'Disturbing' pay growth means interest rates must rise above 5%, warns finance expert

Pay is rising faster than it has been in the past two decades, but as ITV News Business and Economics Editor Joel Hills explains, this is actually increasing interest rates

The fastest pay growth in 20 years sounds like just the tonic at a time when the price of so many things continue to rise at a painful pace.

But Sushil Wadhwani, an economic advisor to the government and former member of the Bank of England’s Monetary Policy Committee, says there’s evidence that pay and prices in the UK are now moving upwards together and higher interest rates are necessary to break that cycle.

“I would be worrying about this very seriously,” Wadhwani told ITV News.

He added: “There is a possibility that a wage/price spiral is in its early stages and it needs to be headed off pretty promptly."

The Bank of England has increased interest rates twelve times in the last eighteen months, in an attempt to suppress demand for workers, but pay growth across the economy accelerated to 7.2% in the three months to April.

The almost 10% increase in the National Minimum Wage in April helps to explain why - but it’s not the whole story. Wage growth looks strong across many sectors.

Wadhwani compares higher interest rates to a form of “drug therapy”. He acknowledges that the full impact of the increases has yet to be felt, but believes the Bank will need to hike next week and thereafter too.

"We have no choice but to bring inflation down,” says former Bank of England policy-maker Sushil Wadhwani

“I don’t think the choices we confront are pleasant,” he says. “I think we have to keep taking the medicine and risk a mild recession. If you stop taking the medicine, sadly, we risk a much worse recession. [The Bank of England] has no choice but to bring inflation down.”

On one level, the resilience of Britain’s labour market is impressive. Unemployment is still low by historical standards and there are lots of people in work.

Companies are holding onto staff, indeed 1 in 10 complain they can’t get hold of the staff they need.

People are starting to rejoin the workforce - possibly in response to cost of living pressures - but “economic inactivity” is still higher than before pandemic began.

Today, the governor of the Bank of England cited a shortage of workers in the UK as a key factor that means inflation is “taking a lot longer” than hoped to come down.

Interest rates stand at 4.5%, the markets are betting interest rates will reach 5.5% by the end of this year and remain at that level until next summer.

But the markets sometimes get it wrong.

A series of global commodity prices have fallen in recent months, including gas, oil and wheat.

It’s possible inflation will fall more quickly in the months ahead. Anyone with a mortgage will be hoping that’s exactly what happens next.

Want a quick and expert briefing on the biggest news stories? Listen to our latest podcasts to find out What You Need To Know