Analysis - Army of older workers may hold off higher UK interest rates

By David Milliken

LONDON (Reuters) - The rising number of Britons putting off retirement may help explain something that has been puzzling economists - why the Bank of England thinks unemployment will be slow to fall despite a stronger economy.

More than 1 million people over the age of 65 in Britain are in employment. That's 9.4 percent of the age-group, up from just over 7 percent before the financial crisis and from fewer than 6 percent 10 years ago.

But people aged 65 and over rarely count themselves as unemployed when they are not in work. So when they do get jobs, it does little to reduce the measured unemployment rate.

Put another way, the rapid job creation that Britain has enjoyed in the past few years has sucked new entrants into the labour market, rather than helping those already unemployed.

This shift has big implications for the Bank of England's new economic policy. In its latest bid to get the economy out of its post-recession slumber, the central bank said in August that it will not raise interest rates before unemployment falls to 7 percent, something it only expects in late 2016.

So this job growth does little to bring higher interest rates any closer.

The forecast has been challenged by investors, many of whom have bet heavily that the central bank is being too pessimistic.

If this sounds academic, it isn't. If unemployment falls very rapidly, the credibility of the bank and the policy of so-called forward guidance - telling people what to expect - would take a hit, even if BoE officials are stressing the uncertainties around any economic forecasts.

Much of the debate has centred on the bank's assumption that weak productivity levels will soon pick up, enabling the economy to grow faster without requiring a big increase in workers, which in turn could push up wages and inflation.

But the other side of the coin is that Britain's labour force has been growing rapidly in recent years, requiring a significant number of extra jobs to be created just to stop the unemployment rate from rising.

In the unlikely event that the labour force stopped growing but job creation continued as before, the unemployment rate would fall to 7 percent from its current 7.7 percent in under a year, as fewer than 230,000 job-seekers would need to find work.

But in reality, the size of Britain's workforce has risen by more than a million over the past four years - much the same as the total number of jobs - so unemployment has barely fallen.

Workers aged 65 and over make up almost a third of this rise, and workers aged 50-64 account for almost all the rest.

HAWKING HOT-TUBS

One example is Ian MacQueen, 66, who has set up a business called Big Fire that imports brightly coloured wood-fired Dutch hot-tubs, which sell for as much as 4,500 pounds ($7,300) each.

MacQueen retired at the age of 64 from after a career in marketing home hardware and garden equipment. But a year later he decided to start a new business in Exmouth, western England.

"I wanted something to do," said MacQueen, who also acts as a mentor for Prime, a charity that encourages over-50s to become self-employed. He spends 15-20 hours a week on his business. It turned over 375,000 pounds last year.

"My generation has definitely got a different attitude to previous older generations. There's both a financial imperative with some and a sense that 'I'm not ready to hang up my boots'."

Almost a third of those working past 65 are self-employed, double the proportion in the population as a whole. MacQueen said older people were often more likely to have the necessary experience and contacts to work for themselves, and that this could be preferable to a stressful corporate environment.

LONG-TERM CHANGE?

The 9.4 percent of over 65s who work in Britain is around half the rate in the United States, but more than double what is typical elsewhere in the European Union.

How this rate changes over the coming years is now a key question for economists trying to figure out when unemployment will fall to the Bank of England's 7 percent threshold. It is one that is likely to prove hard to answer.

"While we have seen a lot of focus on productivity, the participation rate and labour force growth is just as important," said Rob Wood, a former BoE economist who now works for Germany's Berenberg Bank.

Some of the factors causing older people to work longer are likely to be permanent, such as longer life expectancy, a rising age at which state pensions are paid and laws banning mandatory retirement ages and age discrimination in the work place.

But some of the increase may also be due to temporary factors, such as financial hardship caused by the crisis and lower investment income from pension savings.

By comparing Britain with other developed countries, and rates of increase before and after the financial crisis, Wood estimates that most but not all of the upward trend in the share of older people working is permanent.

As well as the growth in older workers, he is also keeping an eye on two other factors which partly cancel each other out: an ongoing inflow of foreign migrants, and a trend among younger Britons to study longer while the job outlook is poor.

(Editing by Jeremy Gaunt)