Resolution Foundation says expected inflation rise will quickly see off any real terms pay growth unless productivity increases significantly

Britain’s long-awaited pay recovery this year will quickly evaporate in 2016 unless productivity significantly improves, a leading thinktank has warned.

The Resolution Foundation said real-terms pay growth could slow to less than 1% by the end of next year, from around 2.5% at present. That would be its worst-case scenario with productivity growth failing to pick up and inflation taking off more than expected.

The warning that 2016 will not experience a repeat of the ultra-low inflation that has helped boost disposable incomes this year follows comments from the Bank of England’s deputy governor, Minouche Shafik, that pay growth has “levelled off”. She would not vote to raise interest rates from their current record low until earnings growth has become established, the policymaker said.

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This year involved the first return to rising inflation-adjusted earnings since the financial crisis.

Shafik’s view chimed with other policymakers and fanned fears that wage growth is faltering due to a combination of factors. Official figures this week are expected to show inflation picked up slightly in November to 0.1%, from -0.1% in October, while City economists polled by Reuters have suggested earnings growth continued to slow in recent months.

There are signs that low headline inflation is making employers less generous and average pay growth has also been skewed by much of the rise in employment being concentrated in lower-paid jobs.

Meanwhile, company managers in some industries feel they cannot afford big pay rises because their productivity – or output an hour worked – is rising so slowly.



Laura Gardiner, senior policy analyst at the Resolution Foundation, said productivity would be crucial for pay prospects next year. “[This year] marked the long-awaited return of rising real pay, following a six-year squeeze. But the recent pay rebound owed much to ultra-low inflation, which we are unlikely to see again next year,” she said as the thinktank released its latest earnings outlook.

“Pay growth in 2016 will ultimately be determined by whether the recent upturn in productivity is enough to offset rising inflation.”

The thinktank considers the impact of five different scenarios for productivity and prices on median hourly wage growth in 2016. On its best case, faster-than-expected productivity growth of 2% and prolonged low inflation that rises to just 1% by the end of the year could result in the fastest real wage growth for more than a decade at around 3%.

Pay pictures for 2016

But if productivity growth holds at 1.3% and inflation grows more quickly than forecast to hit the Bank’s target of 2% by the end of the year, the pace of real wage growth could drop to 0.9%. That would leave workers waiting even longer to return to the kind of pay rises they enjoyed before the downturn.

“Such a scenario could mean typical pay not returning to its pre-crash level until the next decade,” says Gardiner.

On Resolution’s central case real wage growth would be 2.1% at the end of 2016, using forecasts for productivity and prices from the government’s independent forecaster the Office for Budget Responsibility.

The trades union group TUC described the Resolution forecasts as a “sobering reminder of why low inflation is not a secure basis for a strong wages recovery.”

“If we don’t boost productivity across all sectors of the economy, future living standards will be put at risk,” said TUC general secretary Frances O’Grady.



“After years of falling real incomes, the last thing workers need is for recent pay growth to slow.”



The Bank cited a flattening off in wage growth and a renewed fall in oil prices last week when policymakers voted to leave interest rates at their record low of 0.5%, where they have been since the depths of the crisis in 2009.

Shafik used a speech to the Institute of Directors on Monday to underscore her worries about when was the right time to start raising borrowing costs. With the Bank’s US counterpart, the Federal Reserve, poised to raise rates for the first time in almost a decade, Shafik also sought to rebuff market expectations that she and her colleagues will follow its lead.

“Obviously we’ll be watching the Fed’s decision-making on Wednesday very, very closely, and be learning lessons from that episode. But we’ll take our own decisions depending on our own circumstances,” she said.

Shafik, who is the Bank’s deputy governor for markets and banking, said that once UK interest rates do start to rise, she sees them doing so slightly faster than markets had been implying as long as various downside risks to the economy dissipate.

When the Bank published its latest forecasts for the economy in November financial markets were implying that the first increase in the base rate would come in March 2017, and that it would reach 1.25% by the end of 2018. Markets are now pricing in a UK rate rise around the end of next year, while economists polled by Reuters mostly expect the first move by mid-2016.