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Thursday, January 11, 2007

Efficiency Wage Effects from a Higher Minimum Wage

I once suggested that raising the minimum wage might have an efficiency wage effect: because workers are more productive when they are paid more, and because of reduced turnover, etc., unit labor costs don't necessarily have to rise when the minimum wage goes up. And even if costs don't actually fall when the minimum wage goes up, because of the productivity enhancing and cost reducing effects from the change in the minimum wage, unit labor costs don't have to rise by the full amount of the wage increase. The suggestion was not universally well-received. Although this is anecdotal, it suggests efficiency wage stories might have some validity:

Crossing the State Line Is Worth It for $7.93, by Timothy Egan, NY Times: Just eight miles separate this town on the Washington side of the state border from Post Falls on the Idaho side. But the towns are nearly $3 an hour apart in the required minimum wage. Washington pays the highest in the nation, just under $8 an hour, and Idaho has among the lowest, matching 21 states that have not raised the hourly wage beyond the federal minimum of $5.15.

Nearly a decade ago, when voters in Washington approved a measure that would give the state’s lowest-paid workers a raise nearly every year, many business leaders predicted that small towns on this side of the state line would suffer. But instead of shriveling up, small-business owners in Washington say they have prospered far beyond their expectations. In fact, ... businesses here ... have found that raising prices to compensate for higher wages does not necessarily lead to losses in jobs and profits.

Idaho teenagers cross the state line to work in fast-food restaurants in Washington, where the minimum wage that is 54 percent higher. That has forced businesses in Idaho to raise their wages to compete. ... “We’re paying the highest wage we’ve ever had to pay and our business is still up more than 11 percent over last year,” said Tom Singleton, who manages a Papa Murphy’s takeout pizza store here [in Washington], with 13 employees.

His store is flooded with job applicants from Idaho, Mr. Singleton said. Like other business managers in Washington, he said he had less turnover because the jobs paid more.

By contrast, an Idaho restaurant owner, Rob Elder, said he paid more than the minimum wage because he could not find anyone to work for the Idaho minimum at his Post Falls restaurant... “At $5.15 an hour I get zero applicants — or maybe a guy with one leg who wouldn’t pass a drug test and wouldn’t show up on Saturday night because he wants to get drunk with his buddies,” Mr. Elder said. ...

[T]he state’s major business lobby, the Association of Washington Business, is no longer fighting the minimum-wage law, which is adjusted every year in line with the consumer price index. ...

During a recession five years ago, the same group had argued that Washington’s high minimum wage law would send businesses fleeing to Idaho. The group sent out a news release with a criticism of the law from John Fazzari, who owns a family-run pizza business in Clarkston, Wash., just minutes from the Idaho town of Lewiston.

But now Mr. Fazzari says business has never been better, and he has no desire to move to Idaho. “To tell you the truth, my business is fantastic,” he said in an interview. “I’ve never done as much business in my life.” ... Mr. Fazzari said he raises prices slightly. But he said most customers barely notice. He sells more pizza, he said, because he has a better product ...

Here on this border, business owners have found small ways to raise their prices, and customers say they have barely noticed. “We used to have a coupon, $3 off on any family-size pizza, and we changed that to $2 off,” said Mr. Singleton, of Papa Murphy’s. “I haven’t heard a single complaint.”

Update: Free Exchange at the Economist tries to poke holes in the argument that raising the minimum wage has a negligible effect on employment:

Whither the minimum wage?, Free Exchange, Economist.com: ...The higher minimum wage may be close to the market clearing wage in Washington. That would explain why Washington businesses did not hire fewer workers when they faced a higher minimum wage.

The argument is that this case doesn't count because it wasn't an increase that affected employers, i.e. the minimum wage was increased to near the market clearing level.

If it were true that the increase in the minimum wage put it at the market clearing level, then the increase in the minimum wage would have no effect on businesses - they would already be paying the higher wage. The article describes the fears Washington employers had about the increase, and how they've had to increase output prices as a result (see above). None of that is consistent with a wage moved from below equilibrium (where it does not bind) to equilibrium. So this explanation of why we should dismiss this outcome does not appear to be consistent with the evidence.

    Posted by on Thursday, January 11, 2007 at 12:02 AM in Economics, Policy | Permalink  TrackBack (1)  Comments (9)


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