Comment: ‘Today’s wage growth is tomorrow’s spending power’

As wages start to slow, Rob Morgan, Chief Investment Analyst at wealth manager Charles Stanley, explains the impact on the Bank of England and consumers.

 
“According to the latest set of data, the UK’s labour market is showing gradual signs slowing, but overall remains resilient with the unemployment rate unchanged and robust wage growth adjusted for inflation.

The Office for National Statistics (ONS) reported that growth in estimated average wages excluding bonuses was 7.3% higher than a year earlier in the three months to October, compared with 7.8% the previous month, and with bonuses the rise was slightly smaller at 7.2% versus 8% a month earlier.
 

What does it mean for households?

On average, earnings are now outpacing inflation at a decent clip having previously lagged a long way behind. Overall, the figures translate to growth in real terms earnings of 1.4% on an annualised basis, but with inflation poised to drop further the improvement in employee spending power could continue.

While this is a welcome step in the right direction it doesn’t fix the current cost of living challenges. The prior period of high price rises outstripping wages took a heavy toll on disposable income that it will take more months of ‘real’, or after inflation, wage growth to reverse the effect. While some have yet to refinance loans secured when interest rates were much lower, a typical mortgage payer is having to find an extra £240 a month, plus previous rises in essentials such as energy and food have seen household finances come under increasing strain.

Meanwhile, other employment trends appear to be softer or stable. Job vacancies continue to gently fall away from the post-pandemic peak while, unemployment was unchanged at 4.2%. This paints a picture of a gradually cooling labour market with businesses keen to ensure they keep their current employees on board with pay rewards, but increasingly cautious for now about hiring plans owing to the near-term economic uncertainty.
 

What does it mean for interest rates?

Wage growth is one of the most important considerations for the Bank of England (BoE) when it comes to setting interest rates. Today’s wage growth is tomorrow’s spending power, so its apparent persistence will cause some concern that the fires of inflation won’t be easily quelled and that interest rates must remain at their current elevated level for longer. However, a high degree of uncertainty around the jobs data does cloud the situation, and the BoE will be looking a range of evidence when making any decision.

Recently, markets have been increasingly factoring in some interest rate cuts coming in by the middle of 2024. However, this maybe a little optimistic. Persistent wage growth with only mild softening in other employment data is likely to prop up consumer demand. What’s more, further inflationary impetuses lie in wait. The increase to the national minimum wage of almost 10% from next April will simultaneously increase costs for employers and bolster household spending power, potentially exerting further upward pressure on prices.

Interest rate cuts will very likely come through in 2024, but it would not be a surprise to see the first ones much later in the year, confounding those eyeing an earlier easing.