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Ian Brinkley
Economic Advisor
Ian Brinkley

Labour Market Normality Restored?

Authors: Ian Brinkley Senior Economic Advisor

17 June 2015

The labour market shows no sign of running out of steam. We saw a significant increase in employment comparing the three months to April with the previous three months  – up by 114,000 – and almost all of the increase was for permanent full time employee jobs. As a result, the unemployment rate fell from 5.7 to 5.5 per cent, not far above where it was before the recession hit.  The employment rate – the share of the working age population in a job - edged up slightly. Overall, it has been an impressive labour market performance since 2010 which not many other OECD economies have been able to match.

The increase in employment was also accompanied by a further recovery in wages. Regular pay (excluding bonuses) went up by 2.7 per cent comparing the three months to April 2015 with the same three months a year ago. The same comparison for the three months to September 2014 showed regular pay increasing at an annual rate of 1.7 per cent, and in the three months to April 2014 the annual increase in regular pay was just 0.9 per cent.

This sustained recovery in pay and exceptionally low inflation means that many people will have seen a significant recovery in real incomes. It must also give the Bank a bigger headache on when exactly to start increasing interest rates and the debates around next month’s interest rate decision are likely to be interesting. However, if the “cost of living crisis” appears to be over for most people, it is still a reality for some, notably those on low pay. Moreover, a significant minority of employees in the private sector will still be experiencing pay freezes and few public sector workers are likely to feel much better off than a year ago.

Public sector regular pay went up by just 1 per cent on average comparing the three months to April 2015 to the same three months a year ago, compared with 3.3 per cent across the private sector. In a competitive labour market with unemployment at low levels and falling this is not sustainable. Even if conventional industrial action in the public sector is more constrained by new legislation, expect more people to vote with their feet and for recruitment and retention across the public sector to become worse rather than better.

If the overall performance of the labour market is impressive, there are also some challenges. The unemployment rate of 18 to 24 year olds remained unchanged at 14.3 per cent, so the gap between young people and the rest of the population widened. We are in danger of seeing some young people being left behind.

My guess would be that the big falls in youth unemployment we have seen over the past two to three years have now come to an end, and that there is a much larger structural component to youth unemployment. This will consist mostly of young people living in areas where there are few jobs or who lack the education, skills and experience to compete for the jobs which are on offer. There will also be a minority who have more complex problems of disadvantage.  Successfully integrating disadvantaged young people into the UK labour market has been a long-standing problem for policy makers. The pre-Election pledge by the Conservative Party to “abolish youth unemployment” looks challenging.

Another potentially worrying trend is the increase in those classified as “economically inactive” (not in work or seeking work) who nonetheless say they would like a job. This went up by over 90,000 to reach 2.3 million over the three months to April 2015, and is now significantly higher than the number of unemployed who are actively seeking work at just over 1.8 million. This has been a long-standing feature of the UK (and other OECD) labour market.
What we do not know is what is driving the increase. If more people on the margins of the labour market are signalling an intention to work – encouraged by more jobs being available and recent welfare benefit reforms – then it potentially adds to the supply of labour and makes it less likely the labour market expansion will generate inflationary pressure. But it could also be a sign of dysfunction, with very large numbers facing significant barriers to employment or living in areas where jobs are hard to come by and unable or unwilling to move to areas where jobs are more plentiful.

In reality, both stories are likely to be true. Either way, policies that effectively facilitate more people back into work will help reduce both labour market disadvantage and help sustain non-inflationary growth. Whether the current approach starts to reduce the numbers of inactive who would like a job – a key indicator of success - remains to be seen.

Another feature of the latest figures is the continued decline in self-employment, down 50,000 on the quarter and over 90,000 over the year to April 2015. This is party because some people who entered self-employment because no other work was available are now moving back as more employee jobs are offered. But in addition the rise in self-employment was always inflated because it was driven by fewer people leaving self-employment rather than more people entering. The fall in self-employment should be seen as a sign of the labour market returning to normal.  I expect the share to continue to decline slowly, with little if any growth in the overall numbers over the next few years.

There are plenty of signs that the labour market is returning to something like normality. And some signs that old structural problems around disadvantaged young people and working age economic inactivity are still very much with us. What we do not know is whether productivity levels are also recovering towards pre-recession rates. Faster wage growth ought to be a sign that they are – and both the Office for Budget Responsibility and the Bank have built assumptions about faster productivity growth into their growth forecast. Expect even more scrutiny than usual of the next few sets of productivity statistics to see if there is any indication that they are right.