UK wages growth slowing but remains an impediment to lower interest rates

The further evidence provided today that UK wages growth is continuing to slow will have provided some welcome news for the Bank of England (BoE) this morning. But wages growth overall is still too high to assuage the BoE’s ongoing concerns regarding the potential for the labour market to stoke inflationary pressures and as such the current hawkish monetary stance will remain in place.

Today’s employment report showed that headline annual regular pay growth fell from a downwardly revised 7.2% to 6.6% in the 3-mths to November, the first sub-7% reading since March, and matching market expectations. The three-month-on-three-month annual growth rate in nominal weekly earnings also fell, down from 4.0% in October to just 2.8% in November. This lower pace of growth can likely be explained by the headline annual figures being compared to low base months last year, before the high pay rises prompted by the sharp rise in the cost of living were seen. Clearly the short term outlook is suggesting that wages growth should continue to decline going forward. And with CPI continuing to fall also, it could be interpreted as suggesting the BoE is getting close to shifting its stance and ready to signal to the markets that interest cuts could possibly be seen as soon as Q2. But the BoE has consistently warned that wages growth remains too high to be consistent with a 2% inflation target, regularly flagging this as being an ongoing concern. As such, while the BoE will privately welcome today’s numbers, we are unlikely to see a shift in its narrative yet, and certainly no signals that Bank Rate is on course to be cut significantly over the course of this year.

Going forward, as CPI continues to head lower and inflation expectations concomitantly ease, so upwards pressure on wages should continue to soften. However, there are clear and present risks to this scenario. Survey evidence, such as the BoE’s own Decision Maker Panel, said in its December report that wages were expected to increase on average by 5.4% over 2024, while the y/y growth in the PAYE measure of medium pay showed wages growing by 6.6% last month. Furthermore, looking at the labour market more broadly, today’s recording of the headline unemployment rate of 4.2% shows the level of unemployment to be lower than the BoE’s estimate of the equilibrium rate of 4.5%, suggesting an underlying upwards push on wages remains. And while businesses have been reporting an improvement in labour availability for a number of months now, the claimant count rate has risen only modestly, suggesting the labour market remains tighter than suggested. Government policy is also presenting the BoE with difficulties, with its decision to increase the National Minimum Wage by 9.8% in April likely to see low-wage employers more generally coming under pressure from their own workers to also boost wages.

Accordingly, despite the headline improvements seen in today’s numbers, the BoE’s “higher for longer” message on interest rates is set to persist until it can be certain that not only is CPI definitively moving back to target, but that the forces that drove it higher are also now largely contained too.