Unemployment in the UK is at a record low yet wages are flat. If we have full employment then inflation should be picking up – but it isn’t. What’s up?
The dismal science
There have been quite a few articles recently by respected economists asking what is really going on in the British economy. It’s always interesting when one encounters experts scratching their heads.
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The conundrum is that the UK now has a record level of employment, with unemployment at a 40-year low, and yet wages remain stagnant. All things being equal, as the economy picks up and more people come into the jobs market, wages should rise as employers offer higher wages for the best workers. But that is not happening.
The ONS reported on 12 June that the UK unemployment rate stood at 4.2 percent of the workforce[I] (all adults over 16, seasonally adjusted using International Labour Organisation methodology). In contrast, the unemployment rate in France (a neighbour with an approximately equal population and economy to ours) is at about 9.2 percent and actually rising[ii]. As we know, the rates of unemployment in Southern Europe are much higher still – Spain’s is nearly 17 percent[iii], though showing a gently downward trend.
A total of 32.39 million people were “in work” in the UK in June, up 146,000 in the three months to January and by 440,000 year-on-year. 71.3 percent of all women of working age are in work and 80 percent of men – the highest rate since 1991. There were 1.4 million jobseekers in the UK last month, even though there were 818,000 job vacancies. That is still, by my reckoning a lot of people who, for whatever reason, are not contributing to the economy.
When you take into account the recent rise in petrol prices at the pump and council tax increases, UK living standards are struggling to stay above water.
At the same time, more people joined the labour market in the year to May 2018, moving from “economic inactivity” (resting, retired, meditating) into work. The number of people of working age (16-65) who are “inactive” fell by 72,000 to 8.65 million. Falls were recorded in the number of students, homemakers, the unwell (yet the NHS is still under siege), discouraged workers and early retirees.
The growth of wages, however, slowed to 2.8 percent on a 12-month basis, excluding bonuses. Consumer prices rose by 2.4 percent over the same period, so the real rise in wages was something like 0.4 percent overall. When you take into account the recent rise in petrol prices at the pump and council tax increases, UK living standards are struggling to stay above water.
We would normally associate full employment with robust growth. But in the UK growth is sluggish at just 0.2 percent for Q1 and an expected 0.1 percent for Q2[iv]. (The latter being attributed to the Beast from the East – otherwise known as the wrong type of snow). That compares with the eurozone’s 0.4 percent in Q1 and something similar expected for Q2 – much down from the stellar levels recorded in 2017, but still respectable.
The loss of the UK’s growth mojo in Q2 is partly causally related to the slow-down in Europe. However, it should be noted that the UK follows a different business cycle from the eurozone – the UK recovered first from the recession that began in 2008 and led Europe in the growth league until last year. HSBC thinks the UK 2018 growth figure will be 1.3 percent[v] – the lowest since 2010.
HSBC thinks the UK 2018 growth figure will be 1.3 percent – the lowest since 2010.
In contrast, the Q1 number for the USA was 0.6 percent – suggesting annualised growth of more than three percent. Mr Trump’s America is racing away from Europe.
Another question is: where is the cost-push inflation that we would normally expect given full employment? In the Keynesian model a tight labour market implies rising wages and therefore prices too. But most of the recent inflationary pressure in the UK economy has come from the 20 percent or so devaluation of sterling further to the Brexit referendum of two years ago. Inflation is also currently exacerbated by the unforeseen spike in the oil price (blame Mr Trump, if you will).
The Old Lady speaks
Sir Dave Ramsden, Deputy Governor of the Bank of England tried to explain the conundrum in a speech on 07 June. He believes that unemployment has now fallen to a point where sustained upward pressure on wages will kick in. Accordingly, he thinks it likely that the Bank will need to raise interest rates next year.
Sir Dave voted against last November’s rate rise from 0.25 percent to 0.5 percent, but was in a minority of two on the Bank of England’s nine-strong Monetary Policy Committee (MPC). Since then, however, he has come to believe the economy is picking up and that wage growth will rise – as a result of which the Bank will have to act to push inflation to below its two percent target. He told the Daily Telegraph in June that “The period of unusually subdued growth in wages appears to be coming to an end”[vi]. One Bank of England economist believes that pay could rise by 3.5 percent over the course of 2019.
Uncertainty about Brexit and, increasingly, the fear of an ultra-left wing Labour government, have negatively impacted foreign investment.
Some have questioned this prognosis. Retail sales were up in Q2, no doubt partly stimulated by the royal wedding and the arrival of what promises to be the best British summer since 2003. But manufacturing output data is not so sanguine. Construction is down by more than three percent on a 12-month basis. The trade deficit is widening as exports flag (despite a competitive currency).
Uncertainty about Brexit and, increasingly, the fear of an ultra-left wing Labour government, have negatively impacted foreign investment. The decision of Jaguar Land-Rover (JLR – owned by Tata Motors (NSE:TATAMOTORS)) to build its new Discovery model in Slovakia is concerning. On 05 July the company even threatened to abandon new investment projects in the UK unless the Brexit miasma disperses.
Rotten work, if you can get it!
According to Stephen King[vii] (the HSBC economist, not the thriller writer), reversing the conventional causation, unemployment may be so low because wages have been falling in real terms. With the gig economy – Uber, Deliveroo, agency nursing, and so on – employers can effectively hire labour by the hour.
I have long since observed that corporate noblesse oblige is dead. Employers make no long-term commitment to their workers; and workers, in turn, offer no loyalty to their employer. Employers will pay workers the statutory minimum wage but no longer offer any benefits that were once universal – training, pensions, assisted private healthcare, season ticket loans, and so forth.
This is partly the product of pervasive technology – 15 years ago Uber would have seemed inconceivable – but it is also facilitated by the UK’s ultra-flexible labour market where zero-hours contracts have become the norm. (And not just in the private sector: virtually all adult education teachers, employed by local councils in the UK, are on zero-hours contracts).
15 years ago Uber would have seemed inconceivable – but it is also facilitated by the UK’s ultra-flexible labour market where zero-hours contracts have become the norm.
Trade union membership is also the exception rather than the rule outside large-scale manufacturing in the UK. According to the TUC, there are now just 6.23 million trade union members: 3.56 million in the public sector (23.2 percent of the total public sector workforce), and 2.7 million (13.5 percent) in the private sector[viii]. Trade unions in the UK still cling to a them-and-us attitude as compared to those in, for example, Germany (and even in the USA). Just look at the fetid dispute that is now in its third year on Southern Trains.
So “in work” encompasses junior doctors who work 70-80 hours per week to gig economy workers who work for maybe ten hours a week or less. The number of part-timers rose by 128,000 in the UK to 8.53 million in the year to April. Many of those people will tell you that they seek a beneficial life-work balance – allowing them sufficient time for child-care, home-making and pursuing their hobbies. But many of those people are desperate for more hours and more pay. One problem is that, currently, the ONS has neither the will nor the means to tell us how many.
People of a Labour-inclined persuasion will blame Thatcherism in the 1980s for the precarious nature of the modern workplace. But, as I see it, the architect of the low-wage, low-productivity economy was the New Labour government which held power under Messrs Blair and Brown for the 13 years after 1997. That government deliberately ramped up low-skilled immigration, knowing that that would put downward pressure on wages, thus harming the indigenous working class, in an effort to “rub their noses in diversity”[ix].
The number of part-timers rose by 128,000 in the UK to 8.53 million in the year to April.
Not only that, they held the Minimum Wage (as it was then called) at rock-bottom levels and penalised anyone who sought to escape benefits by imposing exorbitant marginal tax rates. When Gordon Brown left office in 2010 the personal allowance (above which income citizens pay income tax) was just £6,475 – less than half median income. Currently it is £11,850.
To his credit Ed Milliband, when leader of the Labour Party, at least tried to address these issues. But I have no idea what is the Corbyn-McDonnell position on zero-hours contracts. They will no doubt be far too busy overthrowing capitalism to worry about the low-paid.
As for the government, it is committed in principle to implementing the main recommendations of the Taylor Commission (October 2016) on Employment Practices in the Modern Economy. These seek to give more “rights” to self-employed workers. But these measures are likely to satisfy no one.
The curse of low interest rates
Regular readers will know that I assert that there was never any economic justification whatsoever for a decade of near-zero interest rates. Ultra-low rates were justified in the immediate aftermath of the financial crisis as a measure to create liquidity within a near-moribund banking system. But, by dis-incentivising savings, they also restricted investment. They skewed investment decisions to low-risk, low-return outcomes. They kept the zombies alive (though many high street zombies are, at last, about to expire). They punished the provident, particularly pensioners, most. That was New Labour’s most enduring legacy – offloading responsibility for monetary policy to a priestly caste of unaccountable central bankers.
Most of all, low interest rates have depressed productivity. Low productivity sectors thrive in a low-interest rate environment while risk-taking (as in investing in start-ups) is penalised because rates of return are reduced.
Phillips curve RIP?
The Phillips curve was an economic idea that all right-on economists considered universally true in the 1970s. It described the relationship between inflation and unemployment. When unemployment falls below its “natural” rate, so it was argued, inflation spikes.
But the Phillips curve doesn’t seem to work anymore. Unemployment in America is also at its lowest level since the early 1970s, at 3.8 percent, yet there is little inflationary pressure there either in terms of wages or prices. Why has the relationship between inflation and unemployment broken down?
One possible answer, advanced by commentators such as Jeremy Warner[x], is globalisation. The combination of new technology and mass migration – an inexhaustible supply of cheap labour – made it less likely for manufacturers to run out of workers. Moreover, local workers understood that manufacturers can switch production to lower cost jurisdictions very easily, so they moderated their wage claims. (Which is exactly President Trump’s beef with US corporations which source from Mexico).
But, as I have argued since the confluence of Brexit and Trump, we have now entered a state of post-globalisation or, as I prefer, economic nationalism.
Britain will be able to restrict the flow of unskilled labour from, for example, Romania, soon – although it looks like EU nationals are going to have some kind of privileged status. (More on that soon.) All things being equal, this will result in an ageing workforce.
(By the way, I met a group of smiling, hard-working Romanians labouring in a Chapel Down vineyard in Kent last week. Chatting with the foreman, it seems they are here to stay.)
Mr Trump’s tariffs could disrupt international supply chains, closing economies to international competition and thus forcing them to become more domestically-focused.
And Mr Trump’s tariffs (possibly combined with a no-deal Brexit) could disrupt international supply chains, closing economies to international competition and thus forcing them to become more domestically-focused.
These two things combined, argues Jeremy Warner, might lead to the restoration of wage bargaining power by organised labour and thus the rehabilitation of the Phillips curve. That could accelerate further as China moves from an export-led to a consumer-led economy.
The central bankers, meanwhile, have to work out whether the natural rate of unemployment has shifted in order to calibrate their plans for monetary tightening. We all know that interest rates are moving upwards across the English-speaking world. The question is: how quickly?
The effect of AI and robotisation
Artificial intelligence (AI), such as it is now, has helped drive workers into lower-skilled, low-paid gig-economy type jobs. Consider how Black Cab drivers who have invested in their careers by doing the knowledge now compete with Uber drivers who use satnavs (GPS systems). But in time, AI – allied with robotics – has the potential massively to enhance levels of productivity and thus living standards.
Some 40 years ago futurologists like Alvin Toffler promised us a leisure economy where people worked only as much as they wanted to. That has half-materialised. There are a lot of affluent over-55s who are “semi-retired”, mostly working from home. But there are also many people working part-time who are just about managing and would like to be full-time.
AI – allied with robotics – has the potential massively to enhance levels of productivity and thus living standards.
Once we have achieved the quantum leap in productivity offered by AI and robotics, and not before (maybe 2045?), we shall be able to displace the welfare state entirely by rolling out a form of Universal Basic Income (UBI), about which I wrote last year. Mark Zuckerberg is a proponent, though even he recognises that it is currently not remotely affordable.
Nobody yet agrees on precisely how a UBI system would work. In a more restrictive scheme it would not be automatic; rather, citizens would apply for it on the basis of certain criteria. People who were unwell or re-training would qualify, of course; as would anyone who wanted to learn to play a musical instrument, become a champion athlete, write a novel or dedicate themselves to voluntary work. To a limited extent this is already possible in wealthy Norway, which has a small population and a large sovereign wealth fund.
The productivity gap
Just before Christmas last year, I explained in these pages why we should not get too het up about the UK’s so-called productivity gap with our peers. Firstly, there is clearly a trade-off between employment and productivity. The more low-skilled people are in work, the lower output per head. And not only do we have more people in work but, on average, they work longer hours – 42.3 hours per week as compared with 40.4 hours in Germany and 39.0 in France.
The UK’s ultra-flexible labour market permits anyone to set up as a self-employed artisan who generally subsists on low wages, and zero perks. So there is a long statistical tail of low-paid, low-skilled workers in the UK which does not exist in France because, there, such people remain outside the labour market and in receipt of state benefits.
If there is a shortage of fruit pickers in our orchards, there are already robots who can sort this.
Secondly, as I explained, measuring productivity is problematic, especially in the service sector. The standard measure of productivity used by the OECD – GDP per hour worked – ignores the fact that some British production facilities (like Nissan’s plant in Sunderland) can boast world-class productivity levels; while millions of Britain’s micro-businesses are non-viable. (The latter including most of the shops and take-away food outlets you pass on the high street.)
Thirdly, the rate of growth of productivity has been slowing across the Western world. This is partly due to lower rates of capital investment since the financial crisis, itself partly caused by near-zero interest rates, as discussed above.
That said, we should still aim to boost productivity levels in order to foster economic growth. The obvious way to do this is to invest in AI and robotics as the Chinese and the Japanese are. If there is a shortage of fruit pickers in our orchards, there are already robots who can sort this. Again, the shortage of doctors in the UK will only be solved by online expert systems (bots) which can already filter and prioritise patients’ needs.
Trust markets more than economists
Bank of England Governor Mark Carney was surprisingly upbeat about the British economy yesterday (05 July). He thinks that the outlook is decent and that the major risk factor is not Brexit but Mr Trump’s trade war. He gave the clearest signal that rates will rise next year. Things will become clearer next week, on 10 July, when figures for manufacturing, trade and Q2 growth will be released.
Economics is a social science and thus an inexact one. Economists make poor weather forecasters – and weather forecasters (bless them) can forecast no more than one week or two ahead with any accuracy (as all Britons know).
My best guess is that in 2019 wages in the UK will trend upwards again, that inflation will modestly recur (putting house prices back on track), and that interest rates will rise.
My best guess is that in 2019 wages in the UK will trend upwards again, that inflation will modestly recur (putting house prices back on track), and that interest rates will rise. And I shall cheer all three. Some kind of resolution of the shape of Brexit could assuage big business and bolster Mrs May’s shaky government. In those circumstances the UK market could surge.
Overall, in a new era of economic nationalism, wage bargaining by organised labour will be revivified. It is no coincidence that Mr Trump’s main support base is the American indigenous working class. The Tories could make inroads here too, if only they could put the Brexit nightmare behind them.
Financial markets are always a better bellwether of where we are headed than the musings of economists. The UK markets have remained remarkably buoyant – though choppy – despite the uncertainty and the disappointing growth data.
Though, beware. Madame Market, like Mistress Fortune herself, might swivel her capricious gaze elsewhere at any moment.