Private-sector pay rises hit rate cut hopes

The Bank of England's ability to cut interest rates aggressively has been further hampered by figures showing private-sector pay rising at the fastest rate for 15 years.

Industrial Relations Services (IRS) said that median pay settlements in the private sector rose to 3.7 per cent in the last three months of last year, up from 3.4 per cent over the three months to the end of November. The figure was the highest recorded since November 1992.

Two-thirds of pay deals were higher than a year ago, while some employers were offering increases of as much as 6.7 per cent, IRS said. While the pay specialist said that deals were likely to fall back during January, it still predicted average increases of between 3 and 3.5 per cent.

Howard Archer, an economist with Global Insight, said the pay figures would make it even more difficult for the Bank of England's Monetary Policy Committee to follow the lead set by the US Federal Reserve, which this week announced an emergency interest rate cut of 0.75 percentage points. Mr Archer said the MPC would still have the option of a 0.25 percentage point cut next month, as has been widely predicted, but warned there was increasingly little chance of anything more generous. "One of the Bank of England's main inflationary concerns is that higher inflation in the short-term resulting from increasing utility bills and elevated food prices could raise inflationary expectations and lead to higher pay settlements," he said. "This would raise the risk of a wage-price spiral developing."

Sheila Attwood, IRS's pay and benefits editor, said one reason for the higher pay settlements last year had been employees' expectations of increasing inflation. "Higher inflation has been the key to some long-term deals at the end of 2007, pushing our headline settlement measure to a record high," she said.

Gordon Brown has called for restraint on pay deals. In the public sector, ministers face showdowns with employees including the police and teachers, after relatively meagre pay offers.

Nevertheless, the Prime Minister is keen for the Bank of England to press ahead with interest rate cuts, amid rising fears that a slowdown in the US could affect other economies. This week the Treasury minister Ed Balls said he expected the MPC to cut the cost of borrowing.

However, Mervyn King, Governor of the Bank, has warned that inflation may overshoot the Bank's 2 per cent target by more than a full percentage point this year, limiting the room for manoeuvre.