Earnings Outlook· Labour market· Pay Is wage pressure building? 28 March 2018 by Stephen Clarke Stephen Clarke To what extent is wage growth picking up? This is an important question, not just for people’s pay packets but also for monetary policy makers in the Bank of England who are weighing up when to raise interest rates further. While nominal pay growth has been rising recently (up to 2.6 per cent in year to January), this is still some way short of the rates at which pay was rising before the crisis. To get a sense if stronger pay rises are in the offing we need to take a look behind the headline figures. Doing so reveals a number of points that could be seized upon by labour market bulls or bears. First, those who are bullish about future pay rises can take heart from the fact that, while the annual pay growth figures are unexceptional, the annualised six month figures look a lot perkier. Over the past six months annualised pay growth has been around 3 per cent, and above this in the private sector, levels we haven’t seen for eighteen months. Similarly the ONS’ index of labour costs grew at an annualised rate of 4.9 per cent in the last six months of 2017, the highest since late 2007. Such figures may suggest that the economy is shrugging off the uncertainty that followed the vote to leave the EU and that a tight labour market is (finally) starting to drive robust pay growth. Despite the uptick in unemployment in the third quarter of 2017, the rate fell back to 4.3 per cent in January’s figures and shows little sign of rising. Furthermore other measures of labour market slack, such as underemployment, continue to fall and on many indicators the UK labour market is back at pre-crisis (if not yet those in the early 2000s) levels. Bulls can also point to survey data that suggests that expected pay settlements for 2018 are likely to be higher than the recent past. The Banks Agent’s survey forecasts pay settlements of 3.1 per cent in 2018, up from 2.6 per cent in 2017 and research by Incomes Data Research showed that the typical pay award across the whole economy rose to 2.5 per cent in the three months to January 2018, the highest since December 2015. Yet there are also many reasons to be bearish. First although labour costs have risen recently, rises in unit labour costs (which includes the self-employed) are below those of 2013 not to mention the levels before the crash. Furthermore because unit labour costs move inversely to productivity, they could be being repressed by fast productivity growth, but as this is clearly not the case at the moment, they just reflect limited wage pressure. Figure 1: Voluntary job-to-job moves (Seasonally adjusted, three-month average) Source: RF analysis of ONS, LFS More fundamentally – and looking further ahead – although the UK labour market appears tight, measures of labour market dynamism are not as perky. Voluntary job-to-job moves are not back at pre-crisis levels (see Figure 1 above) and regional mobility is below the levels of the early 2000s (figure 2 below). While the share of people who move region for work is low (around 0.5 per cent of employees per annum or 100,000 people) it is a broader sign of labour market dynamism and those moving region tend to earn the highest pay rises. Figure 2: Proportion of people moving region and moving region and changing jobs Source: RF analysis of ONS, LFS Bears can also point to the fact that historically the pay rises enjoyed by those moving region have been far in excess of other job-movers, however this is increasingly less the case. While the (nominal) pay rise for those moving jobs is back at pre-crisis levels (at around 6-7 per cent), the returns to moving jobs and region are down compared to the pre-crisis period (Figure 5). Furthermore the premium earned by those who move employer (compared to those who just move job) has narrowed in recent years (down from around 1.7 per cent in 2007-08 to 0.6 per cent in 2015-17) as has the premium earned by those moving region (down from 3.3 per cent to 1 per cent). Figure 3: Median pay rise (nominal) for those remaining in employment Source: RF analysis of ONS, ASHE Given this the biggest pay rises appear harder to come by. For those of a bearish-persuasion then the impression is of a labour market, which may be experiencing some wage pressure, but this is far from the heady days of the early 2000s when nominal pay growth averaged 4.4 per cent. Who are right then? The bulls or the bears? Perhaps one can square the circle by distinguishing between nominal and real pay, and between immediate pressures and the longer term outlook. Falling inflation is certainly bringing the pay falls of 2017 to an end, and there is definitely some evidence that pay pressure is building, suggesting the Bank is right to be concerned about this feeding through into inflation if they, and the OBR, are right that the economy is running at close to (or in excess of) full potential. However there is less evidence that productivity growth is significantly picking up. So while firms may feel the pressure to raise wages in the short term, their ability to deliver longer term high real pay growth may remain limited.