17 August 2022
The labour market remains very tight. June’s figures show that regular pay growth leapt to 4.7%, and employment growth was 160,000.
Pay growth is miles above the 3% to 3.5% that’s consistent with the Bank of England’s 2% inflation target. Inflation itself is likely to have reached almost 10% in July, meaning we can expect a second interest rate rise from the Monetary Policy Committee (MPC) in September – probably of 50 basis points.
Admittedly, there were also signs that demand for labour is cooling as vacancies dropped for the second month running. But, given how tight the labour market is, it will take some time for lower demand for labour to feed through into higher unemployment. The unemployment rate looks like it will rise from its current level of 3.8% to 5% by the end of 2023.
Employment still growing
Despite a 160,000 rise in employment in the three months to June, the unemployment rate held steady at 3.8%. Most of the increase in employment was driven by ‘inactive’ people (ie those who hadn’t been looking for work) coming back into the workforce, probably driven by high inflation and fast wage growth. The number of employees on payrolls actually increased by 73,000 in July, after a rise of 48,000 in June. It’s a clear sign that we’re yet to see the pace of job growth slowing.
However, there was evidence of the labour market cooling off. The number of job vacancies dropped by 19,800 in July, the first quarterly fall since June to August 2020. The cost-of-living crisis will soften economic growth in the second half of the year, dampening demand for labour and easing some of the tightness in the labour market. Even so, the smaller pool of available workers ought to keep the labour market tight for at least the next couple of years.
Real pay will fall further
The growth of bonus payments dropped to 10.4% in June, and total wage growth fell in the three months to May to hit 5.1% y/y.
Bonus payments have been volatile lately, and the MPC prefers to look at underlying pay growth. That rose strongly in every industry except for the public sector. The broader story is that measures of pay are significantly above the 3% level consistent with the inflation target.
However, real total pay growth, which takes inflation into account, fell by 2.5%. This suggests that the cost-of-living crisis took a bigger toll in June. Real wages are likely to fall by around 3% in 2022, which would be the hardest squeeze on spending power ever recorded.
The policy takeaway
The MPC’s decision between a rise of either 25bps and a rise 50bps will be a very close call, but today’s data might just tip it for another rise of 50bps.
The labour market will be central to how much tightening the Bank of England delivers this year. The MPC’s chief concern in recent months has been high realised inflation and a tight jobs market combining to lift expectations of future wage and price gains. That would make inflation far more persistent. As a result, it’s unlikely that the MPC will ease off the brakes until it sees signs that the labour market is losing heat.
The labour market remains very tight by historical standards, so we think monetary tightening still has further to run. Our base case is now for the policy rate to rise by 50bps at the next meeting in September, followed by another 25bps rise that will take rates to 2.75% by this time next year. At that point, the MPC is likely to pause as the soft demand outlook deals a harder hit to hiring, labour supply recovers somewhat, and the outlook for inflation improves.