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Inflation measure switch could cost savers and investors £122bn

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Proposals to adopt a new headline measure of inflation could leave savers, pensioners and investors £122bn worse off, estimates suggest.

A consultation by the government and the UK Statistics Authority to align the Retail Prices Index (RPI) measure of inflation with the historically lower Consumer Prices Index (CPI) including owner occupiers’ housing costs (CPIH) closes today.

It follows calls by statisticians and politicians to use one single, more accurate measure as currently, the government uses a mix of inflation measures for different policy areas.

Because RPI tends to be higher than both CPI and CPIH, jettisoning RPI in favour of CPIH could significantly reduce the expected returns on long-term savings products, especially defined benefit pensions, according to the Association of British Insurers (ABI).

It estimates that implementing the proposed changes in 2025 could leave those affected worse off by up to £122bn by reducing the value of index-linked gilts. Even if the change was implemented by the later 2030 date proposed, savers would still lose out on £96bn.

As such, it is calling for the latest possible implementation date to reduce the impact on savers. The ABI also recommends compensation for savers is considered given the financial implications for them and the wider economy if the reforms go ahead. It is expected people with life insurance, pensions policyholders and defined benefit pension scheme members will be most affected.

Hugh Savill, director of conduct and regulation at the ABI, said: “It is widely accepted that the RPI model is less than perfect, but the proposal’s impact will be felt by policyholders and pension savers for decades.

“If the reforms go ahead, and given the impact for savers and the wider economy, it is vital the implementation date is later rather than sooner. Compensation by the government should also be seriously considered to avoid creating winners and losers.”

‘Index shopping’

Tom Selby, senior analyst at AJ Bell, said the big question the government needs to answer is the extent to which it will mitigate any negative impact on people with pensions and investments explicitly linked to RPI.

“One option in this regard would be to maintain a notional RPI which these contracts could then adopt, although this might mean RPI remains part of the system for decades.”

However, Selby notes the move to a CPI measure would be good news for young people and commuters.

He said: “The government has doggedly, and some would say cynically, continued to link things like rail fare increases and student loan repayments to RPI, ensuring a quiet and creeping boost to Treasury coffers.

“Conversely, the state pension, benefit payments and tax thresholds have been linked to the lower CPI measure, leading to accusations of ‘index shopping’ by successive administrations.

“Moving away from RPI to CPIH could precipitate an end to this approach and provide a much-needed boost for indebted students and rail passengers.”

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