Earnings growth revives City's inflation fears: Underlying increase of 3.5% in year to February dampens hopes of early interest rate reduction

FRESH signs of upward pressure on inflation from the labour market emerged yesterday as higher bonus payments in the City, banking and financial services helped to raise the growth rate of average earnings.

Average earnings rose by an underlying 3.5 per cent in the year to February, compared with a trough of 3 per cent in the year to the autumn of last year, the Department of Employment said.

The figure was worse than the City had expected, helping to cool recent speculation about an early interest rate cut because of the possibility that this could fuel inflation.

The combination of inflation worries and fading rate cut hopes pushed the pound higher and gilts prices lower, reinforced by a 0.12 percentage point cut in the key German 'repo' interest rate to 5.58 per cent. The FT-SE index dropped by 29.7 points to 3,098.3.

The Employment Department said that the recent jump in earnings - more than 3 per cent between December and February alone - owed more to bonus payments than to higher pay settlements, although a number of surveys have shown settlements gradually picking up. Settlements reached in January by 45,000 knitting workers, 286,000 motor vehicle retailers and repairers and 120,000 clothing workers were all equal to or below last year's levels.

The Treasury said the rise in bonus payments should not be inflationary because most were rewards for improved performance.

The Employment Department had better news on labour costs, revising downwards its estimate of the growth in unit wage costs - the amount spent on wages and salaries to produce each unit of output.

The department estimated unit wage costs grew by 0.5 per cent in the year to the fourth quarter compared with an earlier estimate of 0.7 per cent. Unit wage cost growth in manufacturing continued to accelerate, reaching 2.3 per cent in the year to February against 2.1 per cent in the year to the previous month.

'Modest re-employment in 1994 should see productivity growth ease back,' said John Marsland, of UBS. 'Combined with increased wage pressure, this should lead to unit wage costs picking up throughout the rest of this year'.

Earnings growth in manufacturing was unchanged on the previous month at 4.5 per cent in the year to February compared with a trough of 4 per cent in the year to last November. Earnings in services rose by 3.25 per cent in the year to February, up from a trough of 2.25 per cent in the year to October.

Don Smith, economist with inflation optimists Midland Global Markets, said the earnings figures were very disappointing. The strength of earnings in February suggested that the headline earnings growth figure could rise again next month.

The earnings of private sector workers are growing more than twice as quickly as those in the public sector. The Chartered Institute of Public Finance and Accountancy said private sector earnings were rising by 4 per cent a year compared with the 1.5 per cent ceiling imposed on the public sector.

'The lags in setting public sector pay mean that a clampdown in public services has occurred just when improvements are taking place for everyone else,' said Chris Trinder, research director of CIPFA.

'This is bad for morale, bad for efficiency and bad for sustaining the economic recovery.'

The lifting of the 1.5 per cent ceiling will push up the average rate of pay settlements in the next few months. More than 600,000 teachers, doctors, dentists and NHS professionals will this month receive pay settlements of around double last year's 1.5 per cent ceiling.

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