The UK government has confirmed long-awaited changes to the retail prices index (RPI) rate of inflation to bring it in line with the consumer prices index (CPI) measure, although they will not be implemented before 2030.
The UK Statistics Authority recommended in September last year that the government immediately bring the RPI in line with the CPIH, which also includes owner-occupier housing costs.
However, chancellor of the exchequer Rishi Sunak will not enact the changes before 2030 due to the use of RPI in two specific index-linked gilts.
Sunak acknowledged the ‘statistical arguments’ of the UK Statistics Authority, but said he would not implement it before 2030 in order to “minimise the impact of reform on the holders of index-linked gilts”.
RPI over 5yrs
Source: Office for National Statistics
David Norgrove, chair of the UK Statistics Authority, regretted the government’s decision to delay the change until 2030.
He said: “It is UK Statistics Authority policy to address the shortcomings of the RPI in full at the earliest practical time.”
Norgrove urged the government and others “to cease to use the RPI, a measure of inflation which the government itself recognises is not fit for purpose”.
The Treasury said last year that it would consider a change to the way inflation is measured at some point between 2025 and 2030, but the chancellor has pushed it as far back as he can to make sure it isn’t ‘materially detrimental’ to index-linked gilt holders.
Richard Carter, head of fixed interest at Quilter Cheviot, said markets had been awaiting the announcement given its impact on a range of assets.
He said “In the event, the government has decided to align RPI with CPIH from February 2030 but will not be paying compensation to holders of index-linked gilts.
“So far the reaction has been relatively modest suggesting the move was largely discounted already.”
Nevertheless, investors with index-linked gilts in their portfolio could see lower index linking – if they are linked to RPI – and could also see their value fall as investors view them as less attractive.
In addition, some warned there could be longer-term consequences for investors and pensioners.
“Chancellor Rishi Sunak has pushed the effective abolition of the RPI inflation measure as far back as he can to ensure it is not ‘materially detrimental’ to holders of index-linked gilts,” said AJ Bell senior analyst Tom Selby.
“However, from 2030 onwards the message is unequivocal: if you are negatively impacted by this, tough.
He added: “The government is clear it will not provide any kind of compensation to those who lose out as a result of the downgrade in the value of RPI.”
Those negatively affected include millions of defined benefit (DB) scheme members whose pensions are linked to RPI, and those who have bought annuities from insurance companies promising annual RPI inflation rises.
Selby said while the average difference between RPI and CPIH might look small at 0.8 percentage points, “over time that could lead to a retirement income worth thousands of pounds less”.
Sarah Coles, personal finance analyst at Hargreaves Lansdown, described the decision as a ‘major blow’ for pensioners and investors, and said pensioners will be the ones to “pay the lion’s share of the eye-watering cost of this move”.
Coles explained: “The government will change the way RPI is calculated to make it more like CPIH – which is likely to make it lower. This will mean any pensioners with an RPI-linked income will see it rise slower in future.”
The Pensions Policy Institute found that nearly two-thirds of private sector DB schemes currently uprate pension benefits in line with RPI, and calculated that the shift in 2030 would cost the average man £6,000 and the average woman £8,000.
On the flipside, Coles said the decision will also “stop the government from going inflation shopping – linking things we pay the government to higher RPI, and government spending to lower CPI”.
However, she said there was an easier way to do this.
“The government could have simply done the right thing and used a single inflation measure, without the need to take the money out of the pockets of pensioners,” Coles explained.