UK reaction: A further step in the right direction for the MPC

Today’s labour market data were a mixed bag, but on the whole continue to point to developing slack and easing wage pressures; we remain confident the Bank of England will push through a further 25bp cut in November. Starting with the Labour Force Survey, employment rose by an above-consensus 97K in Q2. And an uptick in the inactivity rate to 22.2%, from 22.1%, meant the unemployment rate dropped to 4.2%, from 4.4% in Q1 – markets had expected a further uptick to 4.5%.

On the face of it, this challenges one of the key underpinnings of the recent interest rate cut: that looser labour market conditions would continue to alleviate wage pressures. But both the ONS and the MPC have continued to highlight that the LFS data should be taken with a pinch of salt given the ongoing sampling issues that are increasing volatility. Other measures broadly point to developing labour market slack. Indeed, the number of vacancies fell for the 25^th consecutive period in the three months to July, keeping the vacancies to unemployment ratio broadly at pre-Covid levels, despite the drop in unemployment. In addition, the PAYE measure of employment has taken a clear leg down this year, with an average increase of just 14.8K over the first seven months, compared to 38.8K over the same period in 2023. And the BoE’s Decision Maker Panel survey shows that in the three months to July, businesses expected employment growth of just 1.1% over the coming 12 months, the lowest since January 2021 when the furlough scheme was still in place. On balance, we think today’s LFS data probably reflect increased volatility rather than a genuine shift in the labour market.

The recent slowdown in wage growth, meanwhile, gathered momentum in the Q2. Indeed, average weekly earnings ex. bonuses fell to 5.4% - its slowest pace in just under two years – from 5.8% in the three months to May. And the MPC will note that public sector pay kept the headline measure elevated; private sector regular pay – which is more closely watched - fell to 5.2% - over a two-year low - from 5.6%. Total earnings – which include bonuses – fell further to 4.5%, from 5.7% - markets had expected a drop to 4.6% – though the disparity largely reflected base effects, given NHS workers were given a one-off bonus in June 2023; a rebound next month, therefore, is likely.

Taking a step back, while the Bank of England will be relieved to see wage pressures easing further, it made it fairly clear at the August meeting that it was no longer placing so much weight on the short-term incoming data. Instead, Governor Bailey highlighted in the press conference that the Bank has reverted to a medium-term framework where the incoming data would be used to build confidence that things were on track, rather than being the be all and end all. As a result, we think the MPC will look through this month’s tick down in the unemployment rate and the increase in CPI inflation over the coming months and will cut Bank Rate by a further 25bp at its November meeting as it continues to see growth falling short of potential and the outlook for inflation falling below its target next year: the MPC’s latest round of forecasts show CPI inflation dropping to 1.7% in two years’ time, with 86bp worth of cuts over the next 12 months.