Shrinking workforce ‘may prolong inflation’

Fears shrinking workforce will make it harder to tackle price rises in Britain than in other countries

A surge in early retirement and long-term sickness means Britain faces a prolonged period of inflation compared with the rest of the world, the Bank of England’s chief economist has warned. Huw Pill said the UK was facing a “distinctive” combination of challenges that meant the “threat” of persistent price rises may remain, even if energy costs fall. The warning came even as he said there were signs the economy is falling into a recession, which will help keep a lid on price rises.

A SURGE in early retirement and longterm sickness means Britain faces a prolonged period of inflation compared with the rest of the world, the Bank of England’s chief economist has warned.

Huw Pill said the UK was facing a “distinctive” combination of challenges that meant the “threat” of persistent price rises may remain, even if energy costs fall.

The warning came even as the chief economist said there were signs that the jobs market was cooling, as more companies stop hiring and the economy falls into recession, which will help to keep a lid on price rises.

Mr Pill identified Britain’s shrinking workforce as a key factor that could keep prices high, which together with the energy crisis and supply chain issues increases the risks of price rises persevering.

More than half a million Britons have stopped looking for work altogether since the start of the pandemic, with many dropping out of the workforce because of ill health.

The decline in participation rates, particularly among people aged 50 to 65, is fuelling the tight labour market, said Mr Pill during a speech in New York.

He added: “The reasons behind this decline remain the subject of debate, but the impact of the pandemic on early retirement and long-term health, as well as underlying demographic developments, all seem to have played a role.”

Mr Pill added that the shrinking workforce made it more “difficult” for policymakers to control price rises, even as the economy shrinks.

He said that workers could continue to demand above inflation pay rises for years to come in an effort to compensate for this year’s expected plunge in living standards.

Mr Pill said: “The threat of secondround effects that sustain inflation at above target rates may well remain, as domestic firms and households try to resist the squeeze on their real incomes and spending power.”

The UK is almost unique among advanced wealthy economies in having a workforce that is smaller than before the pandemic. The employment rate remains one percentage point below its pre-covid level.

Many experts believe this is because of more people retiring early and lengthy NHS waiting lists, which are preventing people from returning to work.

The US also struggles with labour shortages but this is likely driven by a strong economic bounce back after the pandemic, which has not been as pronounced in the UK, Mr Pill said.

He added: “The distinctive context that prevails in the UK – of higher natural gas prices with a tight labour market, adverse labour supply developments and goods market bottlenecks – creates the potential for inflation to prove more persistent.”

It signals that rate-setters on the Bank of England’s Monetary Policy Committee may have to go further to cool price growth even with the labour market slowing.

However, Mr Pill also suggested that there were already signs that the jobs market was cooling, as fewer companies advertise for staff. The Bank believes one million more people will be unemployed by the end of 2025 if interest rates continue to rise.

“We are starting to see labour market indicators turn,” he said. “Should economic slack emerge and unemployment rise as the latest Monetary Policy Committee forecasts imply, that will weigh against domestic inflation- ary pressure and ease the threat of inflation persistence.”

Investors have reined in their bets on Bank of England rate rises.

Money managers now expect policymakers to raise interest rates to a peak of 4.5pc this summer, up from the current 3.5pc level.

Just weeks ago, most expected rates to peak at 4.75pc.

Mr Pill stressed that there was no single “smoking gun” that policymakers were looking at to identify whether inflation was becoming entrenched.