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By David Robinson
LONDON (MNI) - The UK government is close to announcing steps towards
overhauling its issuance of inflation-linked bonds, which would mean that fresh
gilt issuance eventually ceases to track the Retail Price Index, widely seen as
flawed, MNI understands.
While the political storm over Brexit raises doubts over the ability of the
government to push forward key projects, an announcement could conceivably come
as soon as the Chancellor of the Exchequer Philip Hammond presents his Spring
Statement on Wednesday. It is still unclear what would replace RPI, but
officials intend to release a map in the near future laying down a route away
from the measure, including examination by an expert group of possible
alternatives such as CPIH, a consumer price index incorporating housing costs.
UK statistics and debt issuance authorities have been wrestling with the
dilemma that while there is a deep and liquid market for RPI-linked gilts,
statisticians, including the national Statistics Authority, accept that RPI
systematically overstates inflation.
The House of Lords Economic Affairs Committee said in a report in January
that the Statistics Authority was at risk of breaching its statutory duty by not
correcting the known errors in the index, and a response from the National
Statistician, John Pullinger, is expected to be published soon.
In his evidence to the committee, Pullinger advocated caution over partial
RPI reform, which would address distortions including an exaggeration of
clothing costs, pushing down the headline rate and narrowing the gap with the
consumer price index but leaving its overall framework intact. Such a move would
add the complication of having to pay existing gilt linker bondholders for loss
Hammond is only likely to back moves to link fresh issuance to another
index, avoiding any question of compensation for existing holders.
Bank of England Governor Mark Carney has made the case for a gradualist
approach, moving to a single inflation measure, whether that be CPI, CPIH or a
successor. RPI is currently used for gilts, as well as for adjusting the prices
of rail tickets and student loans, while the Bank of England's inflation target
is defined in terms of CPI.
"Transition is important, but transition with a sense of the end
objective," Carney told the Lords on January 28.
He said that CPIH looked promising but that further work was needed to road
"One would hope there would be a broader study before moving to the next
phase of adjustment to confirm the appropriateness of that [CPIH] measure. But
it is the most promising option in my personal view and, more importantly, from
the perspective of the experts in the Bank of England," he said.
The final decision lies with Hammond, whose Spring Statement is being
overshadowed by key Brexit parliamentary votes this week, with defeat seemingly
looming for the deal agreed by Prime Minister Theresa May.
The Debt Management Office is expected by market participants to stick with
RPI linkers in its 2019-20 fiscal year issuance. The DMO, however, is expected
to continue to wean investors off RPI linkers by reducing their proportion of
total issuance, to something maybe a shade under 20%, the lowest level since
just after the depths of the global financial crisis.
--MNI London Bureau; tel: +44 203-586-2223; email: firstname.lastname@example.org