UK - Issuing UK gilts linked to the consumer prices index (CPI) would "significantly" reduce liquidity in the retail prices index (RPI) gilt market, increasing the price of hedging for pension funds, Aviva Investors has said.

The warning comes as the Royal Statistical Society (RSS) renewed its criticism of CPI as a measure of pension indexation.

Outlining its response to the Debt Management Office's (DMO) consultation on the issue launched earlier this year, the asset manager said there was "little evidence" for demand in CPI bonds from its client base.

Trevor Welsh, fund manager at Aviva, said many of the inflation-linked bond buyers were closed to either new entrants or accrual, suggesting a mature membership within the scheme.

"Therefore, any requirement to use CPI-linked bonds for hedging would be relatively short term in nature, at around 10-15 years, for the period up until they retire, since most payouts post-retirement are linked to the RPI," Welsh said.

The fund manager also warned that introducing CPI gilts would hurt RPI-linked bonds, as the DMO would have to issue a "substantial" number of new bonds.

Welsh said this could "significantly reduce" the RPI market's liquidity.

"This, in turn, would raise the overall cost of hedging," he said.

He added: "Increasingly, as defined benefit schemes close, pension funds operate a long-term buy-and-hold strategy for these assets related to their liability requirements, and any reduction in RPI-linked issuance would automatically impact the efficient operation of the market."

He argued that, as pension funds had been "unanimous" in demanding an increase in inflation-linked government debt, the only way to avoid an "adverse" outcome would be to increase both the proportion of CPI and RPI bonds.

He also stressed that if CPI-linked gilts were to be issued by the DMO, then there should be a delay until "questions over the inclusion of housing costs" within the index could be addressed, allowing them to be used over the entire lifetime of the issuance.

However, Jill Leyland, vice-president of the Royal Statistical Society, insisted the exclusion of housing was not the only issue facing CPI.

She said her concerns regarding CPI were that the voices in support of it viewed the index as a macroeconomic indicator.

"CPI is not good for a number of reasons for areas such as pensions uplift, benefit uplift or wage negotiations," she told IPE. "Neither CPI nor RPI are actually as good as they could be.

"We also dislike intensely the fact there is such a difference between the inflation ratio by the two indices."

Leyland added that the exclusion of housing costs was only part of the story and that the difference was mostly due to the statistical treatment.

The ONS said in a statement that it continued to engage with stakeholders of consumer price statistics and that it was in the process of launching a user group on the issue.

However, it stressed that the decision regarding how to use inflation indices was a matter for parliament and the respective ministers.

A previous survey by F&C Asset Management found that many took a "fatalistic view" of the "inevitability" of CPI issuance.

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