U.K. Unemployment Rate Unexpectedly Declines to 7.7%

U.K. unemployment unexpectedly fell in the three months through July, moving a step closer to the threshold at which Bank of England Governor Mark Carney has said officials will consider raising interest rates.

The unemployment rate measured by International Labour Organization methods declined to 7.7 percent from 7.8 percent in the second quarter, the Office for National Statistics said in London today. The median forecast of 28 economists was for 7.8 percent. In August, jobless claims fell 32,600, more than economists had forecast. The pound rose to a seven-month high.

BOE officials introduced forward guidance last month and said they won’t raise their key interest rate until joblessness falls to 7 percent. While they don’t see that happening until late 2016, recent signs of strength in the economy have prompted investors to bet on an increase before then. Carney and three other members of the Monetary Policy Committee will testify on their guidance framework in Parliament tomorrow.

“The BOE’s forecast for 7 percent not to be reached until the second half of 2016 is lacking any leg to stand on,” said Philip Rush, an economist at Nomura International Plc in London. “Our forecast is for the threshold to be hit in the second half of 2014, with the first rate hike in February 2015.”

The pound advanced against the dollar after the report, rising to as high as $1.5827. It was trading at $1.5765 as of 11:16 a.m. London time, up 0.2 percent on the day. The 10-year gilt yield fell 2 basis points to 3 percent.

Claims Drop

Unemployment fell by 24,000 to 2.49 million people in the three months through July compared with the quarter through April, today’s report showed. Payrolls rose by 80,000 to 29.8 million people. There were a record 1.45 million people in part-time work who can’t find full-time work.

The quarterly unemployment rate of 7.7 percent is the lowest since the September-November 2012 period. Unemployment was last at 7 percent or lower in the quarter through February 2009. Monthly data prepared by the ONS on an experimental basis showed the unemployment rate was 7.7 percent in July.

The decline in jobless claims in August exceeded economists’ forecast for a drop of 21,000. Claims fell 36,300 in July and the combined total marks the biggest two-month decline since 1997. The claimant-count rate fell to 4.2 percent in August from 4.3 percent in July, the lowest since February 2009.

Investor Bets

Brian Hilliard, an economist at Societe Generale in London, said there is still “some way to go” before the BOE threshold is reached.

“If the labor force participation rate rises as the recovery becomes more convincing and/or productivity growth picks up, then the current downtrend in the unemployment rate could weaken,” he said. “So the bank is not likely to feel any pressure to change its message so early.”

Market yields suggest investors think the BOE will have to raise interest rates before the 2016 horizon indicated. Short-sterling futures have dropped, indicating investors are adding to bets on higher rates. The implied yield on the contract expiring in December 2014 is 0.98 percent, up from 0.68 percent on Aug. 1. The June 2015 contract has risen 50 basis points in that period.

Carney, along with policy makers Paul Fisher, David Miles and Ian McCafferty, will give evidence in Parliament tomorrow. It’s the first time Carney will face questions from lawmakers on guidance since it was introduced.

Jobs Needed

The governor has said the U.K. economy needs to create more than three quarters of a million jobs for unemployment to reach 7 percent. In addition, a further 400,000 government positions are set to be eliminated over the next three years based on Office for Budget Responsibility estimates, meaning the private sector would need to create more than 1 million jobs for the jobless rate to reach the threshold.

Some companies are hiring. Jaguar, Tata Motors Ltd.’s high-end British car brand, plans to add 1,700 jobs at its plant in Solihull, England.

“The economy is recovering and creating jobs so we expect the unemployment rate to fall to 7 percent by the third quarter of 2015,” said Rob Wood, an economist at Berenberg Bank in London. “But raising rates earlier than late 2016 does not mean they are going up anytime soon. The BOE will probably err on the side of supporting the recovery and raising interest rates too late rather than too early.”

Pay Slows

Today’s report showed that pay growth excluding bonuses slowed to 1 percent in the three months through July from 1.1 percent in the second quarter, supporting the central bank’s argument that above-target inflation isn’t fueling higher pay.

Weekly pay growth including bonuses was 1.1 percent. That’s down from 2.2 percent in the quarter through June when a tax change boosted bonus payments in the second quarter.

Inflation was at 2.8 percent in July, above the central bank’s 2 percent goal.

Separate figures today showed that government payrolls fell by 34,000 in the second quarter to 5.2 million, the lowest level for 13 years, with a drop in local-government employment accounting for all of the decrease. Private-sector employment rose 114,000 to 24.2 million.

Chancellor of the Exchequer George Osborne is counting on private companies to continue creating jobs as he drives through spending cuts to narrow the budget deficit. The OBR projects public-sector employment will fall by almost 150,000 a year on average until at least 2018.

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