Wages grow at slowest rate in over two years – what it means for interest rates

Wages are now growing at the slowest rate in over two years, the latest data from the Office for National Statistics (ONS) shows. 

In the three months to July, regular wages (excluding bonuses) grew by 5.1% annually, down from 5.4% in the three months to June. Meanwhile, total earnings (including bonuses) grew by 4%, down from 4.5%. It continues a trend of slowing pay growth that has been in motion for almost a year, and is another sign that the economy is starting to normalise after several years of high inflation. 

This could spell good news for those hoping for another interest rate cut from the Bank of England before the year is out, even if a September cut is looking unlikely. Wage growth is a big driver of inflation, which means the Bank of England watches the metric closely when setting interest rates. 

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Commenting on today's labour market data, Ashley Webb, UK Economist at Capital Economics, said: "Overall, while the continued easing in wage growth will be pleasing to the Bank, we doubt today’s release will move the needle too much for September’s policy meeting. We still think the Bank will pause in September before implementing another 25bps rate cut in November."

The Bank of England is next due to meet on 19 September, the day after August’s inflation data is released. The Monetary Policy Committee (MPC) cut interest rates from their sixteen-year high at its last meeting on 1 August, bringing the base rate to 5%. Since then, inflation has risen above the Bank of England’s 2% target, edging up to 2.2% in July. The rise was broadly expected, with energy prices falling at a slower rate than a year ago. 

Interest rates aside, today’s wage growth figures are also significant for pensioners, as they will almost certainly be used to determine how much state pension they receive in the 2025/2026 tax year. Under triple lock rules, the state pension is uprated each year in April in line with inflation, wage growth, or 2.5% – whichever metric is highest. 

The government looks at the May-July wage growth figures (including bonuses) when setting the state pension each year, or the September inflation reading if that figure is higher. Given the rate of inflation is now 2.2%, it is all but certain that the wage growth figure will be used. This means the full state pension is likely to rise by £460 from next April, bringing some relief to those pensioners who are set to lose their Winter Fuel Payment this year.

Will public sector pay rises keep interest rates high?

The ONS revealed that earnings growth in the public sector “remains strong” at 5.7% (excluding bonuses), despite falling from the previous three-month period (6%). Private sector pay growth came in lower at 4.9%. 

Some are concerned that public sector wage growth could remain high going forward, thanks to a string of pay rises announced by the government earlier this year. In July, chancellor Rachel Reeves said she would accept the recommendations of the independent pay review bodies, including a 5.5% pay rise for school teachers and a potential 22% rise for junior doctors.

Reeves defended the decision by saying that strikes under the previous Conservative government had proved costly for the taxpayer. Meanwhile, critics have argued that pay rises could fuel inflation and keep interest rates higher for longer.

The Bank of England’s governor, Andrew Bailey, played down these concerns in his press conference on 1 August. Any impact on inflation would be incremental, Bailey suggested, only getting into “quite small second decimal place numbers”. He cautioned that this was based on “back of the envelope” calculations, but added that the MPC would get a fuller picture by 30 October when the Budget is delivered.

Is the labour market cooling?

The UK labour market continues to cool – not just in terms of wage growth but also in terms of job vacancies. These fell for the 26th consecutive period between June and August. The unemployment rate bucked the trend slightly, dropping from 4.2% to 4.1% in May to July, but the good news for workers is that it is still lower than estimates from a year ago. 

While a cooling labour market can create challenges for UK households, it should help bring inflation further under control, spelling good news for interest rates. As interest rates come down, repayments on debts and mortgages should become more affordable. 

In other good news, real wages are still comfortably in positive territory. Once inflation is taken into consideration, real wages grew by 2.2% over the period, down from 2.4% in the previous labour market report. The rate of real wage growth has fallen slightly from its peak in March-May, but households should still feel like the pound in their pocket is going further than it did a year ago. 

“Job security is likely to remain a concern for workers as the winter months draw in, which is why keeping personal finances on track is vital for households to avoid being caught short should the worst happen,” says Alice Haine, personal finance analyst at wealth management firm Evelyn Partners.

“Building a robust emergency fund to cover any periods without earned income, paying down debt and even having income protection in place for those with no back-up source of funds are all ways to ease any financial fears for those worried about losing their job,” she adds.