The labour market gained some momentum in August with the unemployment rate falling to its lowest level since July 2025 and payrolls rising. Together, the figures suggest that stronger economic growth is finally feeding through into hiring. For the Monetary Policy Committee (MPC), the stronger labour market further increases the likelihood of a November rate hike. That said, we still expect unemployment to edge up in the coming months as higher input costs weigh on recruitment.

UK labour market shows signs of recovery as unemployment falls

The labour market improved in the three months to August, with employment rising by 102,000, which helped the unemployment rate fall from 4.9% to 4.7%. Granted, we must take the figures with a pinch of salt given the well-documented problems with the Labour Force Survey (LFS), from which the official estimates are derived. In any case, the unemployment rate has been trending down since January 2026, so the broad trend of a recovering labour market looks genuine.

What’s more, payrolls increased by 13,000 in September and August’s fall was revised up to a small gain. That reinforces the signal from the LFS that the labour market has been recovering in recent months.

However, the recovery remains fragile. Vacancies fell by a further 13,000, to the lowest level since the pandemic. This suggests that firms still remain cautious about hiring.

Overall, falling unemployment, improving payrolls and stable redundancies suggest that the labour market has strengthened slightly in recent months, or at the very least stabilised.

Further ahead, we expect the unemployment rate to edge back up as higher input costs, tighter financing conditions and elevated uncertainty weigh on recruitment. But stronger economic growth and stabilising employment surveys suggest that any increase will be modest.

Bank of England interest rates: November rate rise increasingly likely

The improvement in hiring has also supported wage growth. Private-sector regular pay growth, the measure most relevant to the MPC because it provides a clearer signal of underlying inflationary pressure, rose from 2.9% to 3.0%. We expect it to increase gradually over the coming months before stabilising around 3.5%.

For the MPC, stronger growth and a stabilising labour market mean there is currently little trade-off between supporting activity and reining in inflation. This makes an interest rate rise in November look increasingly likely and the Committee will likely follow this up with another hike next year, unless energy prices fall back sharply.

Nevertheless, the squeeze on households is nevertheless set to intensify. Inflation is expected to rise to 3.4% in September and peak at around 4.5%, making a real-terms pay cut for private-sector workers highly likely.

That will increase the pressure on the Chancellor to announce cost-of-living support in next week’s Budget. But doing anything substantial without breaching either the fiscal rules or the manifesto commitments looks increasingly difficult given the deterioration in headroom from rising borrowing costs and existing ambitions to spend big on everything from defence to social care. The most likely course is a series of temporary measures designed to blunt the worst of the coming rise in utility bills and inflation, without affecting the fiscal headroom in 2029/30.

All told, the labour market appears to have stabilised and may now be improving. Alongside stronger economic growth, that makes a November rate rise highly likely. However, we still expect employment growth to slow towards the end of the year as the full impact of the surge in input costs, tighter financing and higher uncertainty all weigh on hiring.

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