Defending the Minimum Wage

Tom McDonnell29/10/2010

Tom McDonnell: The minimum wage was attacked in the Dáil again this week. The substance of the argument was that it was killing competitiveness and adding to the unemployment crisis. The evidence does not support this claim.

Wage factors are just one element of competitiveness. Indeed wages are just one portion of overall labour costs, which in itself is just one part (approximately one third) of overall business costs. TASC has already called for a full review of other business costs that influence competitiveness including utility bills; commercial rates and other input costs.

The minimum wage was introduced in recognition of the vulnerability of low income workers. That vulnerability has not decreased in the intervening period. Minimum wage laws also help boost overall wage equality between women and men as the majority of minimum wage workers are women. The minimum wage also acts as a bulwark protecting migrant and other vulnerable groups against exploitation by employers. Reducing the minimum wage will simply add to the vulnerability of low income groups.

Cutting or eliminating the minimum wage will also reduce aggregate demand: The way to restore economic growth – and jobs – is to restore demand – this requires disposable income – cutting the national minimum runs counter to this. Most other countries in Europe have raised their minimum wage rates.
Lowering the national minimum wage will also directly cost the exchequer through lost revenue. There will also be indirect costs to the exchequer in the form of reduced VAT receipts and increased Family Income Supports and Medical Card payments.

What about competitiveness?
Export-oriented firms tend to be more productive and already pay significantly above the minimum wage. It follows that reducing the minimum wage is not one of the policy measures which would have a positive significant impact on Ireland’s international competitiveness.

The existence of a minimum wage is a boon to all sectors that do not employ minimum wage workers because of increased demand in the economy. A lower minimum wage simply distorts the economy in favour of low paying sectors. On the other hand a higher minimum price on labour shifts the economy’s long-run comparative advantage away from the low value-added unskilled sectors and towards the high value-added skilled sectors.

What about the effect on unemployment? After all that was the core reason given for the attack in the Dáil.

A large body of research in the United Kingdom has found that the British National Minimum Wage has little or no impact on employment; for example David Metcalf at the London School of Economics.

Also, in a seminal (gold standard) econometric study by Dube, Lester and Reich (2008) the authors used policy discontinuities at state borders to identify the effects of minimum wages on earnings and employment in restaurants and other low-wage sectors.

The authors compare all contiguous county pairs in the US that straddle a state border and the results are illuminating – they find no adverse employment effects.

In addition, they show that (as they eloquently put it) “traditional approaches that do not account for local economic conditions tend to produce spurious negative effects due to spatial heterogeneities in employment trends that are unrelated to minimum wage policies”.

So the evidence does not support the proposition that minimum wage laws affect employment rates. On the other hand the minimum wage is a key safeguard for vulnerable low income workers.

Posted in: Welfare

Tagged with: minimum wage

Dr Tom McDonnell

McDonnell, Tom

Tom McDonnell is senior economist at the NERI and is responsible for among other things, NERI's analysis of the Republic of Ireland economy including risks, trends and forecasts. He specialises in economic growth theory, the economics of innovation, the Irish and European economies, and fiscal policy. He previously worked as an economist at TASC and before that was a lecturer in economics at NUI Galway and at DCU. He has also taught at Maynooth University.

Tom obtained his PhD in economics from NUI Galway.


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