The Times is running regular briefings to coincide with Target Two Point Zero, the Bank of England competition for sixth-formers run in conjunction with the newspaper. The contest challenges students to play the role of the Bank’s Monetary Policy Committee (MPC) and recommend the best level for interest rates. This week: the role of the labour market.

Why does the jobs market matter to the Bank of England?

The numbers of people in employment along with the growth of wages are key elements in the balance of overall supply and demand across the economy. As more people find work and unemployment falls, the jobs market is said to be “tightening”. With a smaller supply of available workers, more demand for staff tends to put pressure on wages, with employers forced to pay more as they compete to recruit skilled staff. In turn, higher wages may be passed on to consumers, fuelling inflation. Equally, rising prices can lead to increased pay demands, triggering still further price increases. In this way, so-called “second-round effects” can lead to a wage-price spiral.

Is there a point at which declines in unemployment tend to lead to rapid pay increases?

Economic theory suggests that once unemployment falls below a threshold level known as the NAIRU– the nonaccelerating inflation rate of unemployment - or sometimes as the “natural” rate, wage pressures then generally start to build, adding to employers’ costs, which are then passed on in higher prices.

What is this rate at present?

No one knows. It is not possible to measure the rate directly. Economists believe that improvements in the supply side of the economy, with the deregulation of jobs markets, an end to militant trade unionism, as well as an influx of migrants from across the EU, have lowered the NAIRU compared with much higher levels in the 1970s. Most estimates suggest that the present rate could be about 5 per cent unemployment on the Labour Force Survey measure of the jobless total – the Government’s preferred measure.

What is happening in the jobs market right now?

The labour market has so far proved remarkably resilient, even amid fears over a worsening outlook for growth, with solid job creation and scant signs, despite record employment levels, of any serious and sustained rise in wage pressures. In the latest figures, the claimant count of unemployment fell by 11,000 in November, cutting the jobless rate on this measure to 2.5 per cent, while on the Labour Force Survey figures, unemployment fell to 5.3 per cent in the three months to October. Employment rose by 114,000 according to the survey. Average earnings growth remained subdued, with the headline pace of wage increases at an annual 4 per cent rate.

What rate of wage growth is considered too fast by the Bank?

Generally speaking, the MPC’s informal “comfort threshold” for pay growth is seen as being about 4.5 per cent. This is arrived at by taking the 2 per cent inflation target plus a conservative estimate of the trend rate at which the economy can grow without sparking inflation as the productivity of workers increases.

More on the contest: www.bankofengland.co.uk/education/targettwopointzero

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