Tighter labour market is doing little to boost pay growth

Abstract

▀ A wide range of indicators suggest that the labour market has become tighter in recent years, but the existence of some degree of ‘underemployment’ and structural factors have meant that the pickup in wage growth has been modest. Though we think that we are now close to the effective floor for unemployment, these structural factors are likely to continue to weigh on pay growth, even as underemployment is eroded. ▀ A 43‐year low for the unemployment rate is far from the only sign that the labour market has tightened. Vacancies have risen sharply, an array of business survey data report recruitment difficulties and flows out of unemployment are at their lowest level for 13 years, suggesting an increasing mismatch between job opportunities and the pool of available labour. ▀ Firms are increasingly relying on luring the inactive and increasing the hours of existing workers to fulfil their demand for labour. Such behaviour has driven only a very modest pickup in wage growth thus far, because the degree of underemployment was relatively high and a series of structural factors have depressed wage growth. ▀ We see some scope for further rises in participation – largely among older age groups – and for underemployment to drift a little lower. And the structural factors – namely low productivity growth, increases in other labour costs caused by factors such as pension auto‐enrolment and that rising activity amongst older age groups tends to depress wage growth – are unlikely to go away. Therefore, we expect only a gentle acceleration in wage growth over the next couple of years, particularly while the public sector continues to exercise significant pay restraint. ▀ The MPC has proved persistently over‐optimistic on the outlook for wages and we fear it will prove to be so again. If we are correct, their justification for tighter monetary policy will come under increasing pressure as we move through 2019.