May 19, 2023: After over a year of warnings, Bank of England Governor Andrew Bailey says the U.K. is experiencing a wage-price spiral even after 12 consecutive central bank interest prices hikes.
“Some of the strength in core inflation is showing the indirect effects of increased energy prices,” Bailey said. “But it also reflects second-round effects as the external shocks we have seen interact with the state of the domestic economy.”
“As headline inflation decrease, these second-round effects are unlikely to leave as quickly as they came in.”
These areas of persistence, he continued, include domestic wage growth and price setting.
This situation risks a wage-price spiral, a theory that says workers bargain for wage increases as inflation rises, fueling higher demand and pushing companies to raise costs to compensate for steeper expenses. This leaves workers requiring higher wages to afford goods and services, perpetuating known “second-round effects.”
The U.K. inflation rate surprised economists by holding above 10% in March. Core inflation, excluding food, energy, alcohol and tobacco, was steady in the previous month at 5.7%.
Bailey said that loosening the labour market, as vacancies begin to fall, is happening more slowly than the central bank previously anticipated.
He noted that nominal wage growth and services costs inflation had occurred in line with the bank’s forecasts. Bailey added that the Bank of England sees signs of a slowdown in earnings growth but observes that services inflation remains elevated.
The bank’s monetary policy committee “continues to judge that the risks to inflation are skewed hugely to the upside,” he said and would keep adjusting its primary bank rate “as necessary” to reach its 2% inflation target.