There is a huge body of empirical research on the employment effect of the minimum wage that has failed to clearly demonstrate the negative effect that so many economists strongly believe to find. This paper reviews the reasons for this and argues that the literature needs to re-focus to further our knowledge on the topic.
It is over 25 years since Charlie Brown invited readers of the Journal of Economic Perspectives to think about the question ’Minimum Wage Laws: Are They Over-rated?’ with the final sentence “the minimum wage is over-rated by its critics as well as its supporters”. At the time, there was a strong academic consensus that the minimum wage caused job losses, was not well-targeted on those it set out to help, and dominated by other policies to help the poor like the EITC. Although the minimum wage often commanded wide support among the general population, policy-makers seemed to be paying attention – the US federal minimum wage had not been raised for almost a decade and only 10 states had higher minima. Outside the US, in 1993 the UK abolished the Wages Councils that had set minimum wages in some low-paying industries since being established by Winston Churchill in 1909 leaving only a minimum wage in agriculture. In 1994, the OECD published its view on desirable labour market policies in the Jobs Study, recommending that countries “reassess the role of statutory minimum wages as an instrument to achieve redistributive goals, and switch to more direct instruments. If it is judged desirable to maintain a legal minimum wage as part of an anti-poverty strategy, consider minimising its adverse employment effects”. So, minimum wages seemed to be withering away.
The landscape looks very different today – there is pressure to make more use of minimum wages almost everywhere.
Central to this change in view is what has sometimes been called the ‘New Minimum Wage Research’ that, starting in the early 1990s, cast some doubt on the conventional wisdom that the minimum wage inevitably destroyed jobs with the only interesting question being the size of the loss. To be sure, disagreement remains within the profession so that almost 25 years after this research began, there is no consensus on the employment effects of the minimum wage – O’Neill shows that there are clear characteristics of economists who signed the petition for and against the 2013 Fair Minimum Wage Act. But it does seem fair to say that clear negative impacts on employment of minimum wages are elusive.
In the large number of papers that try to estimate what the effect of minimum wages are on employment, there is a danger of losing sight of the ‘why’ question – why is it so hard to find negative employment effects of the minimum wage. Perhaps there are economic factors that explain the small and often ambiguous effects of the minimum wage on employment? Or perhaps labor markets are fundamentally different from conventional product markets. These are the issues discussed by this paper.
The conclusion is that the employment effect is elusive but that we should not be surprised by this given the way labor markets operate in which deviations from perfect competition are much larger than, say, in some product markets. And that it is perhaps time for the literature to move on to try to address the question of how high the minimum wage can be raised without significant employment effects appearing.
Much of the literature on the employment minimum wage focuses on the question of ‘what is the employment effect of the minimum wage’ using an empirical specification in which the effect is always negative, zero or positive, and focusing heavily on the evidence for American teens. We have reached the point of diminishing returns to this.
A balanced view of the evidence on teen employment makes it clear that any evidence of a negative employment effect is not robust to reasonable variation in specification, even when the wage effect is robust. This might mean that the labor demand elasticity is very small (and this paper has discussed some reasons why that might be the case) but it might mean that the effect is not negative at all. The claim that the employment effect might not be negative continues to be met with incredulity in some quarters, or euphemistically described as ‘non-conventional’. But the ‘conventional’ view is based on a model of the labor market in which all unemployment is voluntary leisure. To be internally consistent those who argue that the minimum wage must reduce employment need to sign up for the ‘great recessions as a great vacation’ hypothesis. As soon as one acknowledges that labor markets have frictions (hardly an unconventional view) one has to acknowledge that the impact of the minimum wage on employment is theoretically ambiguous – this paper has tried to explain why in the simplest possible terms.
Of course there is some level of the minimum wage at which employment will decline significantly. The literature should re-orient itself towards trying to find that point. One cannot when the observed range of minimum wages does not include the turning-point but recent initiatives suggest we may be about to observe the impact of much higher minimum wages in the near future. Together with, hopefully, an increased use of high-quality payroll data, we may be about to learn more.
Chosen excerpts by Job Market Monitor. Read the whole story at The Elusive Employment Effect of the Minimum Wage – CEP | Publications | Abstract
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