>
Strong wage growth puts the UK at a ‘significant’ risk of higher interest rates for an extended period of time, influential economists predict.
While concerns about a recession in Britain and other G7 countries are easing, inflation could prove more stubborn than expected due to rising wages, forcing central banks to keep interest rates high, according to an Oxford report Economics.
This is especially true for Britain and the US, where there are indications that wages will rise further this year, according to economists Innes McFee and Tomas Dvorak.
But it added that the Bank of England may be forced to pause hikes soon due to a sharp slowdown in employment.
According to Oxford Economics, consumer spending will still stagnate, but not collapse
“The continued strength of our wage growth indicators points to the risk that central banks will be forced to tighten monetary policy further and for longer than many economic forecasters and markets currently expect,” they wrote in the report.
The US is clearly the most at risk, given the strength of both employment and wage sentiment.
Risks to the UK are also significant due to very strong wage data, but this may be temporary given the fact […] our data suggests that employment in the UK has declined significantly in early 2023.”
Regular wages, excluding inflation, rose 6.7 percent in the three months to December compared to the same period a year earlier – the largest increase ever recorded outside of Covid, according to figures from the Office for National Statistics.
But factoring in inflation, wages before bonuses actually fell 3.6 percent in the quarter, the biggest drop in more than a decade, eroding people’s purchasing power.
There were also signs that employment was slowing by the end of 2022, with job openings falling by 76,000 as the uncertain economic climate made companies reluctant to recruit.
Inflation could be more stubborn than expected in the first half of 2023, leaving central banks on high alert
This looks set to continue into the new year, with Oxford Economics saying more recent sentiment data suggests Britain’s job growth has ‘slowed significantly’ since the start of the year.
This also applied to Italy and Germany, two other exceptions to the otherwise “resilient” job markets of other advanced G7 economies, the report said.
The Bank of England previously warned of the possibility of a ‘wage-price spiral’, in which wages continue to rise to keep up with prices and thus drive up inflation, making it ‘anchored’ in household expectations.
Consumer price inflation in the UK remains stubbornly high, despite a slight decline from 10.5 percent in December to 10.1 percent in January.
The chart shows how the UK is the G7 country with the second highest wage growth since early 2023, after South Korea
But this other chart shows a sharp slowdown in job creation in Britain since the start of 2023
At its February meeting, the Bank of England raised its base rate for the 10th consecutive month to 4%, the highest since the 2008 financial crisis.
However, interest rate hikes won’t really start to take effect for about 12 to 18 months, Dvorak explains, putting the Bank in a tricky position to gauge how much of the previous tightening has already seeped through the economy.
“That said, the BoE seems to be placing a lot of weight on the recent strong labor market and inflation data and putting relatively less emphasis on medium-term inflation projections,” added Dvorak.
The economists predict the Bank of England will raise rates by another 25 basis points in March, after which they expect it to pause, with the base rate remaining at 4.25% for the rest of the year. This is in line with recent forecasts by other economists.
They also expect the UK recession to be ‘quite shallow’, which is why they don’t think the Bank will be forced to flip and cut rates.
Recession fears are receding… but consumer spending will still stagnate
Recession fears are easing in all advanced economies, despite the impact of higher interest rates, geopolitical uncertainty and pressure on real incomes.
In stark contrast to the end of last year, 2023 has begun with a slew of good news, including falling European gas prices, China’s surprise reopening and improving US labor market dynamics.
“Consumers’ relative optimism likely stems from labor market resilience,” they added.
Concerns about the recession in the major G7 economies have eased in recent months
However, they stressed that this does not mean that economies are recovering, but that they will face months of “anemic growth” in consumer spending as high inflation continues to hit people’s wallets.
Current economic indicators point to stagnant consumer spending in the UK, as well as the US and Europe, the report said, with countries like Canada faring worse than the rest.
“Reducing concerns are not a signal that the economic cycle is accelerating again,” they said.
Our indicators continue to point to stagnant consumer spending in the US and Europe.
“And there are weak spots, for example Canada, where consumer confidence is deteriorating more, due to the worsening outlook for the housing markets and credit conditions there.”
Some links in this article may be affiliate links. If you click on it, we may earn a small commission. That helps us fund This Is Money and use it for free. We do not write articles to promote products. We do not allow any commercial relationship to compromise our editorial independence.