Inflation target at risk from rising pay demands

The Bank of England's Monetary Policy Committee is this week expected to keep interest rates on hold despite fresh evidence that rising pay levels will put the Government's inflation target under renewed pressure. Strong economic growth combined with an increasingly tight labour market - with unemployment tumbling below 1 million - will encourage workers to push for wage settlements of more than 4 per cent, Incomes Data Services said.

The Bank of England's Monetary Policy Committee is this week expected to keep interest rates on hold despite fresh evidence that rising pay levels will put the Government's inflation target under renewed pressure. Strong economic growth combined with an increasingly tight labour market - with unemployment tumbling below 1 million - will encourage workers to push for wage settlements of more than 4 per cent, Incomes Data Services said.

IDS said the subdued level of inflation last autumn, when it hit a 36-year low of 1.1 per cent, had encouraged deals to be struck at relatively low levels in the early part of this year.

"Relatively high inflation in the critical period before January 2001 will set the scene for the first six months of 2001 in much the same law that low inflation helped set the scene for January 2000," it said.

IDS said there was already signs major employers were setting high benchmarks that other firms would have to follow. Building society, Nationwide, and London Underground have agreed 4 per cent deals.

According to the Government's statistics office, average earnings peaked at 6.0 per cent in February mainly due to millennial year-end bonuses. Since then, while bonuses have fallen sharply, rises in basic pay deals have stayed stubbornly high at around 4.4 per cent.

The labour market is a key concern for the Monetary Policy Committee. It split 5-4 in both of the last two votes and the same result is expected this month unless new member, Charlie Bean, who replaces the hawkish John Vickers, joins the doves for his first vote.

IDS said a growing shortage of skilled workers was forcing some companies - even local councils - to hold interim pay reviews to prevent staff leaving.

"With falling unemployment we may well see more emphasis on benefits and rewards to improve recruitment and retention," it said.

But it said the benefits of the tight labour market were not being shared equally among the record 27.97 million people in work. Employees of serve sector firms have enjoyed raises well above the level of their colleagues in manufacturing. But even within the services sector IDS found a huge variation with, for example, pay deals in the beleaguered retailing sector staying low and those in financial services and telecoms coming in much higher.

Parts of the UK, especially the South-east, are enjoying a claimant count rate of less than 1 per cent while some urban areas, such as Liverpool and Middlesbrough, suffer rates of more than 8 per cent.