By Contracts and Technology Associate Director, Andrew Kirke.

 

Considering comments made by Bank of England Governor Mark Carney this week on the phasing out of the Retail Prices Index (RPI) as a measure for inflation in commercial contracts

 

Speaking to the House of Lords economic affairs committee on Tuesday, Bank of England governor Mark Carney has called for a “deliberate and carefully timed” withdrawal of the retail prices index (RPI) from use in government contracts.

 

In the UK, the RPI is a measure of inflation published monthly by the Office for National Statistics (ONS), and is currently the only named statistic that the ONS is required to produce by law.

 

It measures the change in the cost of a representative sample of retail goods and services, and is often used in commercial contracts as a reference point for indexing payments which are to be made over a number of years, so as to keep track with inflation.

 

RPI was strongly criticised by Mr Carney earlier this week on the basis that it contains “known errors”, produces an exaggerated rate and that “most would acknowledge [that it] has no merit”.

 

Typically, when considered against the other most commonly used index for inflation, the consumer prices index (CPI), the RPI produces a figure in the region of 0.7 percentage points higher each year.

 

Whilst those don’t seem like the sort of numbers that would get you out of bed in the morning, in contracts with a significant annual payment (such as some of the very significant public sector contracts which currently use RPI as a measure), the difference can amount to thousands, if not millions, of pounds over the lifetime of the contract.

 

From a commercial contracts perspective, RPI would still remain the preferred option for those suppliers seeking to negotiate a price indexing mechanism, as is likely to continue to produce a greater overall return over the lifetime of the contract.

 

It would however be wise to include a reference to RPI or “such other index of equivalent value as may replace it from time to time”, with a view to the potential for medium term phasing out of the RPI.

 

For the customers making those payments, this news could be helpful in negotiations with suppliers, and could assist you in arguing for indexation in line with the typically lower CPI, or even the ONS’ preferred measure, the catchily-named “Consumer Price Inflation including Owner-Occupiers’ Housing Costs Index”, or CPIH, which typically works out lower still.

 

If you or your business requires further advice or assistance navigating any of the above, please contact:

 

Andrew Kirke

Associate Director – Contracts and Technology Department

 

Tel: +44 (0) 28 9055 3306

Email: Andrew.Kirke@tughans.com

 

While great care has been taken in the preparation of the content of this article, it does not purport to be a comprehensive statement of the relevant law and full professional advice should be taken before any action is taken in reliance on any item covered.