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The pound fell as much as 0.6% to $1.353 on Tuesday — a seven-day low — after ONS data showed UK unemployment rising to 5.2% in Q4 2025, the highest since early 2021. Markets are now pricing a 76% probability of a Bank of England rate cut in March and full certainty by April, as wage growth slowed to its weakest pace in eighteen months and the Work Foundation flagged that the UK is experiencing the fastest annual increase in unemployment in the G7.
The Numbers Behind the Selloff
The Office for National Statistics released its February 2026 labour market overview on Monday, revealing a sharper deterioration than economists had expected. The headline unemployment rate for October to December 2025 came in at 5.2%, up from 5.1% in the prior period and above the consensus forecast of 5.1% unchanged. Total unemployment rose by 94,000 quarter-on-quarter to 1.883 million, driven by increases across all duration categories — from those unemployed under six months through to the long-term jobless.
Payrolled employees fell to 30.3 million in January 2026, down 134,000 on the year and 11,000 on the month — the fifth consecutive monthly decline in HMRC payroll data. The employment rate slipped to 75.0%, while the claimant count jumped by 28,600 in January, a sharp acceleration from December’s revised figure of just 2,700.
Youth unemployment delivered the starkest reading. The jobless rate among 18-to-24-year-olds surged to 14.0%, with the number of young people out of work jumping 80,000 on the quarter to 575,000. London posted the highest regional unemployment at 7.6%, up from 7.2%. The disability unemployment rate reached 9.2%, the highest in over six years.
Wages Cool Faster Than Expected
Average earnings including bonuses rose 4.2% year-on-year in the three months to December — the slowest pace since the period to August 2024 and below the consensus forecast of 4.6%. Regular pay growth excluding bonuses also came in at 4.2%, matching expectations but marking a clear deceleration from 4.4% in the prior period.
The figure that matters most to the Bank of England delivered an even clearer signal. Regular private sector wage growth — the BoE’s preferred inflation gauge — slowed to 3.4%, a five-year low. A significant gap persists between public sector pay growth of 7.2%, distorted by earlier-than-usual 2025 pay settlements creating a base effect, and private sector earnings that are now tracking well below headline inflation.
Sterling Reaction
GBP/USD broke below $1.36 within minutes of the data release, hitting session lows around $1.3550 before recovering to just above $1.36 during the European morning. The pound was the weakest performer across all G10 currencies on Tuesday, and has turned negative for February — the worst-performing major currency this month.
George Vessey at Convera noted that the pair had slipped below its 21-day moving average, bringing the 50-day near $1.3525 into view. British gilt yields fell across the curve, with the 10-year yield declining nearly 3 basis points to 4.377% and the 30-year dropping 3 basis points to 5.181%, as bond markets priced in a faster easing cycle.
By Wednesday, sterling was trading near $1.356 after January inflation data showed CPI easing to 3.0% — the lowest since March 2025 — with core inflation at 3.1%, a four-year low. The combination of softening prices and weakening employment has shifted rate expectations decisively: markets now fully price a 25-basis-point cut by April, with a 76% probability of that cut arriving in March. Two full cuts are priced by November, up from 48 basis points previously.
The BoE’s Dilemma
The Bank of England held rates at 3.75% at its February meeting in a split decision but adopted a more dovish tone, signalling that inflation is likely to move closer to the 2% target from April. MPC member Catherine Mann attributed rising youth unemployment partly to the impact of higher minimum wages for younger workers — a comment that carries political weight as the Starmer government faces criticism over the labour market deterioration.
The Bank’s own February forecasts project unemployment at 5.2% in Q1 2026, rising to 5.3% by mid-2026 before gradually easing to 5.1% in 2028 and 4.9% in 2029. That trajectory suggests policymakers see the labour market softening further before it improves, creating a window for rate cuts even while inflation remains above target.
ING summarised the broader picture: the UK shows no growth optimism — Q4 2025 GDP came in at just 0.1% — and politics remain a risk. But on inflation, there is a growing sense that the BoE could cut further than previously expected. With vacancies flat at 726,000, redundancies rising, and payrolled employment declining for five straight months, the labour market data increasingly supports that thesis. For sterling, the question is whether the BoE moves quickly enough to prevent the employment deterioration from becoming self-reinforcing — and whether rate cuts will ultimately weaken the pound further or support it by forestalling a deeper downturn.
