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The Bank of England is seeing increasing evidence that companies are responding to higher national insurance contributions by cutting hiring, working hours and pay, Andrew Bailey said, as he flagged a softening in the jobs market.
The BoE governor said on Thursday that interest rates were likely to remain on a gradual downward path, predicting that growth will slow after a strong first quarter.
The central bank would need to maintain a “restrictive monetary policy stance” as it sought to squeeze out remaining persistence in inflationary pressures, he said in a speech to the British Chambers of Commerce conference in London. But he highlighted indicators of lower labour demand and hiring intentions and evidence of a “significant decline” in wage growth in the year ahead.
“With moderate growth and a softer labour market, a wider margin of slack in the UK economy will support continued disinflation in the domestic economy and a gradual return of headline inflation to the 2 per cent target as we look beyond the near-term increase,” Bailey said.
Business organisations have said they were being hit hard by chancellor Rachel Reeves’ October Budget, including an increase in employers’ national insurance contributions.
The BoE has said there were several ways in which businesses could absorb this tax increase, including lower profit margins, higher prices for customers, or through cutting wages and efforts to lower employment.
“When we ask businesses, they tend to tick all the boxes,” Bailey said. “That is understandable. Firms’ margins are the first to adjust. But I am beginning to hear a bit more evidence of adjustments through pay and employment.”
The BoE governor said continued efforts were needed to push inflation lower, as he reiterated that given “two-sided risks” to inflation “a gradual and careful approach to the further withdrawal of monetary policy restraint remains appropriate”.
But he suggested that recent increases in inflation driven by higher vehicle excise duty and increases in water and energy bills were not expected to last.
“We do not expect that they will rekindle domestic inflationary pressures via new second-round effects as we saw it after the big global shocks that drove inflation up to much higher levels in 2021 and 2022,” he added.
Despite a stronger than expected 0.7 per cent increase in first-quarter GDP, the BoE was expecting a “more moderate” pace of growth in the coming quarters, Bailey said.
He said the first-quarter growth was driven by strong outcomes for “volatile components” of GDP in March, including possible frontloading of activity ahead of increases in stamp duty land tax and vehicle excise duty.
A rise in trade ahead of US President Donald Trump’s tariffs may also have led to a temporary boost to activity.
And while business investment was firm in the opening months of the year, businesses were telling the BoE that “heightened uncertainty and a weak demand outlook are weighing on investment intentions”, Bailey said.