Minimum Wage and Unemployment
Abstract
The federal government has allowed the minimum wage erosion to the lowest value in more than 50 years. Employees from the low income families have to work hard to afford the basic requirements and the whole situation inevitably widen the distance between those low income families and the rest of people. In this low-wage labour market, states with a higher minimum wages normally have a better economic performance than any other states with lower minimum wage, particularly in the small businesses retail and fast food industry.
1. Introduction
The basic fact that labour demand slope downward whenever we examine the effects of imposing a wage rate change on a group of workers or industry, wage subsidies and any movements in minimum wage all affect the quantity of labour that employers want to hire. The supply of workers is normally considered to be positively related to the nominal wage. When wage increases, labour supplied increases. However, the amount of labour demanded is believed to be negatively associated to the nominal wage, firm demand less labour as the wage increases, due to its downward sloping properties
The traditional view states that labour market as perfectly competitive. Under perfect competition, starting with an easy economic textbook example, holding other things else constant, if one price of goods went up, the consumer demand of that product would fall. Similarly, workers' wage level would go up in response to the enforcement of minimum wage, employers would rather occupy fewer workers and unavoidably ended up with an increasing unemployment rate. In this competitive labour market, workers' marginal productivity could be decisive in determining their wages. For instance, if the monthly minimum is $5000, any workers' productivity which is below $5000 would inevitably loss the job, some or near the productivity of $5000 might be considered to save the job as some workers has already been sacked, the remaining workers would work harder and try to keep the productivity over $5000.
Any workers who are working at minimum wage level are hugely important to the families' gross income. The majority of employees who are employed at minimums level neither totally poor nor the only income supply for their families, however the low wage workers' income show significant effects on the economic well being. Between the 1970s and 1980s, the economic assumptions investigating the connection between the employment and minimum wage fundamentally consisted of the time series analysis. It stated that a momentous depressing growth of employment from the results of increasing the minimum wage. These results contributed to the plain competitive model of the labour market. Since employers contain perfect information about potential hires and all workers, hiring and dismissal is totally costless. Correspondingly, people who are looking for jobs contain perfect information for the potential employers, losing a job or redundancy are totally not an issue here.
In addition, the model believes that staff and workers have fundamentally infinite admission to other possible working options. If employers lower the wagers by 1%, all workers would immediately leave, by using the equivalent reason, employers would get no advantage by using a higher salary rather a minimum wage to employ any workers. Therefore, any minimum wage which is higher than the equilibrium market clearing wage unavoidably contribute to reduce in employment.
In this thesis, the progress will go through the economic effect on the retail and youth on the fast food industry, particularly on the low-skilled youth labour, categorized in two groups, age 15-19 and age 20-24. Furthermore, special attention has been paid on women workforce, as female labour workforce has been one of the most important trends as a raising labour participation are occupied by women.
The purposes of setting up the minimum wage:
- Reduce poverty
- Cut down the employers' control on wages
- Eliminate unfair competition
- Improve the economy as a whole
The wage gap between the low wage and average wage has been increasing in the past, in some case full time workers can not afford the cost of living, a raise in minimum wage is presumably to have a huge effect on reducing poverty. As the labour market is not in perfectly competitive situation, hence the bargaining power is controlled by the employers. This will inevitably lead to welfare loss on workers, particularly on some workers with low-productivity. Protecting these workers from being unfairly mistreated, a minimum wage law is therefore established. An increasing wage can make them live better and their families, they can at least afford the basic necessities, the local cost of living, e.g. rent, the price of food, transportation, child care and other necessities would vary a great deal. Economic improvement needs a higher productivity from workers, a phenomenon illustrated by the Fiscal Policy Institute, ‘Henry Ford effect', since employers get higher wage, this results an raise in disposable income and encourage spending in the economy.
With the analysis of U.S Current Population Survey 2005, discloses that a mainstream of adults who work full-time and supply the main source of income to their family would be hugely influenced by the raise in minimum wage. If the minimum wage was increased to $7.25 per hour, 14.9 million workers would experience the wage rise. The employment prospect of low skills employee has seldom reached higher than they are at the moment, the job loss rates also have achieved hardly even been lower. Does an increase in minimum wage cause job losses? Is this higher minimum wage accomplishing their planned beneficiaries? Is employment worst than it would otherwise have been?
2. Related Empirical Work (Theoretical)
Before looking into the impact of a raise in minimum wage, presenting some important past background in related to the minimum wage. The federal minimum wage was a part of the original Fair Labour Standard Act (FLSA) of 1938. It was initially placed on $0.25 per hour and also set standards as regards overtime payment and child labour. The real value of minimum wage has fallen 30% and currently at a lower level than any other year since 1955. In May 2007, an agreement was passed as the federal minimum wage will increase with three incremental steps in 26 months; it is currently placed at $ 5.85 per hour, the second stage will go up to $6.55 per hour in July this year and finally $7.25 in 20091. Most states will not feel the heats of the changes as their existing state minimum wage are set higher than the new federal rate.
The minimum wage erosion has caused severe consequences for families, the national minimum wage has never been indexed and only if the legislative changes are enforced. In general, while the federal decided not to raise the wage level, states government would have interfered. Nowadays, .almost half of the American live in the states that have enforced minimum wages higher than the federal rate of $5.85. Many American politician campaigners linking the minimum wage to the Consumer Price Index, thereby producing a tiny annual increases rather than a large hikes which likely to be adopted when legislation is enforced. At the moment, Arizona, Ohio, Oregon, Missouri, Montana, Vermont and Washington have all linked their minimum wage to the consumer price index.2
The main factors which affect the minimum wage are mostly based upon the political situation and any congressional agreement. The rate of the increases varied, e.g. In the 1970s, Minimum wage increased five times, compared with only two times in 1980s. The effect of the minimum wage will totally depend on how many workers have their wages raised by the law and the degree of the mandated increases. These will also see on how many workers are subject to the law and how many of them would have wages below the minimum wage without the law.
1 If an employee is currently working below the old and new minimum wage, he/she is entitled to gain the two separate higher minimum wages. (http://www.dol.gov/esa/minwage/america.htm)
2 As of 1st February 2007, twenty-nine states and the District of Columbia have enacted higher minimum wages. Ten states currently adjust the minimum wages for inflation annually See Table in appendix for updated state minimum wage rates.
In fact, any workers who stay in minimum wage are crucial to their family's gross income. As long as the low income workers need to work to earn all the basic necessities, they must accept the wage due to their limited bargaining power. People of colour, women and persons with relatively low education are more than likely to get involved at a level of minimum wage for an extensive phase of time. A study shows that after people graduated from high school, 15% of women and 16.2% of blacks would be using a minimum of five years that salaried no more than $1.50 beyond the federal wage. (Carrington, Fallick, 2001)
The minimum wage relative to the average wage, 1947-2006 3
Historical record is quite clear to show that a raise in minimum wage increases the wages of the lowest wage workers with no hurting their employment prospects. The minimum wage increase in 1996-1997 could be the prefect example. In this figure, this decline tells us that an increasing space between average and low wage workers, the trend clearly clarify the development of economic variation in US at the last decade. An economist examine the growing wage gap between the middle and low wage female workers by looking at the post 1980 downturn, can be explained in the above figure. 4 (David Lee, 1999).
3 Minimum Wage Issue Guide, EPI, http://www.epi.org/issueguides/minwage/figure2.pdf
4 The minimum wage is currently 33% of the average wage, the lowest since 1949. (Lee, David. Quarterly Journal of Economics, Vol. 114, No.3)
An increase minimum wage is a working woman's concern
An interesting fact is that female participation in the labour market has dramatically increased. In 1970, the female labour market proportion was occupied of 43.3%, after 30 years, this trend reached its economic peak in 2000; the female went up to 59.9%. Minimum wage increase not only helps teenagers, results (Appelbaum, Bernstein, Currie, Hartman, Katz, Markusen, Montgomery, Raphel, Rouse, 2004) show that 75.6% of the female labour who would be the biggest beneficiaries party of being the age of 20 and 85% of women would tend to getting advantages indirectly from an increase are over the age of 20 too.
Due to the massive growth in the women's share in the labour market, special attention has been paid as the minimum wage gets an extra strong effect on the women labour force market for the following reasons. First, since men get paid more than women, a larger proportion of women are likely to be employed near or at minimum wage level, hence, they would inevitably be the most advantageous of reaping benefits from the minimum wage increases. Second, women dominate the low wage market such as retail industry and health care that would directly benefit when the wage is increased.
Although women make up only 48% of labour force in the market, 61% of direct beneficiaries are women. Over 50% of indirect beneficiaries are occupied at a full-time job, as 77% of women work more than 20 hours a week, most disproportionately affected by the wage increase would be those two industries which involves a large fraction of women labour force. There are around 23% of women occupied in the retail trade, although female employees only engaged the industry of 12%. Furthermore, the catering industry also contains a lot of low wage workforces and relatively large proportion of female labour.
Minimum Wage's impact in Eating and Drinking Establishment- US fast food industry
If skilled labour and capital are substitutes for unskilled workers, the outcome of a minimum wage increase will shift out the demand curve for skilled workers and increase both their earnings and employment as business attempt to replace the now relatively more expensive unskilled workers with capital and skilled workers. Also, only those inexperienced and low skilled workers we should expect to see a negative effect from the minimum wage. This expectation has led research into the minimum wage to focus on the demand for teenage workers on employment.
Whenever there is talking about a rising minimum wage, representatives of this industry must state an inevitable employment loss. For teenagers, being low skilled they are most vulnerable, a group that is mostly employed in low wage sector and clearly affected by the minimum wage, there is well-built support that an increase in minimum wage raise wages without reducing either job opportunity or labour supply (Card, 1992)5. This study is comprehensive as the experiments are based on the response of companies in New Jersey and Pennsylvania state boarder earlier and after following the enforcement of minimum wage.
In the restaurants industry, regularly to be considered as responsive to the minimum wage, Card states that if the minimum wage raise every 10%, teenager's employment will increase by 2.65% to 3.06%.6 In 1st April 1992, the minimum wage in New Jersey increased to $5.05, while other states accepted the federal minimum of $4.25. However, the minimum wage raise to $4.25 did not have a significant effect on any employment loss among youths working the fast food industry. 7 Since most of the young adults are earning a wage higher than the teenagers', the effects of increasing minimum wage are relatively insignificant.
Another empirical research found out that a 10% increase in minimum wage, the teenagers' employment declined 1% to 3% and the employment effects of young adults reduced by 0.25 %.8 (Brown, Gilory and Kohen, 1982). Although the results of young adults come negative, its effects is still insignificant compared with the teenagers.
5. Card and Krueger insisted that no assessable negative impact on employment with the minimum wage. Study shows the increase minimum wage in New Jersey had a very minor, and anything slightly impact on employment. (Card, David and Alan Krueger, American Economic Review Vol. 84, No.4)
6 Minimum wage effects on teenagers (age 16-19) is significantly higher than young adults (age 20-24)
7 Card and Krueger. 1994.‘Minimum Wages and Employment: A Case Study of the Fast- Food Industry in New Jersey and Pennsylvania' American Economic Review, Vol. 84, No.4 (September), pp. 772-93
8 Current Population Survey (CPS) using the data during 1954-1979
Real value of the minimum wage, 1947-2006 7
Over the past 10 years, the real value of the minimum wage has been reducing dramatically, in view of the fact that since 1997, the living cost has increased by 26% and the minimum wage has fallen in real value. There is a negative employment effects in related with higher minimum wages, estimation of elasticity which was -0.06. It means that if the minimum wage went up 10%, the youth employment would reduce less than 1%, this was lower than the smallest previous estimates8.(Wellington, 1991). Besides, there is no evidence showing any particular strong effects on young adults.
Fast food restaurants- eating and drinking establishments- are a major employer of youth in the America. Fast food industry is a monopsony in terms of employing unskilled teenage workers. Monopsony means a single company with an upward sloping curve of labour. Comparing with another competitive firm, they could employ as much as labour as they wish, a higher wages must be paid by monopsonist in order to catch the attention of more workers. In the graph shown below, a monopsony situation, the marginal cost is higher than the wage. A monopsony pays the marginal employee at a level below the productivity; this is how the monopsony's gain comes about. As long as the minimum wage is below the competitive wage, the marginal productivity of labour lies above the wage. Hence, the monopsony has a strong interest of staying on the labour supply curve.
7 EPI Minimum Wage Issues Guides, Source: http://www.epi.org/issueguides/minwage/figure1.pdf
8 Wellington, Alison 1991 Monopsony in the Labour Market
The employment is entirely depended on the labour supply, which is an increasing function of the wage. The establishment of minimum wage can increase both wages and employment in a monopsonistic market. Suppose the minimum wage is set at w, since the low wage workers need to work to for living, they would work for a wage which is below the minimum wage, it means that the marginal cost of labour is equal to the minimum wage only if the firm hires up to L. If the firm employed more than L, the marginal cost of hiring would slip back to the old level.
Monopsony in the Labour Market 8
S= Labour supply curve
MRP= Maringal revenue of product
of labour
M= Monopsonistic equilibrium
C = Competitive market
equilibrium
In contrast between the monopsonistic and competitive equilibrium, assuming a employer gained entry into the market and set the salary higher than M. With no surprise, workers would switch to the new employer. The new employer not only take away the benefit from the previous employer competitor, but also reap the new profits from the workers who join the labour market again due to the wage increase. Eventually, the previous employer would set a higher wage to keep the employees. A number of studies enhanced the monopsony model by introducing different foundations to the labour supply function. (Boal and Ransom 1997). There is a situation that if manpower is mobile and information costly, workers could have interest in refusing jobs offer when the wage is low.
8. George J., 2005, Borjas, Labour Economics, monopoist would maximize profits with point L, The labour wage is deterimined on the supply curve, which is M and equal w.
Will a minimum wage increase reduce poverty?
A raise in minimum wage is possibly bringing a significant effect on reducing poverty. It combined with Earned Income Tax Credit (EITC). EITC is a popular anti-poverty program because it totally depends on the family income; therefore poor family will be centrally targeted. Besides, the program promotes working as the wage subsidy enhances with income as long as it achieves the maximum credit level.
Could a family be maintained by a minimum wage employee? It totally depends on whether the permanent employee getting the minimum wage income below the federal poverty line. For instance, a full time worker (work 2080 hours a year, 40 hours a week) earning $5.85 an hour, the income would be $12,168. It is far under the federal poverty line in 2007 which is $17,170 for a family of three. Nonetheless, this issue is complicated by few factors on this analysis. First of all, not every worker is able to get full time work while suffering the difficulty of balancing the household responsibilities. Secondly, the federal poverty line is generally considered as an insufficient measure of the income needed to support a family. In addition, federal program such as EITC and food stamps improve the income of working families.
Considered with the EITC, the existing federal minimum wage $5.85 is still not enough to support a single parent with two children. They would have a combined tax credit of $14,997, and only 87% of the poverty household of $17,170 for a family of three in 2007. The suggestion to increase the minimum wage to $7.25 would fix this problem.10 .Tracking back to the minimum wage increase in 1996-97; minimum wage did indeed raise the earnings of low wage workers and most importantly with no negative effects on their employment prospects
Historically, minimum wage effects have been restricted in effects on poverty because a lot of people from poor families did not work in the paid labour market. As more poor families' earning are limited from low paying jobs, an increase in minimum wage would bring significant effects on reducing poverty. A 24% increase in the minimum wage during 1984 reduce the poverty rate of low wage workers by 21% (Burkhauser ,Finegan, 1989), poverty reduced from 14% to 11% for those people. .
10 Bernstein, Jared, 1999,Minimum Wages and Poverty. Economic Policy Institute
A study demonstrates strong evidence that increases in minimum wage in 1990s have actually reduced poverty rates (Addison, Blackburn, 1999). In contrast, the 1980s results did not appear to reduce poverty. The labour market of low skilled workers weakened quickly during the 1980s, but the situation cannot be seen in the early 1990s. It is also worth remembering minimum wage is just a device trying to end poverty and it should not be used as the only solution for tackling poverty.
A boarder view of economics
There is now 22 states setting the minimum wage higher than the federal standards, if that wage level contributed to a greater unemployment or even poor economic form, we would have experienced hundred of thousand of jobs lost in the past while states have increased their minimum wages. Another evidence from the past decade, undertook a complete research to examine how the economy react with any upward movement with minimum wage and specially its low income workers, also shows that there is no significant correspondence between minimum wages and employment growth. (Baiman, 2003)
It is worth looking deeply on employment, overall job growth and particularly the job growth on retail sector. Before the enforcement of Florida's minimum wage, a study replied the minimum wage challengers' predictions (Nissen and Shaefer 2005). They concluded that no evidence shows any dismissal of employees during the raise of minimum wage. On the contrary, the state employment has experienced a great development since the new wage was introduced. The economy performed well better than in preceding year, even greater than the US economy as a unit.
In U.S, Washington's minimum wage is currently on the top amongst any other states. Washington did concern about the rising cost of living, it was the first state to amend the minimum wage annually. The Economic Opportunity Institute (EOI) in Washington found that the job growth has surpassed the rest of the country since 2001. The first and second highest state minimum wage, Washington ($8.07) and Oregon ($7.95) are also sharing the top ten positions in overall jobs development. A higher minimum wage did not cause any of the two states with net unemployment over the last year. Minimum wage states had higher job growth (1.6%) over the past 12 months than the national average (1.5%). Employment in small businesses grew faster (9.4%) in states with higher minimum than states with the federal minimum state (6.6%) 9. Also, In terms of the numbers of small businesses firms and payrolls, a higher positive growth can be found in the states with higher minimum wage. (Burton and Hanauer 2006). In 2005, five of the top ten states in retail trade job growth
9 There is a study by the Center for American Progress and Policy Matters Ohio. Small Establishment (less than 500 workers) in thirty-nine states with the federal wage before 2003 in judge against to the twelve states which were having minimums higher than the federal level in Jan 2003.
have had higher than federal minimum wages, which included the two highest minimum wage states- Washington and Oregon. During that period, the higher minimum wage states (0.8%) had better employment development in the retail sector than the national average (0.5%).
There is another way to investigative the shock of the state minimum wage. A broader economic measures can be used to examine how the state's economic performance with a minimums higher than federal standards. Even though some might not be expecting to see any strong outcomes in such a board measure, while any movements in minimum wage only engage a relatively tiny of extra wages to an insignificant group of employees, generally speaking, the challengers of rising minimum wage exaggerated about the negative consequences9, particularly in a state with high unemployment rates as the rising state minimum wage would turns to be an economic disaster. (Clarke, Susan Strother, 2006)
States with higher minimum wages have generally performed as well or improved economically than some states with a lower minimums ever since 1997. A higher minimum wage clearly help the workers better support themselves and to their families. Furthermore, a higher minimum wage is clearly not a difficulty for development in the low wage sector; a higher minimum wage is unlikely to contribute a cumulative job loss, payroll loss or business closure among small businesses. Prior to the state minimum wage increases in late 1990s, those states had shown slightly weaker job growth than the rest of the country.
Source: Fiscal Policy Institute analysis of Bureau of Labour Statistics Current Employment Survey, 2005 benchmark series.
While Fiscal Policy Institute do not claim that the higher minimum wage caused a better economic performance, however, the results indicated the increase in wages did not have negative effects predicted by some opponents.
An issue raised by Glassman (1996), ‘Raise the Minimum Wage?',' No', Glassman insisted that the minimum wage hurts the very people that it is intended to help. There are two major central findings which are consistently being ignored (Schmitt and Bernstein, 2000). First, the economic evidence convincingly show that a moderate increase in the minimum wage have statistically modest or no unfavorable effect on the employment of low wage workers in the last 10 years. Second, in terms of buying power, the minimum wage situates a 40 year low. Hence, an increase in the minimum wage could present a big assist to the majority disadvantaged workers and their families.
The raising belief that ‘Minimum wage cause job losses' was frequently accepted by economists, this compromise view was rapidly eroded after the evidence emerged from the 1990s. Even, the U.S President Bush's appointee as the Chairman of the Federal Reserve, Benjamin Bernanke has stated that economists totally disagree whether increases in the minimum wage reduce employment of low wage workers. (Bernanke, 2006).
9Opponent (Glassman 1996) has protested strongly against the proposal to increase the minimum wage from $4.25 to $5.15. The fact is that his arguments have been solely based on the out-of-date information and a simplistic analysis of how the low wage labour market works. (Schmitt and Bernstein: The impact of the 1996-1997 increase).
Share and Number of female workers affected by minimum wage
Increase to $7.00 by state
Sources: EPI analysis of 2003 Current Population Survey Data
State Minimum Wages Greater than the Federal Minimum Wage
Sources: EPI Minimum Wage Issue Guide
http://www.epi.org/issueguides/minwage/table5.pdf
