If we measure inflation by the RPI, real pay is still falling

If we measure inflation by the Retail Price Index – far more commonly used than CPI in pay bargaining – real pay is still falling, writes Richard Exell.

If we measure inflation by the Retail Price Index – far more commonly used than CPI in pay bargaining – real pay is still falling, writes Richard Exell

The latest labour market statistics are positive, continuing an improving trend that began a year and a half ago. The headline figures are here.

These figures are going to be politically significant. I’ll leave the party-political aspect to the politicians, but we do need to worry about the calls we’re going to hear for higher interest rates.

The unemployment rate is now below the Bank of England’s 7 per cent threshold and earnings slightly above the Consumer Price Index in the latest inflation data. The argument will be that we need to “head off” inflationary pressures by raising the Bank Rate.

Fortunately, this argument can be countered with reasonable ease. The reason why earnings are now rising faster than inflation measured by CPI is that inflation is low, not that pay rises are high. And if we measure inflation by the Retail Price Index – far more commonly used than CPI in pay bargaining – real pay is still falling.

Real wages 2j

Indeed, if average weekly earnings had continued rising at the rate of 4.3 per cent a year that was the average up to 2008, they would now be more than twenty per cent higher:

Average weekly earningsj

In the years before the crash, RPI inflation was in the range 3 to 5 per cent and it is at the lower end of that range now. Earnings, on the other hand, nearly always grew at an annual rate of more than 4 per cent but for the past two years it has been half that level.

As for the unemployment rate, it remains significantly higher than before the crash. For eight years at the start of the century, the unemployment rate was between 4.5 and 5.5 per cent; certainly the rate has come down recently, but we still have a long way to go before it will be credible to say that there is a risk of wage-push inflation.

The Bank of England is interested in the unemployment rate because it is a proxy for the level of spare capacity in the economy; if there is more then we can manage more growth without worrying about inflation, the less there is, the more the Bank has to keep an eye open for accelerating inflation.

Today’s figures suggest that this shouldn’t be a concern at the moment.

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