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The coalition's £11bn stealth cut: switching from RPI to CPI

A technical quirk will allow the government to skim small amounts each year from lower income households.

What's the biggest cut George Osborne has made as Chancellor? Scroll through the Budget Red Book and the answer may surprise you. There's the removal of child benefit from higher rate taxpayers, clocking in at £2.5bn by the end of the parliament, and there's the time limiting of incapacity benefit which will save, eventually, around £1.2bn. But the biggest cut of all makes both moves look like minnows. It's the switch from the Retail Prices Index (RPI) to the Consumer Prices Index (CPI) as the measure used to calculate tax credits, benefits and public service pensions. It will save a colossal £11bn a year by 2015-16 -- and you won't be alone if you know nothing about it.

The switch to CPI is the biggest single stealth move by a chancellor in recent memory. And with the money coming mostly from the budgets of lower income households, it's beholden on us to give it a little more attention. The decision was made in Osborne's first budget as Chancellor in June 2010 and it was effective from April this year, at which point the indexing of all benefits, tax credits and public service pensions switched from the higher RPI measure of inflation (currently at 5.2 percent) to the lower CPI (currently at 4.5).

Although the annual differences in the two measures are small -- on average, the CPI has been around 0.7 percentage points lower than the RPI in the past decade -- they quickly get big over time. Cumulatively, prices under the RPI have risen 53.6 per cent since 1996 and by 35.6 per cent on the CPI. Those are dramatic differences in public spending, and they feed through directly into household budgets. If, for example, you're a working parent who received £500 a month in tax credits in 2010, then under the old system, your payments would rise to around £720 by 2020; under the new rules they'll rise to around £625. Have no doubt that a direct cut in benefits of the same level would have aroused considerably more ire.

To date, what little argument there's been over this issue has come down to technical details about the way the two measures of inflation are calculated. Put simply, there are two main differences. First, the CPI covers a smaller basket of goods than the RPI, excluding, for example, mortgage interest payments, Council Tax, vehicle excise duty and TV licenses. Second, each measure is calculated using a different mathematical formula. Now, as you might suspect, this quickly gets horribly complicated (for the masochists there's a full explanation here). But the important point is that, because of this difference in methods, the RPI would be (currently) around one percentage point higher than the CPI even if it covered the same set of goods. That, say some, means that the RPI overstates inflation.

No doubt the stats geeks among us could stay up all night debating such things. But amidst all the back and forth over "RPI versus CPI", there remains an awkward truth for the CPI gang: the reason the CPI is a poor measure of the cost of living is that was never intended to be one. It was invented by statisticians as a macroeconomic tool, not least for use by central banks, that would give a comparable measure of price-changes across different countries. In fact, the reason the CPI excludes certain important costs related to housing (unlike the RPI) is not that they're unimportant, but that European countries couldn't agree on a comparable way of measuring them.

For anyone who's still with me, it should be clear why this has proved such an effective stealth cut. It's complex, it's slow and it's technical. But in this fog of confusion, something critical is at stake. The impact of changes to indexing rules may not be immediate, but it is profound. As Britain's pensioners discovered to their cost in the 1990s, after Margaret Thatcher broke the earnings-link of the state pension, the result of slower annual increases in income reveals itself only slowly; it takes the form of a strange and uncomfortable sense, growing over time, that you're falling behind.

Of course, ultimately this is a decision made in the pursuit of fiscal sustainability. As the Chancellor is fond of saying, in times like these there are tough decisions to be made. But the truth is this £11bn stealth cut is not tough -- it's easy. It means skimming small amounts each year from the budgets of lower income households, in the hope you'll be out the door before they notice. Had the CPI not existed, the Chancellor would have found himself making these decisions up front, and having to justify them, instead of hiding behind a fortuitous statistical quirk.

If there's a lesson in history here for the Chancellor, it's perhaps to take care. Thatcher's decision on pensions is well remembered, and not fondly. And if Osborne is a fan of retro movies, he might do well to the heed the lessons of that 1990s classic, Office Space. In the film, three humdrum office workers come up with a plan to make billions by skimming a fraction of a cent from every transaction at a major US bank. Within hours the money floods in. But then they take too much and start to panic -- and rightly so. If there's one thing that's dangerous about stealth cuts it's the anger of those who find out.

James Plunkett leads the Resolution Foundation's Commission on Living standards.

James Plunkett is director of policy and development at the Resolution Foundation

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Hannan Fodder: This week, Daniel Hannan gets his excuses in early

I didn't do it. 

Since Daniel Hannan, a formerly obscure MEP, has emerged as the anointed intellectual of the Brexit elite, The Staggers is charting his ascendancy...

When I started this column, there were some nay-sayers talking Britain down by doubting that I was seriously going to write about Daniel Hannan every week. Surely no one could be that obsessed with the activities of one obscure MEP? And surely no politician could say enough ludicrous things to be worthy of such an obsession?

They were wrong, on both counts. Daniel and I are as one on this: Leave and Remain, working hand in glove to deliver on our shared national mission. There’s a lesson there for my fellow Remoaners, I’m sure.

Anyway. It’s week three, and just as I was worrying what I might write this week, Dan has ridden to the rescue by writing not one but two columns making the same argument – using, indeed, many of the exact same phrases (“not a club, but a protection racket”). Like all the most effective political campaigns, Dan has a message of the week.

First up, on Monday, there was this headline, in the conservative American journal, the Washington Examiner:

“Why Brexit should work out for everyone”

And yesterday, there was his column on Conservative Home:

“We will get a good deal – because rational self-interest will overcome the Eurocrats’ fury”

The message of the two columns is straightforward: cooler heads will prevail. Britain wants an amicable separation. The EU needs Britain’s military strength and budget contributions, and both sides want to keep the single market intact.

The Con Home piece makes the further argument that it’s only the Eurocrats who want to be hardline about this. National governments – who have to answer to actual electorates – will be more willing to negotiate.

And so, for all the bluster now, Theresa May and Donald Tusk will be skipping through a meadow, arm in arm, before the year is out.

Before we go any further, I have a confession: I found myself nodding along with some of this. Yes, of course it’s in nobody’s interests to create unnecessary enmity between Britain and the continent. Of course no one will want to crash the economy. Of course.

I’ve been told by friends on the centre-right that Hannan has a compelling, faintly hypnotic quality when he speaks and, in retrospect, this brief moment of finding myself half-agreeing with him scares the living shit out of me. So from this point on, I’d like everyone to keep an eye on me in case I start going weird, and to give me a sharp whack round the back of the head if you ever catch me starting a tweet with the word, “Friends-”.

Anyway. Shortly after reading things, reality began to dawn for me in a way it apparently hasn’t for Daniel Hannan, and I began cataloguing the ways in which his argument is stupid.

Problem number one: Remarkably for a man who’s been in the European Parliament for nearly two decades, he’s misunderstood the EU. He notes that “deeper integration can be more like a religious dogma than a political creed”, but entirely misses the reason for this. For many Europeans, especially those from countries which didn’t have as much fun in the Second World War as Britain did, the EU, for all its myriad flaws, is something to which they feel an emotional attachment: not their country, but not something entirely separate from it either.

Consequently, it’s neither a club, nor a “protection racket”: it’s more akin to a family. A rational and sensible Brexit will be difficult for the exact same reasons that so few divorcing couples rationally agree not to bother wasting money on lawyers: because the very act of leaving feels like a betrayal.

Or, to put it more concisely, courtesy of Buzzfeed’s Marie Le Conte:

Problem number two: even if everyone was to negotiate purely in terms of rational interest, our interests are not the same. The over-riding goal of German policy for decades has been to hold the EU together, even if that creates other problems. (Exhibit A: Greece.) So there’s at least a chance that the German leadership will genuinely see deterring more departures as more important than mutual prosperity or a good relationship with Britain.

And France, whose presidential candidates are lining up to give Britain a kicking, is mysteriously not mentioned anywhere in either of Daniel’s columns, presumably because doing so would undermine his argument.

So – the list of priorities Hannan describes may look rational from a British perspective. Unfortunately, though, the people on the other side of the negotiating table won’t have a British perspective.

Problem number three is this line from the Con Home piece:

“Might it truly be more interested in deterring states from leaving than in promoting the welfare of its peoples? If so, there surely can be no further doubt that we were right to opt out.”

If there any rhetorical technique more skin-crawlingly horrible, than, “Your response to my behaviour justifies my behaviour”?

I could go on, about how there’s no reason to think that Daniel’s relatively gentle vision of Brexit is shared by Nigel Farage, UKIP, or a significant number of those who voted Leave. Or about the polls which show that, far from the EU’s response to the referendum pushing more European nations towards the door, support for the union has actually spiked since the referendum – that Britain has become not a beacon of hope but a cautionary tale.

But I’m running out of words, and there’ll be other chances to explore such things. So instead I’m going to end on this:

Hannan’s argument – that only an irrational Europe would not deliver a good Brexit – is remarkably, parodically self-serving. It allows him to believe that, if Brexit goes horribly wrong, well, it must all be the fault of those inflexible Eurocrats, mustn’t it? It can’t possibly be because Brexit was a bad idea in the first place, or because liberal Leavers used nasty, populist ones to achieve their goals.

Read today, there are elements of Hannan’s columns that are compelling, even persuasive. From the perspective of 2020, I fear, they might simply read like one long explanation of why nothing that has happened since will have been his fault.

Jonn Elledge is the editor of the New Statesman's sister site CityMetric. He is on Twitter, far too much, as @JonnElledge.