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Title: C15 Lecture 1: Minimum Wages and Economic Outcomes


1
C15 Lecture 1Minimum Wages and Economic
Outcomes
  • Stephen Machin,
  • February 2005

2
Issues
  • Economic effects of minimum wages and evidence on
    minimum wages and employment
  • The controversy on conventional wisdom versus
    micro based revisionist approach
  • The introduction of the UK National Minimum Wage

3
Economic Effects of Minimum Wages
  • Effect on employment/unemployment has been
    central issue in debate about economic effects of
    minimum wages.
  • Standard textbook model of labour demand produces
    one of the clearest predictions in labour
    economics - minimum wages price workers out of
    jobs by forcing employers up their labour demand
    curve.

4
Standard Textbook Model
5
Standard Textbook Model
  • Basic model rests upon several assumptions
    complete coverage homogeneous labour
    competitive labour market short run and long run
    impact the same.
  • Clear prediction the minimum wage increase
    results in reduced employment - the proportional
    reduction in employment (lnEm - lnE0) equals the
    proportionate wage increase (lnWm - lnW0) times
    the elasticity of demand ?.
  • Can develop more sophisticated models, but with
    assumption of perfect competition produce same
    qualitative predictions.

6
Two Sector Model
  • Basic model can be generalised in various
    directions. One example is to move to a two
    sector model - covered/non-covered, set E0 1,
    W0 1.
  • Demand for workers in the covered sector depends
    on the minimum wage, whereas demand in the
    uncovered sector depends upon the market wage.
  • Minimum wage elasticity of employment
  • c?elnWm / 1 - c elnWm
  • where c proportion in covered sector, e
    elasticity of labour supply.
  • If c 1, e ? ? standard one sector competitive
    model, ?
  • Example c 0.7, lnWm 0.6, e 0.3, ? -1 ?
    employment effect -0.26.

7
Implications
  • Only pertinent question is how negative is the
    negative effect on employment?
  • Minimum wage hurts the people it sets out to help
    by pricing them out of work even more the case
    since low skill people more likely to be low paid

8
Evidence
  • Early empirical work largely supportive of basic
    model ? conventional wisdom.
  • Usually based on aggregate time series studies of
    US employment/unemployment rates and minimum
    wages, usually focussing on teenagers
  • Yt g(MWt, X1t,......Xkt) et
  • where Yt employment / unemployment to
    population ratios (usually in logs), Xit
    aggregate demand and supply variables (teenagers
    in training programmes, school enrollment, time
    trend), MWt minimum wage index (e.g. Kaitz
    index).
  • Brown, Gilroy, Kohen (1982) Journal of Economic
    Literature - say consensus reached minimum
    wages reduce teenage employment with elasticities
    in the -0.1 to -0.3 range.

9
Observations on Time Series Evidence Re-Appraisal
  • 1). Only up to late 1970s and US minimum wage
    fell strongly in real terms in the 1980s

10
Re-Appraisal (Continued)
  • 2). Extending the samples of teenage employment
    studies into the 1980s produces much smaller,
    often statistically insignificant, elasticities
    below the consensus range (around -0.07) (Card
    and Krueger, 1995).

11
Implications of Re-Appraisal
  • Minimum wage effects on employment seem small
    (centring in on zero).
  • Alternative theoretical explanations
  • Monopsony based arguments
  • Single buyer of labour (e.g. company town)
    characterised by upward sloping labour supply
    curve to firm

12
Monopsony
13
Implications of Re-Appraisal
  • Dynamic monopsony type-notions (based on labour
    market frictions) can generate non-negative
    employment effects of minimum wages.
  • Or labour demand curve inelastic so that
    employment not very sensitive to changes in
    minimum wages.

14
Micro Work
  • What is best conceptual way to evaluate economic
    effect of minimum wage?
  • Before and after micro work more closely
    approximates the theoretical approaches that talk
    about labour markets with and without minimum
    wage floors sometimes referred to as
    revisionist approach.

15
Methodological Issues in Newer Research
  • Corresponds better to theoretical concepts as
    adopts before and after approach, with treatment
    and control groups.
  • If E is employment, T and C denote treatment and
    controls and 1 and 2 are the before and after
    treatment periods then an estimate of the impact
    of treatment is
  • (ET2 EC2) (ET1 EC1)
  • or
  • (ET2 ET1) (EC2 EC1)

16
Micro Based Before and After Studies
  • Most famous piece is Card and Kruegers (1994)
    New Jersey / Pennsylvania comparison
  • UK strand 1 Wages Council work
  • UK strand 2 evaluations of introduction of UK
    National Minimum Wage in April 1999

17
New Jersey/Pennsylvania Comparison(Card and
Krueger, 1994)
  • Can be viewed as case study of fast food
    industry.
  • Surveyed fast food restaurants in New Jersey and
    Pennsylvania in February-March and
    November-December 1992.
  • In April 1992 the New Jersey minimum wage went up
    from the federal minimum level of 4.25 to 5.05
    but the minimum in Pennsylvania remained at 4.25.

18
New Jersey/Pennsylvania Comparison (Continued)
  • Two treatment versus control experiments
  • a) T New Jersey restaurants, C Pennsylvania
    restaurants
  • b) T low wage New Jersey restaurants, C
    high wage New Jersey restaurants

19
Survey Descriptive Statistics
20
New Jersey/Pennsylvania Comparison (Continued)
  • Results
  • i) Substantial impact on wage structure
    February 1992 33 percent of NJ and 34 percent
    of Penn restaurants had starting wage 4.25
    November 1992 90 percent of NJ restaurants had
    starting wage 5.05 and 30 percent of Penn
    restaurants had starting wage 4.25.
  • ii) But no negative effect on employment (if
    anything positive)

21
Wage Structure Impact
22
Identification of Employment Effects
  • ?Ei a bXi cNJi ei
  • ?Ei a bXi cGAPi ei
  • Where GAP 0 for P stores and NJ stores with
    W1i 5.05 and (5.05 - W1i) / W1i for other NJ
    stores/

23
New Jersey/Pennsylvania Comparison (Continued)
24
Employment Models
25
UK Wages Councils
  • System of minimum wages that used to operate in
    UK was a partial coverage industry based system.
  • Wages councils introduced in 1909 (by Churchill)
    covered workers in low wage industries (the
    sweated trades). Abolished in 1993.
  • At time of abolition covered around 12 percent of
    workers in the labour market. Were concentrated
    in low wage service sector industries. Largest
    was retail trade.

26
UK Wages Councils (Continued)
  • Dickens, Machin, Manning (1999) look at
    employment and minimum wages in Wages Council
    industries from 1975-92.
  • Reduced wage inequality, but no evidence of
    disemployment effects.

27
Wages Councils Wage Structure Impacts
28
Changes in Employment and Toughness
29
Employment Models
30
The Introduction of a National Minimum Wage in
the UK
  • Introduced in April 1999 at 3-60 for over 21s,
    3-00 for 18-21s, none for 16-17 year olds.
  • Raised (by fairly small amounts) on an irregular
    basis. Now (after last change of October 2004)
    stands at 4.85 for the adult rate and 4.10 for
    the development rate. And, since October 2004,
    there is a rate for 16-17 year olds, of 3.00 per
    hour.

31
Introduction of NMW(Continued)
Adult rate Development rate
April 1999 3.60 3.00
June 2000 3.60 3.20
October 2000 3.70 3.20
October 2001 4.10 3.50
October 2002 4.20 3.60
October 2003 4.50 3.80
October 2004 4.85 4.10
Notes denotes rate for employees aged 18 to 21
and those aged 22 and over receiving accredited
training and in the first six months of
employment
32
Introduction of NMW(Continued)
  • Issues
  • Who affected and wage benefits.
  • Evaluating the economic effects.
  • Initially focus on wage impact, coverage and
    employment.

33
Introduction of NMW- Low Pay Commission
  • Ex-ante Low Pay Commission (LPC) set up and
    reported on evidence and how expect labour market
    to be affected by NMW
  • Predicted 2 million workers to benefit (9
    percent of workforce), most of whom were women.
  • Estimated wage boost of 30 percent for those
    affected

34
Introduction of NMW Low Pay Commission
(Continued)
  • Ex-post
  • Fewer than 2 million workers benefited, more
    like 4 or 5 percent (due to measurement error in
    earnings data).
  • The Office for National Statistics now put the
    number of people beneath the minimum before
    introduction at 1.52 million, whilst the most
    recent Low Pay Commission report goes even lower
    at 1.3 million.
  • Average wage gain for beneficiaries smaller,
    more like 6-10 percent

35
Beneficiaries of Minimum Wage Introduction
36
Introduction of NMW Employment Effects
  • Key economic question concerns impact on
    employment.
  • LPC stated that their view was that NMW was set
    at level that would not harm jobs (logic is idea
    that can have monopsony power up to a certain
    level of wages so get inverse U-shape in
    employment effects).

37
Introduction of NMW - Employment Effects
(Continued)
  • 1). Macroeconomic picture
  • No obvious unemployment effect from NMW
    introduction.
  • Aggregate employment rates () 1998 73.5, 1999
    73.9, 2000 74.4, 2001 74.4 Unemployment
    rates () 1998 6.3, 1999 6.0, 2000 5.4,
    2001 5.1.
  • (Source Labour Market Trends, March 2003)

38
Introduction of NMW- Employment Effects
(Continued)
  • 2). Micro studies with treatment-control design.
  • Stewart (2004) looks at individual-level data
    sources to appraise the impact of NMW
    introduction on individual employment
    probabilities.
  • Explicitly looks before and after minimum wage
    introduction using longitudinal data on people
    (from Labour Force Survey, British Household
    Panel Survey and New Earnings Survey).

39
Introduction of NMW- Employment Effects
(Continued)
  • Stewart (2004) presents difference-in-difference
    estimates for four groups adult men, young men
    (lt22), adult women, young women (lt22).
  • Also cross-area paper (Stewart, 2002) where uses
    geographical variation in the proportion affected
    (across 140 areas) to identify any minimum wage
    effect.

40
Introduction of NMW- Employment Effects
(Continued)
  • Stewart (2004) approach is to compare those
    workers affected by the minimum wage with workers
    above the minimum wage floor.
  • Looks at differences-in-differences across these
    groups (again treatment-control type
    comparison).

41
Introduction of NMW- Employment Effects
(Continued)
  • Step 1 looks at wage effects.

42
Introduction of NMW- Employment Effects
(Continued)
  • Step 2 looks at differences in employment
    probabilities.

43
Introduction of NMW- Employment Effects
(Continued)
  • In both papers fails to find negative effects on
    employment from NMW introduction.
  • Across all workers no evidence of an adverse
    effect on employment resulting from NMW
    introduction.

44
Introduction of NMW- Employment Effects
(Continued)
  • 3). Employment Effects in a Vulnerable Sector
    Care Homes
  • Machin, Manning and Rahman (2003) look for
    minimum wage effects in one of the sectors most
    vulnerable to employment losses induced by
    minimum wage introduction, the labour market for
    care assistants.
  • Carried out own survey to collect data on workers
    and homes before and after minimum wage
    introduction.

45
Introduction of NMW- Employment Effects
(Continued)
  • Why is this a useful research exercise?
  • 1). The sector contains many low-wage workers, so
    the minimum wage has real potential to have a
    noticeable important impact on outcomes.
  • 2). The sector is not unionised.
  • 3). It consists of large numbers of small firms
    (average employment being somewhere in the range
    of 15-20 workers) doing a very homogeneous
    activity in geographically concentrated markets.
  • 4). The product market side of this sector is
    interesting. An important fraction of the
    residents of these homes have their care paid for
    by the Department for Social Security (DSS).

46
Introduction of NMW- Employment Effects
(Continued)
  • Therefore provides good testing ground for trying
    to identify minimum wage effects on employment.
  • Carried out survey of all UK residential care
    homes before and after introduction. Asked for
    information on all workers in each home.
  • Then considered wage and employment effects using
    methodology that relates changes in wages and
    employment before and after the minimum wage
    introduction to the fraction of low paid workers
    in the pre-minimum wage period.

47
Introduction of NMW- Employment Effects
(Continued)
  • Impact on Wages
  • Approach 1 look at percent below minimum before
    introduction and for spike at minimum after
  • Approach 2 estimate statistical models, relating
    the change in the average wage before and after
    minimum wage introduction to the proportion of
    workers paid less than the minimum wage in the
    period before introduction.

48
Introduction of NMW- Employment Effects
(Continued)
  • Impact on Wages, Approach 1

49
Introduction of NMW- Employment Effects
(Continued)
  • Impact on Wages, Approach 1

50
Introduction of NMW- Employment Effects
(Continued)
  • Impact on Wages, Approach 2
  • Estimate home-level wage change models

51
Introduction of NMW- Employment Effects
(Continued)
  • Impact on Employment
  • Study whether homes where wages went up by more
    experienced employment falls.
  • Slight evidence of job losses, but moderate given
    scale of wage gains.
  • Even in this most vulnerable sector hard to find
    employment losses due to minimum wage
    introduction.

52
Introduction of NMW- Employment Effects
(Continued)
53
Distributional Impact
  • If employment effects moderate then one may be
    interested in distributional consequences of
    minimum wage floors
  • Wage inequality
  • Family income distribution

54
Wage Inequality
  • Dickens-Manning impact limited further up
    distribution (small spillovers).

55
Income Distribution
  • Need to be careful what group to study. If
    households with someone in work

56
Current Research
  • Moving on from employment effects.
  • Particular focus on firm outcomes (like prices,
    profitability).
  • Also work on training, crime impacts.

57
Summary
  • Economics of minimum wages is interesting area
    to illustrate
  • How basic first order principles of economics can
    be evaluated.
  • How economics can link closely to issues of
    public policy.
  • How evidence based policy formation can be useful.
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