More evidence on minimum wages, employment and poverty: a continuing series

A couple of months ago, I brought attention to recent work in Quebec on just who is affected by the minimum wage. An important result was that the proportion of minimum wage earners who were in poverty (13.5%) was almost exactly the same as it is for the incidence of poverty in the general population (13.1%).

In the comments, I made the point this way:

If the conditional probability P(A|B) is equal to the unconditional probability P(A), then A and B are two independent events. In this case, we have

P(Poverty | Earns minimum wage) = 0.135

P(Poverty) = 0.131

From this, we can conclude that earning minimum wage and being in poverty are essentially independent events.

I ended with:

The employment effects of the minimum wage might be safely ignored if the gains from doing so - in terms of reduced poverty and inequality - were "large enough". But available evidence makes it clear that these gains are far too small to justify ignoring employment effects. Moreover, the data suggest that marginalised workers are most likely to pay the price of those job losses.

So the issue of whether or not the minimum wage would reduce poverty was an open question, as far as I could tell.

It turns out that some people have been trying to answer it. My colleague Guy Lacroix has brought to my attention a recent study that suggests that when minimum wages are increased in Canada, the net effect is to increase poverty rates.

The study in question was written by Aninda Sen and two of his U of Waterloo colleagues, and it recently appeared in Labour Economics. (If the link to the Labour Economics site doesn't work, there's an ungated version on his web page.)

The first set of results address the question of the effects of minimum wages on teen employment (2/3 of minimum wage workers live at home or with a family member) and obtains estimates consistent with the existing literature.

Of particular interest are the results in Section 5.4 and Table 4, which estimate the effects of changes in the minimum wage on the proportion of families with income below the LICO. Here, we see that the effect of a minimum wage increase on the incidence of poverty is significantly positive, and the effect is most strongly felt in two-parent households. The effect on older workers is insignificant.

As far as I can tell, the story the authors want to get across goes something like this: most minimum wage earners are young, and the income of these workers is a significant contribution to low-income households. For families in which the minimum wage worker keeps her job, the increase in the minimum wage can increase family income above the LICO so long as hours worked are not significantly affected. For families in which the minimum wage worker loses her job and/or loses too many hours, the lost income may bring family income below the LICO. Canadian data suggest that the latter effect dominates: the net effect of an increase in minimum wages on poverty rates is positive:

From a policy perspective, a common argument has been that even if a higher minimum wage does result in lower employment for some, the corresponding welfare costs are low since the number of minimum wage earners as a proportion of the labour force is relatively low. Further, the effects of unemployment (from a minimum wage hike) may not be severe as a significant majority of minimum wage earners live with another family member. Therefore, a higher minimum wage should unambiguously make lower wage earners better off through higher earnings, and therefore, a reduced incidence of poverty.

Our results suggest the contrary. The ‘negative’ effects of an increase in the minimum wage might not be restricted to higher teen unemployment. A higher minimum wage may paradoxically result in more poverty as teen unemployment results in a drop in household income among low-income families. Therefore, the negative spillovers of a higher minimum wage may be significant and mitigate the benefits of higher earnings to the working poor who remain employed.

For once, the traditional final sentence of academic research papers is not empty boilerplate:

At the very least, the results of this study suggest the need for more research on the nexus between the minimum wages and poverty.

Indeed it does.

 

Comments

[Nick Rowe]

Stephen:
"when minimum wages are increased in Canada, the net effect on poverty turns out to be negative."

"the net effect of an increase in minimum wages on poverty rates is negative".

The word "negative" here is ambiguous. You mean an increase in the minimum wage will increase poverty, right?

[Stephen Gordon]

Gah. Yes, I'll fix it. I kept thinking of 'negative' as the bad result...

[Mike Moffatt]

Really interesting stuff - thanks for sharing!

[John]

I would have said "the poverty rate" since obviously a positive affect on a 'rate' means a higher number. Written just 'poverty' I still found it a little confusing, although I figured it out and I find this stuff quite interesting!

[Andrew F]

I still tripped over that sentence. I'd suggest 'worse'.

[Janegca]

If "the original intent of minimum wage legislation was to protect low-wage workers from exploitation" isn't that what minimum wage studies should be focused on? If unemployment rates are low, poverty rates decrease. In a recession isn't it better to focus on policies that would directly support the unemployed rather than analysing the effect of minimum wage hikes on poverty?

To a lay person these studies look like a back door argument for decreasing minimum wage. If the studies are being driven by an implicit assumption that a lower minimum wage would 'increase' employment where are the studies to support the assumption?

[Stephen Gordon]

Andrew F: Which sentence?

This post is like that episode on The Office where the boss hears that a medical test result is negative, and interprets it as bad news. Every time I wanted to say something about poverty getting worse, the word 'negative' kept forcing its way out of my head and into the keyboard...

[Andrew F]

"It turns out that some people have been trying to answer it. My colleague Guy Lacroix has brought to my attention a recent study that suggests that when minimum wages are increased in Canada, the net effect on poverty rates turns out to be positive."

'Positive' has the same problem as 'negative' in this case. It could be interpreted to mean 'improvement', but I reread it a couple times and gathered from the context you were referring to the sign of the variable coefficient.

[Stephen Gordon]

Yeah. I'll rephrase it. This is one of those times I really wish I had an editor.

[Frances Woolley]

Stephen, I'm still confused, could you go for a boring-but-effective increase or decrease in the poverty rate instead? You mean the poverty rate actually increases as a result of rising unemployment, don't you?

I wonder about the reversibility of some of these trends. E.g. think about gas stations. An increase in the minimum wage makes high tech pay-at-the-pump stations a better investment (plus, one suspects, the higher probability of gas theft with rising oil prices). But once a high tech, minimal labour gas station has been built, even if the minimum wage was reduced to $6.00, how many more employees would be hired? The stations run perfectly well with just one employee, and many are open 24/7 anyways.

Social norms change, too. Here in the hotel in Denver I can get $5 per night in coupons for restaurants if I decline housekeeping - I wonder if hotels would like to gradually work away at the 'room cleaned every day' social norm?

[Robert McClelland]

"Does an increase in the minimum wage make lower income households better or worse off? We address this question by estimating the effects..."

So after all that work they simply guessed.

[Stephen Gordon]

No. 'Estimate' in statistics jargon is 'what the data say'. There's always a chance that you have a bad sample, so we avoid using the word 'measure'.

[Stephen Gordon]

Frances: Even if the long-run effects of eliminating the minimum wage would be positive on balance, I'm pretty sure that the short-run effects would be large and negative. It's not worth it; we can get the long run effects by simply leaving the minimum wage where it is.

[Mike Moffatt]

"I wonder about the reversibility of some of these trends. E.g. think about gas stations. An increase in the minimum wage makes high tech pay-at-the-pump stations a better investment (plus, one suspects, the higher probability of gas theft with rising oil prices). But once a high tech, minimal labour gas station has been built, even if the minimum wage was reduced to $6.00, how many more employees would be hired? The stations run perfectly well with just one employee, and many are open 24/7 anyways."

Never thought about it before, but that makes sense.

You could go even farther RE: minimum wage. I doubt this has anything to do with the minimum wage, but in London, ON there has been a pretty drastic drop in the density of gas stations - where there might be 2 or 3 on a corner, there is now one much larger one. In theory you could see this if labour costs got to expensive (instead of 3 gas stations with 1 employee each, they merge to one gas station, 2-3 times larger).

[Bob Smith]

Janegca: "To a lay person these studies look like a back door argument for decreasing minimum wage"

I don't think they're a back door argument for decreasing the minimum wage (or at least holding it constant in nominal terms, so that the real minimum wage is decreasing), there's nothing "bad door" about it. And it's a compelling argument.

"If the studies are being driven by an implicit assumption that a lower minimum wage would 'increase' employment where are the studies to support the assumption?"

The study isn't being driven by that assumption. And Stephen has posted a number of links to studies which show, I think fairly compellingly, that a higher minimum wage reduces employment.

Great post, Stephen.

[Stephen Gordon]

Actually, the study doesn't assume anything about employment effects; it estimates them from the data. They find numbers similar to previous studies.

[Andrew F]

There are myriad ways in which capital can substitute for minimum wage labour. There are those self-checkouts with one cashier managing 6 or 8 servers. I'd hazard to guess that 8 of these servers is probably 2.5x more productive per labour hour than a traditional checkout. I've seen McDonald's use a fairly elaborate drink-filling machines.

I'm also fairly certain that the rather steep rise in minimum wage here in Ontario has certainly put more pressure on retailers to invest more in 'lean'--ie, reduce front-line labour through investments in processes, IT and capital. And what that really means is reducing jobs for low-income workers and transferring some of their income to high skill/high income workers.

[Ron Holdway]

Maybe the next strp is an economic study to develop a model for determining the optimum minimum wage for the current point in time; the place where the lines of most damage and greatest return cross. Easy to describe but probably a big undertaking to do,

[RSJ]

How much are these results skewed by the marginal tax rates at the low income levels that you cited elsewhere?

When marginal tax rates are in excess of 100%, even if there was no reduction in the supply of minimum of wage jobs, you would expect a combination of increased unemployment and increased poverty levels.

[RSJ]

Here is a report on the minimum wage across the OECD:

http://www.oecd.org/dataoecd/8/57/2080222.pdf

They show that higher minimum wages are negatively correlated with incidence of low pay and wage dispersion. They also cite several other studies, with the balance tending to argue that higher minimum wages slightly increase unemployment.

But now I am wondering how common the marginal tax kinks are, and what effects they might have on labor supply and minimum wages -- I wonder if anyone knows whether this tax bump is typical in the OECD nations, and whether anyone has regressed the effects of the minimum wages with low income tax bumps. I think that would be a great cross-country comparison :)

[Blikktheterrible]

If "the original intent of minimum wage legislation was to protect low-wage workers from exploitation" isn't that what minimum wage studies should be focused on? If unemployment rates are low, poverty rates decrease. In a recession isn't it better to focus on policies that would directly support the unemployed rather than analysing the effect of minimum wage hikes on poverty?-Janegca

What we should focus on is whether minimum wage increases make (poor) people better of or worse off. That's it.

"Maybe the next strp is an economic study to develop a model for determining the optimum minimum wage for the current point in time; the place where the lines of most damage and greatest return cross."-Ron Holdway

First, we would need to know how to precisely define damage and return.

[Andrew]

There is a lot going on in this discussion. Wages are earned by individuals but low income is measured at the household level. My take is that higher minimum wages on net benefit low wage workers since the positive income effect outweighs the negative employment effect (as Freeman has argued .. who among us would turn down a 10% wage increase even if it meant a 5% reduction in hours.) Too much other stuff comes into play when we move to the household level. Yes most young workers at minimum wage do not live in poverty, but they still desereve and need greater economic independence.

[Stephen Gordon]

My take is that higher minimum wages on net benefit low wage workers since the positive income effect outweighs the negative employment effect

Well, yes, because the employment effect elasticities are less than 1 in absolute value. Not sure why that compensates for increasing poverty rates.

[Blikktheterrible]

Here's an extensive review of the research that has been conducted on the effects of the minimum wage:

http://www.house.gov/jec/cost-gov/regs/minimum/50years.htm

[Rick]

The question is whether or not these jobs would be lost anyway. Are we really looking at NPV assessments on a new technology that are so marginal that a $0.15/hr increase for a group of employees turns it just barely positive????

Or that the trend in Minimum wage hikes makes companies look for the first time in their history at cutting wages through layoffs????

There is a lot of anecdotal stretching to rationalize these findings to fit the minimum wage increase kills jobs argument.

In a low interest rate environment wouldn't you expect investment in tech anyway, independent of wages?

[westslope]

Great post and interesting discussion.

A couple of reflections:

+ As an undergraduate student/early MA economics student, I would not have understood this post. Although I suspect most students of economics are much more knowledgeable about these things than I was, I can virtually guarantee that the vast majority of adults including those with advanced degrees in biology and other potentially technical fields would not understand this post. The difficulty the public will experience in trying to understand the issues such as the minimum wage controversy may partially explain why these kinds of neo-liberal economics are such a tough sell.

+ In the economic innovation literature(s), a few authors have emphasized the importance of learning-by-doing in order to enhance work skills, efficiency, productivity, and although not always explicit: per capita incomes. The more minimum wages bite, the fewer opportunities for learning-by-doing by a part of the labour market that needs it the most.

+ The Canadian left is no different from, let's say, American so-called Red Staters. Everybody is impatient and wants a quick fix--the more righteous the better--no matter how expensive or how costs are simply kicked down the road. End of obligatory insult of the traditional, conservative Canadian left.

[Marc Labbe]

Is somebody correlate this with the exchange rate somehow?