How does the Monetary Policy Committee forecast wage growth?

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Published on 15 January 2024
The Monetary Policy Committee’s (MPC’s) forecast for wage growth is informed by a suite of wage models. But in the November 2023 Monetary Policy Report (MPR) the MPC judged wage growth was likely to remain higher than implied by those models in the near term.

The MPC looks at a range of evidence to inform their forecasts for pay, including intelligence from the Bank’s Agents, the Decision Maker Panel Survey, and a suite of wage models that map across the main economic drivers to pay growth.

The wage suite is made up of three standard wage equations. These models are estimated by linear regression using aggregate level data, currently from the late 1980s/early 1990s up to the end of 2019.

Each of these models factor in three important drivers of pay growth: productivity growth, how tight the labour market is, and inflation expectations.

Two of the wage models capture the short-run relationship between these drivers and pay and are based on models in speeches by Yellen (2017) and Haldane (2018).

The third is an Error Correction Model, which is a commonly used model capturing both short and long-run relationships. In this case the long-run relationship is between real wages and productivity – with workers assumed to (eventually) be paid for what they produce.

The models tend to offer a reasonable guide but there are periods when they over or under predict, including at the time of the November 2023 MPR where pay growth was stronger than the models could explain. This might reflect noise, some missing drivers, or a change in the underlying relationships between pay and the drivers included.

Each of these equations suggest that pay growth will slow from here, as inflation expectations fall, and the labour market loosens.

The MPC expected higher pay growth in the November 2023 MPR than implied by the wage equations over the next couple of years. This was due to a view that second round effects from the interaction between energy, food and other import prices shocks with the domestic economy would cause greater persistence in wage growth (the aqua line in Chart A shows the MPC projection, and the grey swathe shows the wage equations projections). But the models continue to anchor the pay growth forecast further out, with the MPC projection settling at 3% in line with the models.

Chart A: Projections for private sector regular average weekly earnings four-quarter growth

A graph with orange and blue lines

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  • Sources: ONS and Bank calculations.

This post was prepared with the help of Dan Steel.

This analysis was presented to the Monetary Policy Committee in November 2023.

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