By David Milliken
LONDON (Reuters) – Britain should stop issuing inflation-linked bonds that are tied to a flawed measure of price growth that gives bondholders an undeserved £1 billion windfall each year, lawmakers said on Thursday.
The government should issue bonds linked to consumer price inflation (CPI) rather than the older Retail Prices Index (RPI), the economic affairs committee of Britain’s House of Lords concluded after a six-month inquiry.
It also called on statisticians to fix the most obvious errors in how RPI is calculated.
“We’re at a loss to understand why they are not doing what they are required by law to do,” committee chairman Michael Forsyth said of the United Kingdom Statistics Authority, which oversees the quality of official statistics.
Many purchasers of index-linked bonds are insurers who want income to pay private pensions that are linked to RPI.
Since 2013, the UK Statistics Authority has said RPI fails to meet adequate quality standards and that the public should use another measure such as CPI or CPIH, which includes housing costs.
However, RPI remains widely used, both as the benchmark for Britain’s £435 billion of inflation-linked government bonds as well as for setting annual increases in rail fares, student loan repayments and some taxes.
RPI is typically about 0.8 percentage points higher than CPI. The gap widened by 0.3 percentage points in 2010 when there was a change to how clothing prices are averaged that most statisticians think distorted RPI upwards.
The UK Statistics Authority is required to consult the Bank of England and seek permission from Britain’s finance ministry to make any changes to RPI, due to the effect on bondholders.
In response to the report, the UK Statistics Authority said RPI had “significant shortcomings” and it would “continue to work closely with our counterparts in government and at the Bank of England and respond to the committee”.
Currently about £1 billion a year in excess interest is paid to investors owning bonds issued before the 2010 RPI change which increased the gap against CPI, the committee said.
“What we are talking about here is making sure that we have accuracy and transparency about measuring inflation, which I would have thought everyone in the City would welcome – winners or losers,” Forsyth said.
In the mean time, Britain should instead issue inflation-linked bonds that are tied to CPI, the report said.
The UK Debt Management Office, an arm of the finance ministry, has rejected such a change in the past saying it might fragment the bond market.
Based on evidence from BoE Deputy Governor Ben Broadbent, the committee said it did not find concerns about fragmentation convincing.
(Editing by William Schomberg)