Raising the minimum wage will create a 'bigger mess'

Dr Eric Crampton
The Dominion Post
30 November, 2020

The holiday season always brings the requisite warnings about the summer road toll.

Drive to the conditions, and the faster the speed, the bigger the mess.

There’s no magic line between 100 kilometres per hour and 101 that makes the former safe and the latter dangerous. But risks start rising considerably as speeds go up, especially on the windier stretches.

Minimum wages are not that different. And substantially increasing them, now, makes as much sense as boosting the speed limits on the country’s riskiest bits of road heading into the holiday season.

The toll in either case could be rather higher than we might like.

To begin with, minimum wages are not a great way of boosting incomes for poorer households supporting families.

Work by Tim Maloney and Gail Pacheco showed that, as of the late 2000s, only about 40 per cent of minimum waged workers were in the poorest 30 per cent of households.

Consequently, even if minimum wage increases did not cost jobs, a 10 percent increase in minimum wages reduced poverty rates by less than a tenth of a percentage point.

Worse, income-linked benefits like Working for Families scale back when wages increase.

The overall effects then become difficult to work out, even if we assume no effects on employment.

Last year, the Productivity Commission’s Patrick Nolan showed how minimum wage increases from $16.50 to $20/hour affects the take-home pay of a sole parent with two young children.

If that sole parent were working 40 hours per week, the $3.50/hour minimum wage boost would increase take home pay by $113.55 per week – the equivalent of $2.84 per hour, if the employer can avoid layoffs.

But a sole parent working 30 hours per week would only receive the equivalent of a $0.31/hour wage boost.

And a sole parent working 20 hours per week would see a drop in take-home pay because income-linked benefits would decrease by more than the minimum wage increase.

Boosting programmes like Working for Families is more likely to improve take-home pay packets for the workers the government might most want to help and is less likely to cost those workers their jobs.

And those employment risks are becoming incredibly concerning.

New Zealand’s minimum wage is not just high in dollar terms, it is also high relative to prevailing wages.

When the minimum wage is high relative to the median, changes to the minimum wage affect a lot more jobs and a lot more workers.

The OECD regularly publishes this kind of wage data. Across the set of countries surveyed, the median country has a minimum wage that is 51 per cent of the median wage.

Spain, Germany, Greece, the Netherlands and Belgium all had minimum wages set at less than half of their countries’ median wages.

The most recent OECD data puts New Zealand’s minimum wage, relative to the median wage, among the highest in the world at 66 per cent.

Only Colombia, Turkey, Chile and Costa Rica had higher ratios.

When the minimum wage is very low relative to prevailing wages, nobody should reasonably expect increases to substantially reduce employment.

An increase in the speed limit from 1 km/h to 5 km/h is unlikely to increase the road toll even on the windiest road.

Studies from the United States regularly show that American minimum wages have only minor effects on employment. But the federal minimum wage in the United States is very low relative to the median wage: the OECD puts the ratio at 32 per cent.

Even Washington state, which has the highest state-level minimum wage, comes nowhere near New Zealand’s ratio. In 2018, the most recent year for which data on both the minimum and median wage is available, Washington’s minimum wage was only 44 per cent of the median.

And even if median wages had held constant since 2018, minimum wage hikes since then would only have taken Washington’s minimum wage to just over 50 per cent of the median.

New Zealand’s scheduled minimum wage increase, to $20/hour, is likely to increase New Zealand’s minimum wage to about 72 per cent of the median.

On a straight high way in clear driving conditions, that would be risky enough.

But we are pushing well into unmapped terrain, with no experience in comparable countries to guide us.

The driving conditions are more than a little worrying: a global pandemic-induced recession combined with the shutting down of the international tourism sector.

And there are already calls to increase the minimum wage beyond that. The wage subsidies that got firms through lockdowns have, rightly, ended.

But international economic conditions remain grim and firms that catered to tourists will face difficult decisions on staffing even without continued substantial minimum wage increases.

When it comes to the minimum wage, the government should take some advice it provides to Kiwis heading out on the roads this holiday season. Drive to the conditions. When the roads look as risky as they do right now, reduce your speed.

The jobs toll this year has been bad enough already.





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