UK wages still growing too strongly for the BoE to consider a pause in monetary tightening

The UK employment data will not have been welcomed by the Bank of England (BoE). Although the headline rate of unemployment rose to 4.2% - its highest level since October 2021 - the large increases continuing to be seen in the wages growth numbers - now growing at the fastest pace on record - will continue to stoke fears that a still too-tight labour market is boosting wages and in turn directly fuelling inflation.

The average weekly earnings (excluding bonuses) figures rose from last month’s upwardly revised 7.5% to 7.8%, considerably stronger than the 7.4% figure expected, and suggesting that UK workers are proving successful in securing wage rises that are closing the gap with the pace of rising prices. Indeed, with headline annual CPI expected to print at 6.7% tomorrow, the numbers show that workers are finally managing to secure real terms increases in wages. But good news for workers is bad news for the fight against inflation and today’s numbers will see another 25bps interest rate rise virtually fully priced in by the market for next month’s MPC meeting, bar any large surprises in the preceding inflation reports.

The crumb of comfort for the BoE is that the labour market, according to the official ILO number, is showing signs of loosening, as evidenced by the rise in the headline rate of unemployment. The three-month average unemployment rate rose to 4.2%, virtually matching the BoE’s own estimate of the equilibrium unemployment rate (4.25%) and reaching this milestone four-quarters earlier than expected according to the August Monetary Policy Report. Further evidence of the labour market loosening was also provided by the three-month average vacancies-to-unemployment ratio, a figure loosely watched by the BoE’s Monetary Policy Committee (MPC), and which fell to 0.72 in June, a further fall from the 0.77 reading printed in May and now considerably lower than the peak rate of 1.05 seen in August 2022. But the fly in the ointment is the PAYE measure of employee numbers, which rose sharply in June by 97k. This does paint a somewhat confusing picture regarding the true underlying strength of labour demand. However, this figure is very volatile and as such the BoE may use that excuse to look past it for now.

But overall it is hard to move away from the key conclusion that the UK labour market continues to suffer from a shortage of workers, with some 144k workers still missing than was the case before the covid pandemic. And the consequence of this is companies being forced to bid up wages in an effort to both retain and attract staff. It also makes it very difficult for the economy to grow without further fuelling inflation. Admittedly, the sharp 8.2% rise in average weekly earnings including bonuses was due to the payment of bonuses to health service workers. But even excluding this, wages growth is still much too strong to be consistent with a 2% CPI target. The crumb of comfort is that it normally takes some time for wages to react to changes in labour market tightness; but the BoE will not be able to tolerate such strong growth indefinitely

On balance, therefore, it very much leaves the BoE facing the conclusion that it may yet be forced to engineer a recession in order to finally get the inflation genie back in the bottle. As such, we expect a further 25bps interest rate rise will be delivered at September’s MPC meeting with another hike – given how the economic data stands at the moment – being delivered in November. But ultimately the next two CPI reports before September’s MPC meeting will be the key determinant of policy going forward.