The CBI has become the latest forecaster to downgrade its expectations for growth in the UK economy. It is ironic: the very increases in wage costs that have underpinned high services inflation, are not producing a feel-good factor. The labour market is beset with uncertainty, with a string of notable job cuts (Poundland, Dow Chemicals, Union Electric Steel UK Limited, Weir Minerals Europe) reflecting the twin effects of high wage costs and expensive energy in the UK.
And as today’s CPI report shows, inflation is not returning to target in a hurry despite the lower projections for economic growth. To be sure, air fares fell back as expected after the April spike, and there were genuine declines in other areas of the services CPI. However, the pressure on goods prices is ramping up. And the local authorities are under severe financial pressure. The Institute for Fiscal Studies (IFS) has warned of the largest rise in council tax for two decades as a result of the Government’s spending review.
An underlying inflation rate of effectively double the MPC’s target, does not really give the Bank of England much room to cut interest rates. Opinion on how far the jobs data have really deteriorated remains split. Payrolled employees may be falling, but the less volatile workforce jobs survey was still showing a healthy increase in Q1.
In many respects, the employment data is immaterial. Wage inflation is what matters. Public sector average weekly earnings were up 5.6% y/y in the three months to April, according to the ONS. The real test for the Gilt market, will be how far Rachel Reeves and Keir Starmer will be prepared to force through below-inflation pay hikes for public sector workers in the next pay rounds. Without that, the danger of the y/y for the CPI becoming embedded well above target, will feed through to a steeper yield curve.
