Interest rates are finally heading down. How far and how fast they drop could depend on where productivity-adjusted wages go from here.
On the same day last month that the Bank of Canada trimmed its benchmark interest rate to 4.75 per cent, Statistics Canada revealed that unit labour costs, or how much workers receive in wages and benefits to produce one unit of economic output, jumped 1.1 per cent in the first quarter from the previous quarter.
For Canada’s business sector, the one-quarter change was higher still, at 1.3 per cent, after slowing to 0.8 per cent at the end of 2023. It marked the highest quarterly increase since the second quarter of last year.
While most wage measures tracked by the Bank of Canada in assessing the health of the labour market are moderating, the bank has said unit labour cost is the one exception.
On an annual basis, unit labour costs grew by 5.4 per cent, well above the pace of the past three decades.
Unit labour costs reflect both nominal wages, which have been outpacing inflation, and productivity, the amount of real economic output per hour of work. The current pace of wage growth and its slowing trajectory wouldn’t be as much of a problem for inflation if Canada’s productivity picture was not so grim. Canadian productivity has now fallen for 10 of the past 12 quarters.
Bank of Canada Governor Tiff Macklem cited several risks that could push inflation higher and delay interest-rate cuts, including global tensions, a surge in house prices, “or if wage growth remains high relative to productivity.”
The problem is, the outlook for productivity remains bleak. In a report in June, a team of Royal Bank of Canada economists laid out the steps needed to make that happen – from cutting red tape to reducing the complexity of Canada’s tax system to making better use of immigrants’ skills – but warned, “Canada’s productivity problems could take years, if not decades, to fix.”
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Editor’s note: A previous version of this article and chart incorrectly compared unit labour costs, which are measured in nominal or non-inflation adjusted terms, against real labour productivity, which is adjusted for inflation. Due to that difference the two data series should not have been used together in the way they were. As such, the chart has been replaced with one focussed solely on unit labour costs, and the accompanying article has been updated.