Wages are likely to rise at a much slower rate than forecast by the Bank of England, keeping interest rates at a historic low and undermining tax receipts expected by George Osborne to balance the public finances.
A report by leading employment economists David Blanchflower and Stephen Machin ahead of the budget on 16 March shows that far from hitting a predicted 4% level in the next couple of years, wages will stick at around 2%.
The figures will be a blow to the chancellor, who could face a dramatic shortfall in receipts that need to be made up by extra spending cuts or tax rises to meet his target of a balanced budget by 2020.
The Bank of England and the Treasury’s independent forecaster, the Office for Budget Responsibility (OBR), publish regular forecasts of wages growth to judge the likely impact on the economy.
Blanchflower, who is a professor at the Ivy League Dartmouth College in New Hampshire, and Machin, who works at London University’s Centre for Economic Performance, said: “Our findings are worrying given the continuing optimism that is expressed in wage growth forecasts, especially by the Bank of England’s monetary policy committee (MPC) and the OBR.”
They said the OBR and Bank of England were serial offenders when delivering over-optimistic forecasts of wages, “have needed to be revised down repeatedly when actual wage growth has been observed”.
They added: “It seems likely that this will have to occur again.”
Threadneedle Street downgraded its forecast for wages over the next two years in its most recent inflation report, but retained a prediction that the average growth in wages would be 4.25% in 2018. Officials said they expected the sharp rise in wages to follow the tightening of the labour market, which has seen a fall in the unemployment rate to 5.1% and a record high employment rate.
This rise in wages, which will put upward pressure on prices, is the main reason the central bank argues it will need to raise interest rates in the next two years. But the report found that figures from the recruitment agencies Adzuna and XpertHR, the Office for National Statistics, and research by the bank’s own officials revealed wage pressures were weakening and there was still slack in the labour force.
Some employers will pay up to 3.6%, but settlements in the manufacturing sector remain about 2% and a growing number of employers, especially in the services sector, are maintaining a wages freeze. Most of the growth in jobs over the last three years have been in the services sector, which accounts for 80% of all jobs.
One study showed that 36% of firms, which paid 2% or less in the year to December last year, said they were unable to pay their workers a higher wage.
The authors said: “Generating false optimism on wage growth is bad for the economy and bad for worker morale. The agencies generating such false optimism really should recognise the danger of this.’
“It seems likely that in the forthcoming budget, the chancellor will have to downgrade his forecasts of UK finances because of the OBR’s overly optimistic wage growth forecasts. This matters.”
This article was written by Phillip Inmaneconomics correspondent, for theguardian.com on Friday 4th March 2016 19.44 Europe/Londonguardian.co.uk © Guardian News and Media Limited 2010