Employment Dynamics
Let’s start by looking at hiring dynamics. Meer and West 2015 looked at empirical evidence regarding net job growth. Their findings suggest that an increase in minimum wage has negative and statistically significant impact on net job growth. The effect seems to be concentrated in lower income jobs, usually held by younger individuals. There is a second impact that minimum wage has on employment dynamics however.
Rather than just focusing on hiring and firing, let’s look at wages. After all, minimum wage hikes are supposed to improve wages for workers. Unfortunately while lower income workers may see a few benefits from increased minimum wage, existing employees will be hurt by the hikes. This is because of wage compression. Wage compression occurs when newer employees make more than existing employees. According to Hirsch, Kaufman, and Zelenska 2013, wage compression, through a reduction in pay increases, is one method used to buffer costs of compliance. Specifically, this occurs because employers seem to give out smaller normal raises when minimum wage goes up.
Real Wages
While wage compression is a non-trivial way in which businesses work to buffer increased costs of compliance, data from Hirsch, Kaufman, and Zelenska 2013 suggests that the primary method of handling these cost increases is to increase the cost of the end product. So now we have two separate forces which are working to impact real wages. We have wage compression and we have a decrease in purchasing power. Part of normal pay raises is to compensate for inflation. So we have less compensation for inflation coupled with higher inflation. The logical conclusion is clear.
Increased Risk of Exit
A more recent study conducted by affiliates of the Harvard Business School shows that minimum wage increases have a significant impact on the risk of business failure, at least in the restaurant industry. “Survival of the Fittest: The Impact of the Minimum Wage on Firm Exit” suggests that a “one dollar increase in the minimum wage leads to a 14 percent increase in the likelihood of exit for a 3.5-star restaurant (which is the median rating), but has no discernible impact for a 5-star restaurant (on a 1 to 5 star scale).” Now, it is not surprising that the much rarer 5-star restaurants are more immune, as a 5-star restaurant will have lower price elasticity.
But 3.5, as the study suggests, is the average rating of a restaurant. In other words, the average restaurant is hit, and hit hard. And that is with a single $1 increase in minimum wage. Remember, an increase in minimum wage is meaningless if one does not have a job. While legal minimum wage may be set arbitrarily by politicians, real minimum wage is always $0 (unemployed).
NBER Study
One paper that I failed to mention in earlier drafts of this article is the NBER paper “Minimum Wages and Employment: A Case Study of the Fast Food Industry in New Jersey and Pennsylvania.” The paper suggests that there is insufficient evidence to suggest a change in employment conditions following changes in minimum wage. However, this can be explained away by two points. First, as mentioned before, minimum wage can have an impact on employment dynamics, even if it does not have so much of an impact on statics. Second, the study focuses on fast food establishments. However, these establishments are not indicative of the larger economy. To see this, consider the earnings of institutions like McDonalds which actually improved during the last recession (Forbes and Investopedia). This seems counter intuitive, but fast food is a defensive sector. When people have little more, they will forgo middle of the road establishments and instead focus on the very cheap fast food. Therefore negative impacts resulting from an increase in minimum wage do not necessarily translate as a decline in sales and revenue of fast food restaurants. Indeed, a negative impact on the economy as a whole can improve revenues to fast food establishments, allowing them to weather wage hikes more.
It’s The Dollar
Another point that should be made is that minimum wage only deals with actual dollar amounts. It does not matter if one makes $10 an hour or $100 an hour. What matters is what someone can purchase with what they have earned in an hour. The dollar has weakened considerably over the years. To see this point, one need only look at the minimum wage in 1964, the last year that 90% silver coins were used as legal tender. At that time, federal minimum wage was $1.15 an hour, as opposed to $7.25 an hour, as of October 2018. As of writing this additional component of the article, silver has been hovering around $14.50 a troy oz, which is fairly low for silver. But even then, taking into account that 90% silver has approximately 0.715 troy oz per $1 value, that $1.15 an hour minimum wage equates to $11.92 an hour, which is 64% above current federal minimum wage.
What this point means is that had minimum wage been frozen in 1964, and had silver not been removed as legal tender so that 90% silver was still used, people making minimum wage would be making 64% more, in terms of purchasing power. So the issue is not minimum wage. It is the value of the dollar.
Further Reading
1. Economy and Government: an Evolutionary Perspective
2. Minimum Wage and Corporate Welfare