The MPC supposedly places significant weight on an estimate of  the “medium-term equilibrium unemployment rate” in calibrating its policy stance. The August 2013 Inflation Report, for example, stated that “The gap between actual unemployment and the medium-term equilibrium unemployment rate is a measure of effective slack in the labour market, and is likely to be most relevant for assessing wage pressures over the MPC’s three-year forecast period.”

So what is the Committee’s current judgement about this crucial policy metric? The May Inflation Report, on close inspection, is contradictory. The text at the top of page 30 of the Report refers to a current estimate of 6-6.5%. Chart 3.7 on page 28, however, contains a first-quarter figure for the “unemployment gap” – the difference between the actual and medium-term equilibrium rates – of 0.9%. Since the MPC expected actual unemployment to be 6.7% in the first quarter, this implies an equilibrium rate of only 5.8%.

How has this contradiction arisen? One possibility is that Bank of England staff generated the 5.8% estimate but the MPC majority refused to endorse their assessment, preferring a 6-6.5% range. Chart 3.7 may have been retained in the Report owing to an editorial insight, or because the still-significant unemployment gap shown supports the dovish policy stance of Governor Carney.

The single-month unemployment rate fell to 6.45% in April, within the MPC majority’s 6-6.5% range for the medium-term equilibrium rate. The MPC believes that there is additional labour market slack associated with part-timers working fewer hours than they would like, although the implications of this shortfall for wage pressures is uncertain. With a further unemployment decline assured, the majority position suggest an interest rate rise before end-2014.

Governor Carney, of course, is strongly resistant to such a scenario, and may press for a downward revision to the estimated range for the medium-term equilibrium unemployment rate in the August Inflation Report, probably to 5.5-6%. This change would be presented as a response to new information; it would, in fact, simply make explicit an assumption already incorporated in the Bank’s May projections.

Labour market statistics released today are a mixed bag, showing stronger quantity developments than forecast by the MPC but surprisingly low earnings growth. Earnings weakness may not prevent the MPC from turning more hawkish, partly because it reflects sluggish productivity.

The unemployment rate fell to a below-consensus 6.6% over February-April, with the April single month estimate at just 6.45% – see first chart. This supports the forecast here that the rate will finish 2014 at 6.0% or below, undershooting the May Inflation Report projection of 6.3% in the fourth quarter.

The jobless rate is plunging because of strong demand for workers rather than US-style labour force weakness. Aggregate hours worked in the economy rose by 3.3% in the three months to April from a year before – the fastest annual growth rate since 1989. With the Inflation Report projecting a 3.6% GDP increase in the year to the second quarter, the suggestion is that productivity, as measured by output per hour, has barely budged. The MPC’s forecast of 1% productivity expansion in 2014, implying a larger rise in the year to the fourth quarter, is off track.

Annual growth in average earnings has been distorted by income shifting a year ago to game the cut in the top income tax rate from 50% to 45%. Taking a six-month moving average to minimise this distortion, earnings are rising at about a 1% annual pace. This is probably about 1 percentage point below the MPC’s expectation at this stage but, as noted, productivity is undershooting by a similar amount.

Part of the story is a shift of employment into lower wage / productivity activities over the past year. Earnings growth would be 0.5 percentage points higher in the absence of this composition shift.

The MPC may downplay earnings weakness partly because of the productivity offset but also because more timely survey evidence suggests rising wage pressures, while slack is eroding faster than expected. From employers’ perspective, the claim that significant slack remains is inconsistent with emerging skill shortages and a further rise in the vacancy rate to a six-year high – second chart.

The forecast of a summer rebound in global growth remains on track, according to the short- and longer-term leading indicators followed here.

The indicators are derived from OECD data and have led growth turning points by 2-3 months and 4-5 months respectively in recent cycles. They weakened during the second half of 2013, correctly predicting that the global economy would slow in early 2014. Six-month industrial output growth* peaked in November / December 2013 and fell to a 10-month low in April – see first chart.

The longer-term leading indicator, however, started to recover in January, with the short measure following in February. Industrial output growth is probably now reviving from a trough reached in May.

The short-term leading indicator rose again in April while the longer measure was little changed. This suggests that growth will pick up through the summer before stabilising at a higher level at the end of the third quarter.

The stalling of the longer-term indicator in April reflected a decline in the G7 component – second chart. The G7 measure may have been temporarily distorted by Japanese data volatility due to the recent sales tax hike; the April set-back, in other words, may be reversed in May-June. The E7 component, meanwhile, continues to strengthen, supporting optimism about emerging market equities.

The forecasting approach here uses the leading indicators in conjunction with an analysis of real narrow money trends. Global real narrow money expansion slipped back in April, but this mainly reflected the impact of the Japanese sales tax; trends elsewhere remained solid – see previous post. Global economic acceleration may be over by end-summer but the monetary / leading indicator evidence has yet to suggest a subsequent slowdown.

*G7 developed economies and E7 emerging economies.