Labour Market: Higher unemployment rate keeps June rate cut in play

A sharp fall in employment and a rise in the unemployment rate suggests that the labour market is easing rapidly. Admittedly, strong pay growth will give the Monetary Policy Committee (MPC) pause for thought. But a portion of that strength is related to firms getting ahead of the minimum wage rise in April. Indeed, Sainsburys and Lidl both significantly increased pay that month. The rising unemployment rate should translate into slower pay growth in the second half of the year. Taking everything together we think the MPC should still be confident enough to start cutting rates in June, but this is far from guaranteed.

Something for everyone 

Once again the labour market data painted a mixed picture. The doves on the MPC will be able to point to a rapidly easing labour market. The unemployment rate rose from 4.2% in February to 4.3% in March, driven by a 178,000 fall in employment. 

Admittedly, we should not take the Labour Force Survey (LFS) figures too seriously in isolation, showing a sharp employment fall and unemployment rise, because sampling problems continue to make the official labour market data less reliable than normal. The LFS data had oddly been pointing to falling unemployment in the second half of last year, and the unemployment rate now recorded looks more consistent with a range of survey indicators suggesting the labour market has been gradually loosening. Indeed, there are other signs that the labour market continues to gradually ease, with vacancies falling to 898k in the three months to April, from 913k in the three months to March.

However, the hawks on the committee will be able to point to stronger-than-expected wage growth. Regular pay growth remained at 6% in March. Private-sector wage growth is running high on an underlying basis. On a three-month-on-three-month basis, it accelerated to an annualised 5.2%, from 4.4% previously. That’s higher than the pace recorded in late 2023 and above the 3% level that’s likely to be consistent with the central bank’s inflation target. But the large increase in the minimum wage is clouding the picture already as some firms raised pay ahead of the deadline. 

We think wage growth will gain further momentum in the next few months in response to the near 10% rise in the National Living Wage this month, which many low-wage employers are matching. Year-over-year pay growth will keep slowing, but likely only gradually until June. We expect a more decisive decline in the second half of the year when pay deals are set in the context of below 2% inflation.

The Policy outlook 

Given the mixed nature of the report it doesn’t massively change the outlook for interest rates. 

The rise in the unemployment rate chimes with all the unofficial data that the labour market is easing. The MPC will probably want to see the impact of April’s 9.8% increase in the minimum wage before it commits to rate cuts. But it will have this data by the June meeting and it is likely to conclude that the one-off increase in the minimum wage has not altered the underlying trajectory of pay growth.

Most of the focus seems to be on the extent to which firms can pass on higher costs to prices. If high wage growth squeezes margins, there are few consequences for the inflation outlook. That means it’s possible that the Bank of England eases policy even as private sector pay gains remain elevated, which is likely to be the case due to April’s increase in the minimum wage.

As a result, our base case is still for rate cuts to start in June, but, admittedly, it is a close call. 

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