NS&I Index Linked Certificates – a government subsidy for rich savers

Get `em while they’re hot.  The new National Savings inflation linked certificates were launched on Thursday last week, to great rejoicing on the money pages of the newspapers.  And rightly so – these are a gimme.  Although the rate of interest (RPI + 0.5%) is lower than on the similar certificates withdrawn 10 months ago (RPI +1%), this is still attractive compared to the market rate for 5 year real yields.  With the same government credit risk, the 2016 index-linked gilt yields RPI minus 0.5%, i.e. a 1% lower yield than these retail only certificates.  AND the NS&I product is tax free!  So for taxpayers the yields are outstanding.  With the breakeven inflation rate on the 2016 linker at just 2.9% on an RPI basis, so maybe at 1.9% on a CPI basis, this implies inflation below the Bank of England target level on average over the next 5 years, the absolute level looks good too.

Why is the government offering such an attractive product?  It’s giving 50% taxpayers a AAA rated, riskless investment equivalent to nearly 10% at current levels of RPI and about 7% if inflation averages 3% over the period.  I can’t even find many junk bonds that pay 10% nowadays.  And this is happening whilst the banks and building societies are desperate for retail funding – this is “£2 billion that the private sector won’t be able to raise and lend to first time buyers and homeowners” (says the Building Societies Association).

Well I guess the first reason is that it needs the money.  The NS&I has to contribute £14 bn towards funding the deficit this financial year, and this will certainly help.  But did the rate need to be so generous, and so far from the market rate?  The government has talked about these certificates in terms of helping the poor savers stuck in low yielding bank accounts.  But those with savings to benefit from this deal are largely the richest portion of society – many of those will be higher rate taxpayers who have been given a windfall gain.  Is this a deliberate subsidy for the rich?

I’d also have thought that the government might have taken the opportunity to move to a CPI+ basis rather than continuing to use RPI.  After all, that’s the BoE’s target, and pension funds are being encouraged to move to using CPI for their liabilities too.  With the “wedge” between RPI and CPI high, and likely to be about 1% going forward that might have been a smart thing to have done – although there would have been some negative press headline risk in doing so. 

I talked to Richard Woolnough about this being a windfall giveaway for the rich – a kind of subsidy from the government.  He pointed out that these certificates have been available under the last Labour government too, and we doubted that a subsidy for the rich was their explicit policy.  But he also made a good point that there is another government subsidy for rich savers – the deposit protection scheme that allows a huge amount of savings to be guaranteed by HMG if you spread it around the market below the £85,000 ceiling for individual banks.  This, like the huge interest on the latest inflation certificates, is a real cost to the taxpayer – as the bailout of Northern Rock showed.  Another example of the baby boom generation writing itself generous promises for which the poor youth of today will end up funding?

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.

Jim Leaviss

Job Title: CIO Public Fixed Income

Specialist Subjects: Macro economics and fixed interest asset allocation

Likes: Cycling, factory records, dim sum

Heroes: Brian Clough, Morrissey, Neil Armstrong

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