Last edited 22 May 2018

Inflation

Contents

[edit] Introduction

Inflation is the rate at which the price of goods and services rises, and as a result, the purchasing power of currency decreases. In order to maintain the stable functioning of the economy, the government aims to limit the rate of inflation and avoid deflation (negative inflation).

The inflation rate is reported as the annual percentage growth of a broad index of prices representative of the economy as a whole. Inflation rates vary from year to year and from currency to currency.

The inflation indices used in the UK typically measure a range of prices across a variety of consumer products.

[edit] Consumer price index

In the UK, the predominant measure of inflation is the Consumer Price Index (CPI). This is the rate at which the prices of goods and services purchased by households rise or fall. The Consumer Price Index was first published in 1996 as the Harmonised Index of Consumer Prices.

[edit] Other measures of consumer price inflation

There are a number of other measures of consumer price inflation including:

  • CPIH. A relatively new measure of UK consumer price inflation that includes owner occupiers’ housing costs.
  • Retail Prices Index (RPI). A measure of UK inflation that has historically been used for a wide range of purposes, such as the indexation of pensions and rents and index-linked gilts.
  • RPIJ. A variant of RPI which is calculated using a geometric (Jevons) formulae, adopted following the National Statistician's decision that the RPI does not meet international standards.

[edit] Consumer price index calculation

The Consumer price index includes a wide variety of household spending across approximately 700 representative items. The main divisions of products are:

The index must be representative and up-to-date and therefore the goods and services included are reviewed each year. The information used to determine the contents includes surveys of household spending, external market research and feedback from price collectors.

As more is spent on certain items than others, the components of the index are ‘weighted’ to reflect the importance of different items and the amount spent in different regions and in different types of shops.

Once the price information has been checked and processed, the price indicators are combined. The changes in the prices of services and goods are measured by undertaking a comparison of their levels in the preceding year. They are then weighted to produce an overall annual price change. The annual rate of inflation is the percentage change in the latest index, compared with the value recorded the year before.

Each month, the figures are published on the Office for National Statistics website.

[edit] Fluctuations

Fluctuations are a way of dealing with inflation on large construction projects that may last for several years. On smaller projects, the contractor will be considered to have taken into account inflation when calculating their price (a firm price). However, on the larger projects, the contractor may be asked to tender based on current prices (prices at an agreed base date) and then the contract makes provisions for the contractor to be reimbursed for price changes to specified items over the duration of the project (a fluctuating price).

See Fluctuations for more information.

[edit] NRM

The New Rules of Measurement (NRM) are published by the Royal Institute of Chartered Surveyors (RICS). They provide a standard set of measurement rules for estimating, cost planning, procurement and whole-life costing for construction projects. According to NRM1: Order of cost estimating and cost planning for capital building work, the term ‘inflation’ refers to:

…an upward movement in the average level of prices and or costs (i.e. the opposite of deflation). It is included as an allowance in the order of cost estimate or cost plan for fluctuations in the basic prices of labour, plant and equipment and materials.

NRM1 also offers definitions for tender inflation:

'...an allowance included in the order of cost estimate or cost plan for fluctuations in the basic prices of labour, plant and equipment, and materials during the period from the estimate base date to the date of tender return.'

And construction inflation:

'...an allowance included in the order of cost estimate or cost plan for fluctuations in the basic prices of labour, plant and equipment, and materials during the period from the date of tender return to the mid-point of the construction period.'

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[edit] External references