Why Are UK Salaries So Low? An Economic Analysis

The perception that salaries in the United Kingdom are low compared to other developed nations is a topic of frequent discussion. This complex issue stems from a combination of underlying economic conditions, the specific dynamics of the UK labor market, and the influence of government policies and the fiscal environment. Understanding these interconnected factors can shed light on the challenges and opportunities within the UK’s wage landscape.

Economic Fundamentals and Productivity

The economic health and efficiency of a nation are foundational to its wage levels, and the UK has faced a persistent challenge in productivity growth. Productivity, often measured as output per hour worked or per worker, directly impacts the value an employer can generate and, consequently, the wages they can afford to pay. The UK has experienced a long-standing issue with low productivity growth, particularly since the 2008 financial crisis, which has been more pronounced than in many other G7 economies. In 2023, the UK ranked fourth among G7 countries for GDP per hour worked, remaining approximately 20% below the United States.

Insufficient business investment plays a significant role in this stagnant productivity. Investment in areas such as technology, research and development (R&D), infrastructure, and skills training is crucial for enhancing efficiency and innovation. Business R&D spending in the UK saw a real-terms drop of 0.4% in 2022 compared to 2021, falling short of OECD short-term forecasts. The UK invests a lower percentage of GDP in R&D than many competitors, and this investment often concentrates in a few sectors. This underinvestment can limit the adoption of advanced techniques and equipment, thereby restricting the potential for substantial wage increases across the economy.

The overall economic growth trajectory of the UK also influences wage capacity. Historically, the UK’s average economic growth rate from 1961 to 2024 has been 2.27%, with recent figures showing 1.1% in 2024 and 0.4% in 2023, below the world average of 3.20%. Slower overall expansion can constrain the capacity for widespread wage increases. Economic growth is fundamentally linked to the ability of businesses to generate profits and, in turn, distribute higher wages.

Furthermore, the composition of the UK economy affects overall national productivity. The UK has a highly developed social market economy, with the services sector accounting for a significant portion of its GDP, approximately 72.5% in 2023. This dominance of service sectors, compared to economies with larger manufacturing bases, can influence national productivity figures. While services contribute significantly to the economy, certain sub-sectors within services, such as retail and hospitality, typically offer lower average wages. This sectoral distribution can contribute to the overall average wage levels and the national productivity landscape.

Labor Market Structure and Wage Setting

The specific dynamics within the UK labor market significantly shape prevailing wage levels. The balance between the supply of labor and the demand for particular skills influences wage growth. An oversupply of labor in certain areas, or a lack of in-demand skills, can depress wages. The UK’s workforce has seen notable shifts in participation rates and migration patterns, which contribute to the available labor pool.

The increasing reliance on a service economy in the UK has had a direct impact on average wages. Sectors like retail, hospitality, and administrative services typically offer lower wages compared to traditional industries such as high-value manufacturing or finance. For example, in 2025, hospitality workers were among the lowest-paid employees, with an average of £12.39 per hour. This shift means a larger proportion of the workforce is employed in roles that historically pay less, affecting the national average.

A notable issue within the UK labor market is the skills mismatch or gap. This refers to the misalignment between the skills possessed by the workforce and those demanded by employers. Approximately one-third of graduates in the UK were not employed in graduate jobs before the current crisis, with overqualified workers suffering a wage penalty. OECD data indicates that nearly four in ten (37%) UK workers are overqualified for their jobs, leading to an average wage penalty of 18% for these individuals. This mismatch can lead to wage stagnation in some areas and higher wages in others, contributing to disparities in overall average earnings.

The role of trade unions and collective bargaining power has also evolved, impacting wage setting. Collective bargaining coverage in the UK has declined significantly, falling from 70% in the 1970s to 26% in 2018. While trade union membership saw a slight increase to 22.4% in 2023, it remains low by historical standards. Despite this, unions continue to play a role in advocating for better pay and working conditions, with a trade union pay premium of 4.2% in 2023. The proportion of workers whose pay is set by collective bargaining agreements is about 39%, indicating that unions still influence a notable segment of the workforce.

The growth of non-standard employment, such as the gig economy and other flexible arrangements, also influences overall wage averages and job security. While these models offer flexibility, they can sometimes be associated with lower pay, fewer benefits, and reduced job security compared to traditional employment. The prevalence of such arrangements can affect the aggregate wage picture by increasing the proportion of workers in less stable or lower-paying roles.

Government Policy and Fiscal Environment

Government decisions regarding taxation, regulation, and public finances significantly influence both the gross and net pay of individuals, as well as businesses’ capacity to offer higher wages. Personal income tax rates and National Insurance contributions (NICs) directly affect disposable income. For the 2025/26 tax year, employees pay Class 1 NICs at 8% on earnings between £12,571 and £50,270, and 2% on earnings above £50,270. These deductions can make a gross salary feel lower in take-home terms, influencing the perception of overall compensation.

Taxation on businesses also impacts their ability to fund higher wages. Corporate tax rates, business rates, and employer-related levies contribute to a company’s overall cost base. These costs can influence a company’s capacity or willingness to allocate funds towards higher wages, potentially prioritizing other investments, operational expenses, or shareholder returns. Recent policy changes, including a 10% minimum wage increase and higher employer National Insurance contributions, have exacerbated labor cost pressures for businesses, particularly in labor-intensive service sectors like hospitality and retail.

The broader regulatory framework and labor laws establish the baseline for wages and influence employer costs. The National Minimum Wage Act sets the minimum pay that employers must adhere to, with rates varying by age and typically increasing each April. As of April 2024, the National Living Wage for those aged 21 and over is £11.44 per hour. While these regulations provide a wage floor, they also represent a mandatory cost for businesses, which can impact their overall wage-setting flexibility. Non-compliance with minimum wage laws can result in significant financial penalties, including fines of up to 200% of underpaid wages, capped at £20,000 per worker.

The government’s role as a major employer means its public sector pay policy can set a benchmark or exert pressure on overall wage expectations. Between 2011 and 2013, there was a two-year pay freeze for public sector workers earning £21,000 or more, followed by a pay cap effectively limiting annual increases to 1% until 2020. These policies contributed to real-terms wage cuts for many public sector employees. While public sector pay growth historically trailed the private sector, recent recommendations have led to increases of 4.75% to 6% for public sector employees in 2024-25, aligning with forecast private sector growth.

Broader fiscal policies, such as periods of austerity, have also indirectly impacted wage growth. Following the 2008 financial crisis, the UK government implemented austerity measures from 2010 onwards, involving spending cuts and tax rises aimed at reducing the budget deficit. These policies have been associated with stagnant wages and sluggish GDP growth, with real earnings barely recovering to pre-crisis levels more than a decade later. Austerity measures can affect demand and investment across various sectors, which in turn influences the capacity for wage increases throughout the economy.