Today’s UK labour market data show nominal wage growth falling back – to about 2% annual growth, from a local peak last year of 3% – at the same time as the employment rate increases. This is another important interregnum for those who thought the UK economy was following a trajectory that would justify a first hike in rates and the beginning of the process of normalising monetary policy.
Recent speeches by both Vlieghe and Carney on the MPC warned that nominal wage growth and other inflation indicators had to show clear signs of picking up before they were prepared to raise rates.
But students of modern monetary policy models will know that these models suggest monetary policy pay attention to nominal wages not just in so far as they are potentially indicators of future inflation, but for their own sakes too. In these models, stabilising nominal wages around their long run growth rate is just as important as stabilising inflation around its target.
The mandate itself does not give the MPC a nominal wage growth target. But its signal to support the government’s objectives of achieving ‘strong, sustainable and balanced growth‘, and the March 2013 review of the mandate by HMT which explicitly characterised what MPC should be doing as ‘flexible inflation targeting’ gives policy makers ample scope, in my view, to place independent emphasis on stabilising nominal wages.
You might wonder whether having this independent concern for nominal wages makes a difference, if they are anyway an important indicator of future inflation.
There are 3 things to say about this.
First, central banks have a long history of debating in fact whether short run correlations imply that nominal earnings follow inflation, rather than signal future inflation. If you care independently about nominal wages, this debate is less relevant.
Second, a shift in labour’s bargaining power [or equivalent concepts] could well mean that nominal wages decelerate at the same time as firms’ prices accelerate. Caring independently about nominal wages means that one would not respond to such a change by simply accommodating all of the nominal wage fall. Policy would be faced with a trade-off. [This is topical as on some measures core inflation has surprised on the upside].
Third, without a motive to care independently about nominal wages, these data become just one out of several pretty noisy indicators of future inflation that it may be easy to find reasons to downplay. Not so if policy ought to care about nominal wage growth for its own sake.