The trend towards an even tighter labour market continues according to figures released by the ONS this week. While employment hit record levels, rising to 73.7% - the highest since records began in 1971, unemployment fell to 5.3%, down to the level immediately before the onset of the so-called Great Recession in 2008.
While this is another piece of good news for the UK Chancellor it will trigger alarm bells, especially those at the Bank of England. When ‘forward guidance’ was launched and lauded back in August 2013, the MPC said it would leave interest rates unchanged at 0.5% at least until the unemployment rate had fallen to 7%, provided there were no other risks to inflation or financial stability. We can therefore assume that, at the time, estimates of NAIRU were around 6.5% to 7% - the rate below which the Bank would clearly consider raising base rates. This was the essential point of forward guidance – that individuals and businesses could all start looking at ‘something real, understandable and measurable’ – namely jobs, rather than the price level itself (which is somewhat less real, understandable and measurable) – as a guide to where interest rates might be heading in the future. On the basis of this week’s news, with unemployment dropping two points below the NAIRU, the next move then for rates is clearly upwards. This is of course assuming that the next set of figures suggest an even tighter labour market. The only remaining doubt would be when to expect a rate rise – namely, what is the time lag between sufficient confirmation that NAIRU has been breached and the MPC voting to raise rates?
However, as many economists have noted that understanding what full employment means is not all that easy, especially when considering the ‘grey area’ of underemployment, where people are employed but not ‘fully’ employed. If there is a large pool of underemployed it means that as a policy, ‘forward guidance’ may need to take this into account. It also means that ‘official’ unemployment figures can fall well below 5.5% before any wage pressure would be felt – this certainly seems to be the consensus view and the main reason why interest rates will not go up just yet. Indeed, as the FT reported, several economists are now arguing that the unemployment rate could fall well below 5% before there is a threat to the 2% CPI inflation target.
In any event, future inflation is not just a product of a tightening labour market and consequential ‘wage push’. With goods deflation still very much in the system and likely to continue as the global economy weakens further, international exporters face tougher conditions and are much more likely to reduce prices than raise them. Hence, any wage-push that might be in the system could be more than offset by the highly competitive conditions existing across all product markets.
So while the UK (and US) labour market is clearly tightening, the expected (albeit delayed) wage-push effect of this could also be seen in a very different light. For some, the long awaited rebalancing of financial rewards between competing inputs (labour and capital), rather than a harmful dose of cost-push inflation, is a much needed move in the right direction. Indeed, the rise in real wages as a consequence of a tightening labour market might well, in the short run, be at the expense of a fall in real profits. If real wages continue to increase, and interest rates stay on hold, then for many, it is a job well done by the Bank of England.
The other viewpoint is that if businesses are indeed finding it hard to hire staff, then it will force the most enterprising and energetic of them to look for ways to raise the productivity of existing labour, most obviously by introducing more technology into the workplace. Of course, in an economy where 70% of the workforce is employed in the service sector, this may prove harder than in the rest of the economy. But this is not impossible – just look at the HMRC, who announced in the same week that it was downsizing its workforce through the closure of 137 local offices in favour of 13 new regional tax centres. The success of online self-assessment and other reforms means that new technology has been applied at the expense of lower grade administrative and processing jobs. So long as the new technology also creates (skilled) jobs, then the net effect is beneficial as fewer ‘gained’ skilled jobs replace a larger number of ‘lost’ unskilled jobs.
The key to all this does seem to be the rebalancing of the UK economy, towards the use of higher value-added labour combined with a thriving technology sector. Many observers believe that this is ‘relatively close’ to where the UK economy is actually heading. The recent visits of both the Chinese and Indian leaders, reminds us that FDI has long been seen as a way of promoting development through technology transfer while enabling a developing economy to gain from investment income flows back from successful overseas investments. What seems most important here, in terms of UK unemployment and underemployment, is that high-skilled jobs continue to be created within and across the UK itself, and not just in the more vulnerable financial services sector. This will be best achieved with a mix of active labour market policies and, primarily through educational reforms to ensure that young talent is not wasted. What seems clear to all is that the tax credits issue and its effect on the labour market has not been resolved. Many argue that it is time for an all-party consensus about what to do with tax/universal credits, much in the same way that the minimum-wage became accepted across the political divide. Of course, there are differences about the level of the minimum wage and, indeed, the so-called ‘living wage’, but the consensus is there. The same cannot be said for tax credits, and what to do with those who still have no job when actively looking, or with those who have little intension of seeking one - with youth unemployment still the major concern.
While China and India struggle with issues of their own, including poverty, inequality and poor infrastructure, the UK is in a great position to push-on and see its own levels of poverty and inequality fall, while continuing to improve its creaking infrastructure. The next big question – coming along very quickly indeed – is whether the UK’s continued development is best served inside or outside the EU. But for now it’s all eyes on the next set of employment figures.
Go to: Unemployment