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

The rise in the unemployment rate to 4.2% and the slowdown in wage growth to 6.0% in February leaves the door ajar for the first interest rate cut coming in June. Just as importantly for households, real wages grew by 1.6%. That, combined with tax cuts and rising consumer confidence could give a boost to consumer spending in the second half of this year, helping a consumer spending driven recovery. 

Something for everyone 

Today’s labour market report contained something for everyone. The doves on the Monetary Policy Committee (MPC) will be able point to a rapidly easing labour market. The unemployment rate jumped from 3.9% in January to 4.2% in February, largely driven by a 156,000 fall in employment. What’s more, the unemployment rate would have risen more if not for a 71,000 decline in the labour force, which was mostly due to more people dropping out to study.

Admittedly, we should not take the LFS figures too seriously in isolation, showing a sharp employment fall and unemployment rise, because sampling problems make the official labour market data remain 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. Redundancies rose to 110k in the three months to February, after gaining 94k in the three months to November,

However, the hawks on the committee will be able to point to stronger-than-expected wage growth. Regular wage growth dropped from 6.1% in January to 6.0% in February rather than the 5.8% expected by a consensus of economists. Indeed, private sector earnings excluding bonuses remains a bit above the Bank’s forecast of 5.7% for March with one month to go. 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. If wage growth continued to fall in March (we expect wage growth last month was about 5.5%) then private sector pay growth probably met the MPC’s latest forecast for Q1, which should give the committee the confidence it needs to start cutting rates.

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. 

However, the committee will be mindful of the recent rise in energy prices due to geopolitical events and the impact of that on UK inflation. There is also evidence of stickier inflation in the US that has pushed back the timing and amount of rate cuts expected by the Fed. All this means the chances of the first rate cut coming in June have declined a little and it is probably now a 50:50 chance.

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