visitors to the UK

Commodity Coverage

• excl. certain housing costs e.g. owner occupied housing, council tax and house depreciation

• incl. university accommodation fees, foreign students university tuition fees, unit trust & stockbrokers charges

• incl. housing costs e.g. mortgage interest payments, depreciation, buildings insurance and council tax

• excl. university accommodation fees, foreign students university tuition fees, unit trust & stockbrokers charges

Product Coding

• standard international classification system • consistent with system used by National Accounts

• long standing system not used except for the RPI

Population, Coverage & Classification

2. Current Practice: coverage, approach & methods

• 180,000 individual price quotes each month

• 680 different products

• 20,000 shops and service providers + the internet

• 141 locations around the UK

• collection from ONS rather than high street for certain products– national pricing policies

– non-store collection e.g. football admission prices, domestic gas

– internet shopping

Data Collection (CPI & RPI)

2. Current Practice: coverage, approach & methods

• exactly the same approach for CPI & RPI

• each price quote subjected to different validation tests e.g.– month on month movement– variation since base period– minimum & maximum ranges– dispersion for price quotes within a particular item

• each failure reviewed and decision made on acceptance or rejection

• decisions on ‘comparability’ reviewed by at least two different quality assurers

Quality Assurance & Checking

2. Current Practice: coverage, approach & methods

Topic CPI RPIWeighting Framework

• draw on full range of sources from National Accounts

• Household Budget Survey only

Aggregation • mainly use geometric mean at first stage of aggregation

• arithmetic mean at first stage of aggregation

Rounding (annual & monthly rates of change)

• calculated from unpublished, unrounded data

• calculated from rounded published data

Weighting, Aggregation & Rounding

2. Current Practice: coverage, approach & methods

• Pre-release access: – CPI & RPI: 24 hours for Treasury, Bank, BIS & No. 10

– CPI: 3.5 days for MPC when meeting the week prior to publication

– CPI: 5pm on Fri prior to publication (Tues) inform Bank & Treasury whether Open

Letter protocol triggered

• Internet publication:– headline publications (statistical bulletin, nugget)

– detailed data (detailed briefing, Focus on Consumer Prices)

– database for downloading data for further analysis

– other ONS publications

– social media

• Press conferences:– wire agencies– newspapers

Publication

2. Current Practice: coverage, approach & methods

• exactly the same approach for CPI & RPI for standard improvements:

– weighting framework completely updated every year

– basket of goods and services updated every year

– both done to ensure CPI & RPI reflect latest household spending patterns

• methodological development also implemented e.g.

– 2010: improved methods for measurement of mortgage interest payments in the RPI

– 2011: improved measurement method for seasonal items for CPI & RPI

Annual Improvements

3. Differences between the CPI & RPI

Breakdown of the differences between CPI and RPI

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Breakdown of the differences between CPI and RPI

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Breakdown of the differences between CPI and RPI

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Breakdown of the differences between CPI and RPI

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

3. Main differences

Topic CPI RPIPopulation Base

• all private & institutional households

• foreign visitors to the UK

• only spending in the UK is covered

• spending data from Household Final Monetary Consumption Expenditure in UK National Accounts

• excludes top 4% of private households by income

• excludes some pensioner households

• excludes institutional households

• excludes foreign visitors to the UK

• includes spending both within UK and abroad by UK households

• spending data from household survey ie ONS’s Living Costs and Food Survey

3. Main differences

Topic CPI RPICommodity Coverage

• excludes most housing costs e.g. owner occupied housing & council tax

•excludes TV licence, road fund licence

• includes university accommodation fees, foreign students university tuition fees, unit trust & stockbrokers charges

• includes housing costs e.g. mortgage interest payments, depreciation, buildings insurance and council tax

• includes TV licence, road fund licence

• excludes university accommodation fees, foreign students university tuition fees, unit trust & stockbrokers charges

3. Main differences

Index Construction Formulae• CPI

– mostly geometric mean– based on European regulation

• RPI– arithmetic mean– from historical rules developed under auspices of earlier Advisory Committees

Geometric mean Arithmetic mean• generally below the arithmetic mean

• reflects changes in spending patterns relative to changes in price ie substitution from dearer to cheaper products

• generally above the geometric mean

• assumes no substitution between products

3. Main differences

Topic CPI RPIProduct Coding

• standard international classification system• consistent with system used by National Accounts

• long standing system not used except for the RPI

Rounding (annual & monthly rates of change)

• calculated from unpublished, unrounded data

• calculated from rounded published data

Procedures for making changes

• follows from European Regulation agreed by Member States

• proposed changes require approval of UK Statistics Authority• Authority consults Bank of England on whether change is fundamental and materially detrimental to index-linked gilt holders• if materially detrimental, consent of the Chancellor• public consultation

4. Uses and Users of the CPI & RPI

4. Uses and Users of the CPI & RPI

CPI:

• macroeconomic indicator

– UK Government’s official inflation target

– deflation of certain economic series

• international comparison and inflation measurement

– used by Eurostat in calculation of European Union inflation

– nearly always used when UK inflation compared to other countries

• income adjustment

– indexation of salaries?

– indexation of pensions and benefits

• price adjustment

– contract escalation?

4. Uses and Users of the CPI & RPI

RPI:

• macroeconomic indicator

– inflation measure

– deflation of expenditure and output

• income adjustment

– indexation of tax allowances

– indexation of salaries

– uprating redemption values of certain gilts and national savings certificates

• price adjustment

– contract escalation

– price regulation

5. CPI and RPI Governance

CPI Governance

• European statistical systemSeries of regulations

• UK part of the ESS, so has influence over decisionsONS represents UK view

• UK does not have a free hand to dictate changes to CPI

• Unless UK decides to pursue a national version of the CPI…

RPI Governance – pre 2008

• Previously managed via RPI Advisory CommitteeThe Committee advised the Chancellor on RPI

methodological issues etc

Met only infrequently• Last met in 1994

‘Major’ changes considered by the RPIAC

RPI kept up to date through regular update of basket of goods and services and of weights etc

RPI Governance – post 2008

• Statistics and Registration Act 2007 established new arrangements

Proposed changes require approval of Statistics Authority

Authority to consult Bank over whether proposed changes are fundamental and materially detrimental to index linked gilt holders• If yes, then Authority needs Chancellor’s approval for the

change

• If no, then Authority can proceed with change

Authority established a group of experts to advise them – the Consumer Prices Advisory Committee (CPAC)

CPAC Terms of Reference

1. To advise the UK Statistics Authority on the implication for the Retail Prices Index (RPI) of the improvements to this index recommended by the Office for National Statistics (ONS).

2. To provide the UK Statistics Authority with advice on RPI methodological issues.

3. To advise the UK Statistics Authority on improvements to the UK Consumer Prices Index (CPI) recommended by the ONS.

The new governance framework

• Enables:RPI to be better measured through implementation

of improved methods

Greater alignment of RPI and CPI methods

ONS to have access to expertise on inflation

Greater transparency on proposals for change

Clear and efficient decision making process

• But:Still not easy to make changes to the RPI

6. Future CPI & RPI Work Programme

CPAC programme

• Possible implementation in 2011 /12Further development of owner occupiers’ housing

costs for the CPI

Measurement of rents in the CPI and RPI

Measurement of cars in the CPI and RPI

CPAC Programme

• Possible implementation in 2012 /13Review / update sample selection of locations for the

CPI and RPI

Review of the optimum base period in the construction of the CPI and RPI

CPAC Programme

• Possible implementation in 2013 /14Speeding up publication of CPI and RPI

Review of data collection methods for CPI and RPI

Review temporal coverage of CPI and RPI

National Statistics Assessment

• Published in December 2010• Made five recommendations

Develop greater understanding of use made of the statistics

Publish information about timeliness of statisticsPublish information on history and reasons for

differences between CPI and RPIEnsure new website improves accessibility of

informationEnsure releases are issued at 9.30am

• To be implemented by May 2011

Also some suggestions

• Some about the range of outputsRegional price indicesIndices for range of different household typesPossibly an index of perceptions of inflation

• Some for more analysis and explanationTo explain uses and potential usesOf strengths and weaknesses of CPI and RPI as

macroeconomic measures and as compensation indices

Explain differences between price index and cost of living index

Other suggestions

• Some about presentation of informationFurther improve statistical bulletin

• Additional commentary on external developments• Drawing attention to significant information in latest

figures• Include clear explanation when differences between

CPI and RPI is significant

7. Consultation

Consultation

• Number of different channels:– As part of wider consultation

• Recent ONS wide consultation

– Formal consultation:• Mortgage interest payments• Seasonal items

– Via Statistical Bulletin• Review of changes to Bulletin

– Via regular contact with users

Contact us

• By email: cpi@ons.gov.uk

• By telephone: 01633 456900

• On Twitter: www.twitter.com/statisticsONS

• Our website: www.statistics.gov.uk