POLITICS
Not so great inflationary expectations
NOEL MALCOLM
The most striking thing about last week's shock horror inflation figure of 7.8 per cent was how little shock or horror it managed to produce. There is something of a 'phoney war' feeling in the air: tin hats have been issued in Downing Street, and gas masks have been passed round Con- servative Central Office, yet the sun keeps shining and people still go about their business as if the price-rise invasion were the last thing they worried about.
They worry about the economy, of course; but uppermost in their minds are mortgage interest charges and the size of the trade deficit. The first of these affects roughly half the population, while the second affects no one in any direct, easily describable way; inflation, on the other hand, affects everyone directly. If public concern about inflation really does take off, this should have a great impact on the Government's opinion poll ratings. Yet the latest MORI/Times poll states that 52 per cent of the people questioned thought the Government was handling the economy well — a fall from 62 per cent this time last year, but an absolute majority nonetheless.
There are no doubt many overlapping explanations for this surprisingly in- souciant state of affairs, most of them belonging to the realm of psychology than to the domain of strict economic science. Psychological trigger points play their part: 'double figures' is a favourite one, and the fact that this phrase is now constantly on the lips of Government spokesmen shows that they are at least confident that infla- tion will not rise above 9.9 per cent. Despite all the evidence that Treasury forecasts are no more reliable than a visit to Madame Petulengro, the population seems to accept the Government's claim that inflation will rise to eight per cent-ish this summer, and then fall to roughly 51/2 per cent by the end of the year. The element of panic fear — real fear of the unknown — which is an essential ingre- dient of any true inflation scare, is there- fore lacking.
But behind these psychological im- ponderables lies a much more important question which is all too seldom asked: what do people think inflation is? What is it that they think the Retail Prices Index measures? St Augustine once posed a similar problem: For what is time? Who can even comprehend it in thought or put the answer into words?
Yet is it not true that in conversation we refer to nothing more familiarly? If no one asks me, I know what it is. If I wish to explain it to him who asks me, I do not know.
Most people, I imagine, would have similar difficulties with the inflation figures. There is a very widespread belief, for example, that the RPI is a 'cost of living' index; yet this is explicitly denied by the people who compile it. The RPI gives no special importance to basic living costs, as opposed to the costs of any other things that people happen to spend their money on. Essentially, it is a 'cost of average spending' index; and one rather intriguing consequence of this is that the RPI does not simply measure inflation. It also mea- sures social change.
Each year, the Family Expenditure Sur- vey compiles a detailed record of average household spending, broken down into categories such as 'butter', 'rail fares' and 'footwear'. From this information the bas- ket of goods measured by the RPI is devised, with different weightings for the different components. If the general public suddenly starts spending its money on caviar this year, then the cost of caviar will become a component of the RPI, and the weighting given to the sub-section 'fish and fish products' will rise accordingly. The most literal-minded interpretation of infla- tion would say, no doubt, that inflation is what happens when you have to pay more for the same thing. But on that interpreta- tion the RPI simply does not measure inflation from one year to the next, be- cause each year the things of which it counts the cost are slightly changed.
The reasons for running the system in this way are obvious enough; if we had always stuck to the same basket of goods, we would today be monitoring the prices of horse-shoes and candles instead of petrol and electricity. But it is worth remember- ing that when we compare our inflation rate with that of, say, Japan, the compari- 'I'm stuck for a punch-line.' son is lacking in real meaning unless we also compare the different expenditure patterns of British and Japanese house- holds. And it is also worth remembering that, when compared with a cost of living index, the RPI has a built-in inflationary tendency of its own. When a particular category in its basket of goods rises at less than the overall rate of inflation, that category will usually be punished for its success by being given a lower weighting next time round, because it has come to occupy a smaller proportion of total spend- ing. Its power to keep the overall rate down is therefore diminished. Food, for example, was weighted as 25 per cent of the basket in 1977; price rises for food have usually under-performed the general rate of inflation; and the result is that food has now been demoted to a weighting of 16 per cent.
The case of food also illustrates the strangely roundabout way in which the RPI reflects changes in people's real incomes. The Average Earnings Index has risen at a consistently higher rate than the RPI ever since 1982. Any increase in real earnings is more likely to be spent on more videos or better cars (or more exotic package holi- days, which the RPI incidentally does not cover) than it is on more food or more shoes. The higher real earnings rise, the more the RPI comes to differ from a basic cost of living index.
If people no longer believe so religiously in the inflation figures, that is a develop- ment wholly to be welcomed. The richer people are, and the wider their range of choices, the less sense it makes to talk in terms of a single overall rate of inflation. We all experience slightly different rates, according to how we spend our money. Mr Lawson's recent tendency to offer us two rates (one with mortgage interest, the other without) is at least a step in the right direction: there is no reason why a single, mortgage-including figure should be used in the calculation of pensions or students grants when almost no students or pension- ers pay mortgages. But why stop there? Why not have a non-smoker's index, an alcoholic's index, a vegetarian's index, a Yorkshireman's index and a Londoner's index? Let a thousand indices bloom, so that people may cease to be obsessed with the artificial constructs of the statisticians and learn to think instead of the real needs and desires of their own ordinary lives.
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