RPI or CPI? That is the question...

We believe that Retail Price Inflation (RPI) is a less effective measure of inflation and favour Consumer Price Inflation (CPI)


Nathalie Krekis

Nathalie Krekis

Portfolio Director

Cazenove Charities

We believe that Retail Price Inflation (RPI) is a less effective measure of inflation and favour Consumer Price Inflation (CPI) for three key reasons;

  1. CPI is the accepted national standard for measuring inflation
  2. The formula of RPI is flawed and leads to a long-term upward bias
  3. CPI is a more accurate measure of economy-wide inflation

1. The national standard

Over recent years CPI has superseded RPI as the industry-standard measure of inflation. Historically, the Retail Price Index (RPI) or RPIX (the RPI excluding mortgage interest payments) was widely used to measure inflation. When the Monetary Policy Committee (MPC) was first established in 1998, it used RPIX as the targeted measure of inflation at a rate of 2.5%. The Consumer Price Index (CPI) was adopted as the official target in January 2004.

The basket of goods and services used to calculate CPI and RPI began life in 1947 with 150 items and has now grown to over 700 items. The basket is updated on an annual basis to reflect the changing patterns of consumer spending.

RPI continues to be produced by the ONS because of the needs of users who have long term contracts linked to this inflation measure as well as for index linked government bonds. However it is no longer the official measurement.

We believe that our clients should not be using a measure of inflation which is considered by the ONS as a legacy calculation rather than as an informative measure of consumer inflation. This is emphasised by the following quote from The National Statistician:

In 2013, the RPI lost its status as a National Statistic. Our position on the RPI is clear: we do not think it is a good measure of inflation and discourage its use. There are other, better measures available and any use of RPI over these far superior alternatives should be closely scrutinised.

2. A flawed formula

There are two main differences between the construction of RPI and CPI: the basket of products (and basket weightings) included in the index, and the statistical method used to construct the indices. The RPI lost its National Statistics status in March 2013 as the ‘Carli’ formula used to calculate average price changes did not meet international standards. For example, Canada had stopped using the Carli formula in 1978 and of 30 countries surveyed by the Office for National Statistics (ONS) in 2012 none used this calculation.

In analysing the methodology for calculating inflation, the United Nations Practical Guide to Producing Consumer Price Indices says:

A key result is that the Carli formula for the arithmetic average of price relatives has an upward bias relative to the trend in average item prices. Consequently, it is a formula to be avoided and some judge that it should be prohibited.

The 2015 UK Consumer Price Statistics Review conducted by the UK Statistics Authority concluded that the additive nature of the RPI formula leads to a long-term upward bias in recorded inflation, especially when prices fluctuate. This introduces an artificial gap, known by statisticians as the wedge, between the index and the actual level of prices.

Most economists regarded the move by the Bank of England and ONS to adopt CPI as the headline measure of inflation as an easing in policy due to this long run wedge between the two inflation comparators. Having discussed the merits of our clients moving to a CPI measure we understand that many will be concerned that we are lowering the overall investment target due to this long run wedge. We believe that the conversation amongst Trustees should focus on the charity’s long term spending plans and the inflation that it is exposed to as this is what will shape the investment strategy in order to meet their specific investment objective.

3. CPI: a better measure of true inflation

We believe that CPI is better than RPI as a measure of the true inflation in the economy. We recognise that defining what might be considered the ‘true’ rate of inflation is difficult as the basket of goods that might be representative for one social group or age group may not be appropriate to another. It is also the case that inflation rates for charity expenditure also varies, depending on their exposure to wages, property costs, education etc. However, assuming that asset returns are based on economy-wide inflation, we believe it is appropriate to use a measure of prices that most closely reflects the wider economy, whilst also being the accepted national standard.

Whereas RPI only covers expenditure by private domestic households, CPI covers all expenditure within the UK by private households, residents of institutions such as university halls of residence or nursing homes and visitors to the UK from abroad. This broader coverage ensures CPI is more representative of inflation in the UK economy.

It is five years since the government announced that CPI would replace RPI in occupational pension’s legislation, stating at the time that CPI was a more appropriate measure of pension recipient’s inflation experience. Since the start of the millennium – the weights of education and communication in the CPI basket have risen as university fees have increased and more use has been made of mobile phones and bundled communication services.

We are recommending using CPI as the relevant inflation index for our charity investment mandates going forward.  We are changing the reference index for our Charity Multi-Asset Fund on conversion to a Charity Authorised Investment Fund in June 2018.  We will also be using CPI as the measure of inflation for our new Charity Responsible Multi-Asset Fund, launching at the same time.  

We continue to believe that inflation plus 4% over the long term is a realistic target for these Funds, but would highlight that short term returns are likely to be more challenging – given starting valuations and the strong recent returns from equity markets.

The adoption of CPI as the national standard, the flawed calculation technique of RPI and the more relevant basket of goods we believe provide compelling reasons for inflation-plus investment mandates to use CPI as the base measure of inflation. 


Nathalie Krekis

Nathalie Krekis

Portfolio Director

Cazenove Charities

Nathalie joined Cazenove Capital after graduating from Leeds University in 2008 with a BSc in Sports Science where she was also an athletic scholar. Nathalie has completed the Chartered Institute of Securities and Investment diploma and is a Portfolio Director within the Charity team. She is Chair of the European Equity Fund Committee and a member of the Asian Equity, Private Equity and Charity Investment Committee. Nathalie is also a Member of the Chartered Institute of Securities and Investment and a Fellow of the Royal Society of Arts.

The opinions contained herein are those of the author and do not necessarily represent the house view. This document is intended to be for information purposes only. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Information herein is believed to be reliable but Cazenove Capital does not warrant its completeness or accuracy. No responsibility can be accepted for errors of fact or opinion. This does not exclude or restrict any duty or liability that Cazenove Capital has to its customers under the Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system. Cazenove Capital is part of the Schroder Group and a trading name of Schroder & Co. Limited 12 Moorgate, London, EC2R 6DA. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. For your security, communications may be taped and monitored. 

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James Brennan

James Brennan

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