UK: Deloitte Monday Briefing: Why Wages Are Weak And Why It Won't Last

Last Updated: 23 July 2014
Article by Ian Stewart
  • Normally stronger labour demand spells higher wages. But the UK's unexpectedly strong recovery has been accompanied by a weakening of wage pressures. Average earnings have risen by just 0.3% over the last year, the slowest rate of growth in four years.
  • Why aren't wages responding to falling unemployment?
  • A record 30.6 million people are in work but there are still many people who would like to work but cannot find a job. 2.1 million people are unemployed and a further 2.0 million are working part time or in temporary jobs because they are unable to find full-time employment.
  • Not only is there slack in the labour market, the supply of labour has risen through the recession.
  • Almost 900,000 foreign workers have arrived in UK in the last five years. Reduced pension entitlements and rising life expectancy have boosted the number of older workers. More than a million over-50s have joined the labour force in the last five years.
  • High levels of self-employment have probably dampened wage pressures. The self-employed earn less, on average, than employees and, at least some that have set up on their own in recent years are likely to return to employment if jobs became available.
  • Weak wage growth should be seen in the context of a labour force which is increasing in size, becoming older, more self-employed and more international – and where the benefits system emphasises actively searching for work. Long-term influences, including falling levels of unionisation, the rise of labour-saving technology and competition from cheap, emerging market imports, have added to the downward pressure on wages.
  • The financial crisis and the ensuing recession have played a part too. Employers have become more cost conscious and employees more anxious to hold onto their jobs. The latest Deloitte CFO Survey shows that the second priority for corporates, after expansion, is cost control.
  • The recession hit construction and the financial sector very hard. Output in both sectors is below the pre-crisis peak and, in the case of financial services, still contracting. Wages are shrinking in these sectors, down 2.3% in finance and business services and 1.3% in construction in the last year, even as the economy recovers.
  • One of the most prominent manifestations of the Coalition's drive to shrink the UK budget deficit has been a long squeeze on public sector pay. This, too, has dampened whole-economy wage pressures.
  • In the economics jargon an increase in the numbers wanting to work has shifted the labour supply curve to the right; and, with people more concerned about staying in work than winning pay rises, the supply curve has steepened. Meanwhile, a greater focus on cost by employers implies a flattening of the labour demand curve. Together these factors have born down on wages.
  • What of the future?
  • We do not share the pessimism of those who argue that we are into a new normal of declining, or negligible, earnings growth. There are many structural arguments, some of which we have touched on, to explain the squeeze on wages. But there is a risk of over-emphasising such secular arguments to the exclusion of cyclical ones.
  • It seems implausible that the supply/demand relationship has entirely broken down in the labour market. Wages are weak because there are still plenty of people who want work and can't find it. But the recovery has strong momentum. If unemployment falls as fast in the next year as it has in the last, the unemployment rate will be back to 2007 levels next summer.
  • The recession may have slowed the reaction time, and may have a lasting effect on labour market behaviour, but it has not suspended the laws of supply and demand. Meanwhile, the Bank of England, like the US Federal Reserve, seems to see rising wages as the best guarantee of a sustained recovery.
  • We think earnings will be moving higher by the end of the year. With inflation likely to ease, that spells a slow recovery in consumer spending power. It won't be enough to fuel a consumer boom, but it should keep UK consumers spending.

MARKETS & NEWS

UK's FTSE 100 ended the week up 0.8%.

Here are some recent news stories that caught our eye as reflecting key economic themes:

KEY THEMES

  • US media giant Time Warner rejected an $80bn takeover approach from Rupert Murdoch's 21st Century Fox
  • US PC-maker Dell announced that consumers would be able to use the digital currency Bitcoin to shop on its website
  • The Bank of England's latest Trends in Lending Report showed that the proportion of SMEs not seeking finance rose to 82% in the first quarter as they choose to fund expenditure out of cash
  • Citigroup made a $7bn settlement with the US Department of Justice over mis-selling of mortgage-backed securities
  • UK's Competition and Markets Authority has recommended an 'in-depth' investigation into the behavior of banks operating in the markets for personal current accounts and small business banking
  • UK's unemployment rate fell to 6.5% in the three months to May and wage growth slowed to 0.3% year-on-year
  • South Africa's central bank raised its interest rates for the second time this year to counter rising inflation
  • Food and drinks giant PepsiCo raised its quarterly dividend by 15%
  • Demand for housing loans in Japan fell to its lowest level in 14 years in the second quarter
  • The US Federal Reserve said that valuations for smaller social media and biotech companies appear "substantially stretched" in its semi-annual Monetary Policy Report
  • Citibank has recommended its clients to buy credit-default swaps on UK government bonds in the event that Scotland votes for independence as that could trigger a payout
  • Year-on-year rises in Chinese property prices slowed to 4.2% in June due to over supply of housing
  • BT announced that it is returning to the mainstream mobile market with a service that will bring together work and personal calls on mobile devices for business customers
  • In a push to privatise state-held assets, the Indian government announced the sale of its stake in state-backed energy explorer Oil and Natural Gas Commission
  • Glee Club, a UK-based chain of live entertainment and comedy clubs, has won a case for trademark infringement against 20th Century Fox, the makers of Glee – a TV series about the members of a high school singing club, after claiming that potential customers were staying away from its venues assuming they were linked to the TV drama – business by dissociation

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