Why UK rates are well below “normal” in one labour market chart

February 19, 2014

Much ink has been spilled over the past several months over when the Bank of England will eventually raise interest rates from a record low of 0.5 percent, and if they’ll do it before the Federal Reserve does. The pound is trading near a five-year high against a basket of currencies as a result.

BoE Governor Mark Carney and other Monetary Policy Committee members have tried to remind the public and businesses at every chance they are given that a rate rise is still a way off – likely at least a year – and that when it’s time for the central bank to lift rates, it will do so gradually.

Much of the focus until the BoE’s February Inflation Report, published last week, was on the jobless rate and how quickly it has fallen. The latest data show a slight rise to 7.2 percent, so a bit above the 7 percent rate the BoE said it would have to fall below to trigger discussions on rate rises.

But they’ve already scrapped that guidance for something a lot more difficult to challenge. The BoE will be watching 18 separate data points in the second phase of its experiment in forward guidance. And more.

But this one chart explains a lot about how much needs to change before it raises rates.

 

 

 

 

 

 

 

 

 

 

 

 

 

Unemployment may have come down a lot – along with inflation to just below 2 percent target. But real wage growth, i.e., what people take home after inflation has eroded their pay, is nowhere near where it was before the crisis. And the gap between real pay growth – which is negative – and the jobless rate is about as wide as it has ever been.

The worst thing an economist can do is to simply extrapolate past trends into the future to predict policy. Indeed, the policy we’ve got now is still grappling with the aftereffects of the Great Recession, which followed the worst financial crisis in more than 80 years and so what happened just before perhaps isn’t so relevant anymore.

But this chart shows, at very least, that there is plenty of time before policy needs to get a lot tighter.

 – Graphic by Vincent Flasseur

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