UK labour market data: (Mild) stagflation on the way?

18 Jan 2017

Philip Shaw

Chief Economist

Today’s UK labour market data showed a small (9k) contraction in employment in the three months to November, following a 6k decline in the three months to October.

That provides a further sign that jobs growth has flattened off (although the unemployment rate held steady at a healthy 4.8% (consensus 4.8%, Investec 4.9%)). Meanwhile, wage inflation continued to move upwards – headline wage growth came in at +2.8% (3m yoy), versus a consensus and Investec expectation of +2.6%. Meanwhile, private sector wage growth (excluding volatile bonuses) was +3.0% (3m yoy) – that is the first 3%-plus reading since August 2015.
The fall in employment points to a flattening off after a bumper period of job creation. In the five years to August 2016, employment rose almost uninterrupted and more than 2½ million jobs were added to the economy. The flattening could be due to various factors:
First, we note that the drop-off in three-month jobs growth can be entirely accounted for by a rise in inactivity, i.e. a rising proportion of the population neither in nor looking for work. Inactivity rose by 85k over the three months, to a rate of 21.7%. There is a possibility, though, that sampling noise might have caused a downward blip in the inactivity data from the previous three months, which was due a correction.
Second, we think that the labour market is running at around full capacity, limiting the ability of firms to keep hiring at the same pace without running into skills shortages and/or needing to jack up wages. A good news story here is that even though jobs growth has flattened off, the economy remains robust (we reckon GDP grew by around ½% in Q4 last year), suggesting that long-elusive productivity growth might be picking up.
Third, there is a chance that Brexit-related jitters are weighing on hiring. We do not yet put much weight on this story, given the strong read from other economic indicators. But we do expect lingering uncertainty and the prospect of a broader economic slowdown (partly driven by a rise in CPI inflation to over 3% this year due to the weak pound) to weigh on the jobs market.
It is hard to say which factor dominates, but all three suggest that the five-year bull market for UK jobs is over. But we would stress that, particularly with the economy holding up well after the Brexit vote, rises in joblessness should be limited – we see the unemployment rate creeping up, but remaining below 5½%, over the next couple of years.
Despite the slowdown in employment, the rise in wages might have further to run. With the economy running at around full capacity, our view that that wages should be growing somewhere between 3% and 4%. There is also a chance too that, as sterling-driven inflation bites, employees will respond by pushing for higher wages.
Taking these developments together, the labour market might be on the cusp of experiencing a period of (mild) stagflation – higher wage inflation accompanied by sub-par jobs growth, given Brexit headwinds. Despite firmer inflation prospects though, the Bank of England will be sufficiently worried about the latter, in our view, such that Bank rate looks set to remain at 0.25% until at least the end of 2018.