RPI vs CPI: what’s the difference between cost of living ONS indexes - how UK inflation rate is measured

After more than a year of record inflation and rising interest rates, the UK has been in the midst of its worst cost of living crisis since the 1970s.

The rate of price rises in the economy dropped to 8.7% in April 2023, according to the Office for National Statistics (ONS) Consumer Prices Index (CPI). It means prices are rising, but at a slower pace than they were in March when the rate was 10.1%.

It also did not fall by as much as the Bank of England had hoped. It means interest rates - the tool the UK central bank uses to control inflation - could be set for another hike in June. The current rate of 4.5% means they are already at their highest level since the 2008/09 financial crisis.

The situation comes as the UK struggles with a flatlining economy and widespread discontent at real-terms declines in wages caused by inflation. Households were hit by further cost increases in April as a result of council tax hikes, an effective income tax increase and rises in other utility bills, such as water.

While we measure price rises through the CPI, another tool the ONS uses is the the Retail Prices Index (RPI). But why does the ONS publish two measures of inflation - the CPI and RPI - and what do these indexes show?

How does the ONS measure inflation?

Inflation is an economic term used to describe price rises for goods and services - and therefore, the spending power of money - in a country over a particular period of time. The rate of these increases can vary based on a number of factors.

For example, if energy costs are high - as they currently are - the price of producing a particular item will go up. In turn, this production cost rise is then likely to increase the product’s shelf price, meaning it has undergone price inflation.

Every month, the ONS gauges whether prices are inflating or deflating by looking at roughly 180,000 prices for around 700 everyday items - it’s so-called ‘basket of goods’ in 140 locations across the UK. It then compares the current average price of these goods with the average it measured the previous year.

So, the 8.7% increase measured by the CPI for April 2023 means goods are priced 8.7% higher on average than they were 12 months previosuly. Translated into real terms, a product that cost £1 on average in March last year, cost just under £1.09 in April 2023. It’s also worth noting that last April’s inflation rate was sitting at 9%, so the latest rate is coming on top of what were already significant price hikes.

While these figures show the overall direction of travel for inflation, several categories are running higher and lower than the headline figure. For example, eggs have an inflation rate of 37% while petrol is deflating at a rate of 9.9%.

These statistics are not only used by the government to set the level of state benefits, among other things, but it also helps UK households to appraise how far their budgets will stretch and when they should make major purchases. However, the ONS takes two slightly different approaches in how it expresses price inflation.

What is the CPI index?

The CPI index is a measure of inflation measured solely using the ONS’s ‘basket of goods’ - a list of items deemed to be central to UK daily life, which is updated every year to reflect changing shopping habits.

For example, meat-free sausages, sports bras and antibacterial surface wipes were added in 2022, and E-bikes, home security cameras and frozen berries have just been added for this year. Casualties from the 2023 basket of goods include alcopops, digital compact cameras and CDs that are not in the UK Top 40.

This basket is weighted so that goods which are more important to households, such as milk, have a greater influence over the index overall than items that are less integral to daily life. These weightings also change over time as shopping habits change or new products move into the mainstream.

CPI is used by major economies across the globe and was formally adopted by the UK in 1996. As the official measure of inflation, it helps to determine the state pension, state benefits and statutory sick pay - rates that tend to be determined by the September CPI. However, it is not a perfect measure for the UK cost of living as it does not include several key household costs, like council tax or mortgage repayments.

What is the RPI index?

The RPI index essentially does the same job as the CPI but typically tracks slightly higher. In October 2022, it hit a record high of 14% but has since fallen to 11.4%.

Its main point of difference is it includes mortgage interest payments, so it is more influenced by house prices and interest rates than the CPI, which does not. It’s actually not used as an official measure of inflation by the Government because the method of calculating it is seen as inferior to CPI.

But it is still used to determine prices in some areas of public life, such as train tickets and phone contracts. The reason why it continues to be calculated is that it has been running in the UK throughout the 20th century and therefore provides a longer term yardstick for inflation.