The rise in wages must slow before the Bank can lower interest rates

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Moreover, by the end of the year, the global economy should begin to recover, spurred by the recovery in China and the sharp decline in global inflation.

By the end of the year, the US Federal Reserve should consider whether to cut interest rates, having raised them in the first months of the year to a peak of 4.75-5pc.

This worldview will have a huge impact on how things are going in the UK. Barring another spike in global energy prices, it now looks as if inflation has peaked. It should decline steadily throughout the year, possibly as low as 4% by the end of the year.

You might think that would argue for lowering interest rates. I’m sure the Bank of England will be under pressure to do so. But in fact, things are not so simple.

4pc is significantly lower than the recent peak of 11.1pc, but also double the target rate of 2pc. I think even with lower inflation, the Bank will feel compelled to raise interest rates, with interest rates rising by 0.5% in both February and March, possibly followed by a pause.

I always thought 5pcs would be the pinnacle. This still seems reasonable. But if wage increases accelerate, interest rates may need to go up.

I don’t think the Bank can consider cutting interest rates until it is sure that wage inflation – the main indicator of core inflation – subsides. This will require a significant easing of the labor market and an increase in unemployment.

This should happen, with the unemployment rate rising from 3.7% at the start of the year to around 5.5% by the end of the year. Combined with lower price inflation, that could be enough to push wage inflation rates lower, opening the way for some rate cuts in 2024.

However, by the end of this year, wage inflation should be ahead of price inflation, so real incomes will start to rise again. Moreover, although wage inflation and price inflation will fall in 2024, wage inflation should remain ahead, so that real incomes will continue to rise, albeit slowly.

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