Belfast Telegraph

Thursday 25 December 2014

Bank forecast scuppers pay hopes

File photo dated 30/07/14 of the Bank of England in London, which will publish its latest outlook for the UK economy today, with its forecasts likely to be seized on for any signs that interest rates might rise by the end of this year.
File photo dated 30/07/14 of the Bank of England in London, which will publish its latest outlook for the UK economy today, with its forecasts likely to be seized on for any signs that interest rates might rise by the end of this year.

The Bank of England today appeared to scotch the likelihood of an interest rate hike this year as it abandoned hopes that burgeoning economic growth was about to feed through to a real terms pick-up in wages.

Policy-makers halved the UK's pay growth forecast for 2014 from 2.5% to a below-inflation 1.25% while also indicating that they would place more emphasis on this factor when deciding on rates.

It came as official data showed annual pay fell by 0.2% in the three months to June, the first decline recorded since the height of the financial crisis in 2009, and a worse drop than the Bank had been expecting.

The moribund picture for pay growth dampened expectations of an interest rate rise as early as November this year, sending the pound tumbling to a four-month low against the US dollar.

A first hike is now seen as more likely in February 2015, when rates will have been held at 0.5% for nearly six years. They were slashed in 2009 in a bid to try to nurse the economy back to health - though the move has inflicted prolonged pain on savers.

The wage gloom also revived Labour charges that despite the economy's recent return to pre-recession levels, ordinary households were still being squeezed.

The Bank upgraded its forecast for gross domestic product (GDP) growth for this year from 3.4% to 3.5%, and from 2.9% to 3% for next year.

It also expects to see unemployment to fall more quickly than it had previously thought, dropping below 6% this year, while inflation is expected to continue to hover below its 2% target for the next three years.

Governor Mark Carney said data suggested the Bank's key measure of "slack" or wasteful spare capacity in the economy, was being used up more quickly than thought, with 800,000 jobs added in the past year.

But he said sustained expansion would require growth in productivity and real terms wages, both of which had been disappointing.

"In particular, pay growth has been remarkably weak, even as unemployment has fallen rapidly," he said.

The Bank's interest rate-setters must weigh up the risk to inflation from low interest rates versus the danger of hampering the recovery by hiking rates and pushing up the cost of borrowing for households and businesses.

It has been seeking to find a balance by trying to calculate the level of slack, a measure which it has said it wants to see narrowed before any rate rise.

The Bank now estimates that this has shrunk slightly from 1.25% to 1% although it now believes that the weakness in wages show it had been higher in the past than previously thought.

Mr Carney said the weak pay data suggested "the economy being able to sustain a higher level of employment and lower rate of unemployment without generating additional inflationary pressures".

The governor added: "In light of the heightened uncertainty about the current degree of slack, the committee will be placing particular importance on the prospective paths for wages and unit labour costs."

He maintained that the Bank's much-vaunted "forward guidance" on interest rate policy remained unchanged and there would not be a "magic number" for wage growth that would prompt a hike.

But the latest shift in emphasis will do little to counter critics' claims that his stance on rates to the behaviour of an "unreliable boyfriend".

It comes a year after Mr Carney introduced the first version of forward guidance, linking any rate hike to unemployment falling to 7%. But the guidance had to be ditched after six months when job numbers improved much more quickly than expected.

The governor today said that despite the new emphasis on pay, the MPC "does not have a particular threshold for wage growth" to decide when it considers an increase.

He reiterated that rate rises when they do come would be "gradual and limited" but added that this was "an expectation, not a promise".

Markit chief economist Chris Williamson said: "The report and recent rhetoric from policy-makers gives the impression that rates will not rise until wage growth is showing clear signs of picking up.

"While it seems likely that calls to raise interest rates will start to gather strength in coming months, a majority vote for a rate rise still looks some way off.

"February, therefore, still looks the most likely month for the Bank to dip its toe into the water as far as tightening policy towards more normal levels is concerned, though November remains a possibility if the wages data pick up in coming months."

Shadow chief secretary to the Treasury Chris Leslie said: "This report shows why this is no time for complacent and out-of-touch claims from ministers that the economy is fixed and people are better off.

"While the economy is finally growing again and unemployment is falling, working people are still seeing their living standards squeezed."

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