UK Reaction: Strong wages to keep MPC focused on risks of persistence

The UK unemployment rate increased by 3.8% in February 2023 (consensus 3.7%); employment rose by a staggering 169,000 but was offset by even stronger rises in economic activity as more workers returned to the labour market, lifting the unemployment rate by 0.1 percentage points (ppt). At the same time, pay rose considerably as private sector wage growth reaccelerated on the month leaving average earnings (excluding bonuses) at 6.6%, defying expectations of a continuation of the recent easing seen in pay. This movement may not be sustained as we continue to think the MPC will remain wary of inflation persistence, particularly as the labour market remains tight.

Employment rose by 169,000 over the quarter, well above consensus expectations of a 50,000 rise in employment. The increase was driven by an uptick in self-employment (+134,000), whilst the number of people employed in full-time jobs rose by 18,000.  Most of these new jobs were in part-time employment (+175,000) whilst full time work changed over the quarter by -6,000. The number of part-time workers is likely to continue to rise as employers have a stronger preference for more flexibility as the economic outlook remains uncertain. The increase in part-time employment was driven primarily by those who did not want a full-time job. The more timely HMRC payrolls figure for March pointed to a potential moderation in employment, rising by 30,000 on the month in March 2023. Though if rises continue to be captured in self-employment these will not be captured by the HMRC figures.

The economic inactivity rate continues to decline as workers who left the workforce over the pandemic continue to gradually return to the labour force. Inactivity declined to 21.1% and was down 0.4ppt on the quarter. Recent moves were driven by a decline in inactivity due to studying (-181,000) and looking after family/home (-54,000). Smaller moves in temporary sickness (-17,000) and those who had taken early retirement (-19,000) also contributed to the fall in inactivity. Long-term sickness likely exacerbated by pressures in the National Health Service, continues to rise (+89,000). The inactivity rate now stands 0.9ppt higher than it was prior to the pandemic (Dec-Feb 2020), but the trend of rising activity is going some way to reverse this trend and relieve pressure on supply in the labour market.

Labour demand continues to moderate with vacancies declining by 47,000 in the quarter to March 2023 to 1.1m – its ninth consecutive quarterly decline. The level of vacancies remains high when compared to previous levels – vacancies are 1.4 times their levels just prior to the pandemic (Dec-Feb 2020) but firms continue to reduce vacancies reflecting uncertainty across industries, with economic pressures cited as a key concern for holding back on recruitment. 

Wages – which are closely watched by the MPC as a key measure of the balance of supply and demand in the labour market rose unexpectedly in February. Average earnings (excluding bonuses) rose to 6.6% above consensus expectations of an easing to 6.2% from 6.6% in January. The January figure was revised up to 6.6% from 6.5%, but this does not explain all of the upside surprise. Looking at private sector wages, the single month wage growth rise sharply to 7.3% from 6.5% in January which drove the reacceleration, and for the whole economy it rose by 0.9% month-on-month. The single month figure does tends to be volatile but such rises will worry the MPC.

The labour market continues to show signs of some slack emerging, driven by slowing demand for labour and increases in labour supply which has been constrained over recent months but the labour market remains tight. Furthermore, the evidence that the labour market has moderated is far from conclusive as job growth remains resilient and pay growth remains robust.

This labour market print continues to point towards moderation in the labour market, but renewed strength of wage numbers will unsettle the MPC, adding to fears of greater persistence in inflation. The Bank’s assessment of inflation persistence revolves around three key factors: the tightness of labour market conditions, the behaviour of wage growth and services inflation. We think on this basis and given the upside surprise we have seen in wages, a further hike continues more probable than not. We continue to expect the MPC to hike by 25bp at its next meeting bringing Bank Rate to 4.50%. This remains a close call and developments in tomorrow's CPI release remain central. Following this, we expect the MPC to begin unwinding these hikes by the end of this year, pencilling one 25bp cut per quarter from Q4 2023 to Q4 2024, bringing Bank Rate to 3.25% by the end of 2024.