ONS Economic Review: the irrelevance of labour market ‘tightness’ to the inflation outlook

The higher the implied ‘tightness’ the lower the inflation reading


In the jargon, improvements in employment are regarded as a tightening of the labour market. As more people are employed and fewer unemployed, for economists the threat of inflation looms larger and larger. Policymakers then reach for the interest rate weapon.

Yet present conditions seem to stand such notions on their head. The labour market gains of the past years have come at the expense of lower wages, and the more plausible concern has been that of deflation.

As is widely understood headline inflation figures have been pushed below zero (to -0.1 per cent), in part by very steep falls in the price of oil, but disinflationary pressures go way beyond oil. In their Economic Review for June 2015, the Office for National Statistics (ONS) analyse in more detail the recent weakness in so-called core inflation (excluding energy, food, alcoholic beverages and tobacco– a measure thought to be a better guide to underlying pressures), observing that “core inflation has moved gently downwards since the end of 2011”.

Looking in turn at the contributions to core inflation, the ONS shows that of the 0.8 per cent recorded in April 2015, 0.4 percentage points are accounted for by housing prices and education. Given education is mainly explained by the administrative arrangements governing student fees and the expense of the housing market is well understood, this suggests that underlying inflationary pressures are not far from zero.

The conventional fear is that low inflation will lead to consumers postponing spending decisions as they wait for prices to fall. The ONS sees little evidence of this, with consumer demand growth little changed in recent quarters. That said they examine volume figures; under disinflationary conditions it may be more appropriate to look at sales values, where growth has slowed.

When it comes to the labour market, the ONS cannot help but fret about tightness. They construct a measure of the proportion of ‘new hires’ that are from other firms. This shows 54 per cent of such new hires in the year to 2015 Q1, “below its pre-downturn average, but the highest rate since early 2009”. The suggestion is that this “appears to reflect rising recruitment difficulties, suggesting employers have turned to labour from other firms as the supply of experienced labour among the unemployed and inactive has gradually fallen”.

A rising measure is one thing; an inflationary signal is something completely different. Plotting the ONS (monthly) measure against actual inflation outcomes (on the left hand chart below, using core CPI) shows this measure of ‘tightness’ meaningless in terms of inflation outcomes.

Labour market tightness and inflation (click to zoom)

Geoff Tily

In fact, the relationship is a negative one: the higher the implied ‘tightness’ the lower the inflation reading.

Such measures of tightness are not exclusive to the ONS. The Bank of England agents also derive a (quarterly) measure of ‘recruitment difficulties’ – this is shown against core inflation on the right hand chart. Again the match is an inverse one. (For those that care, the correlation for the ONS measure is -0.8 and the Bank measure is -0.7.)

Economists may have co-opted the word ‘tight’; but there are other definitions that might be more apt to present conditions: Informal: not willing to spend or give much money; mean.

Geoff Tily is a senior economist at the TUC

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3 Responses to “ONS Economic Review: the irrelevance of labour market ‘tightness’ to the inflation outlook”

  1. Torybushhug

    I have long framed this in terms of the WHICH generation, the one that demanded lower prices at every turn and this has been a 20 year process beginning with WHICH and Watchdog urging us all to become value hunters, from no frills airlines, to budget couriers, cheaper online tourism to sweat shop produced garments.

    This accounts in part for the rise in ZHCs, consumers demand low cost participants in many commercial Eco systems.

    The left needs to recognise all this. In the end despite millions of us claiming we want higher wages for workers, our consumption choices are not driven by such imperatives, we make buying decisions based on best value.

    If wages are regulated to higher amounts, consumers will choose firms that find ways to circumvent this cost rise such as by using non permanent staff. Many of us ought to be looking in the mirror before blaming nasty predator business for lower wages. Far more saintly of course to employ a caring narrative that disguises your consumption choices that drive things like ZHCs.

  2. stevep

    Do you make the “right” choices?
    Do you buy Fairtrade goods?
    Do you buy consumer goods from the far East?
    Do you buy goods from companies that won`t recognise trades unions?
    If your answers are the “correct” ones then please award yourself a well-deserved sainthood and look down on the rest of us mere mortals who have been advertised and propagandised by the rabid right to see ourselves as consumers rather than human beings struggling to get along with each other.
    Do you honestly think those of us who have managed somehow to escape from the matrix of far-right consumerist propaganda can`t see or ignore what you describe?
    Yes, enlightened people want to see a fair world where every one is given equal weight and opportunity.
    And we want to see a world where man is not set in competition with another man so that a wealthier man can profit from it.
    A world in which no man is exploited for his labour.
    A world in which we take only what we need without being exploited by greed.
    A world which gives us the framework to get along with one another and fully develop as human beings, not objects or numbers to be exploited.
    Come out from behind your own mask and wake up and smell the coffee.
    it`s called SOCIALISM!

  3. Rick

    Britain just imports more labour to put British workers out of their jobs and keep wages low.

    This is no labour market ‘tightness’ with uncontrolled immigration.

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