The Economic Effects of the Minimum Wage

(In the current session of the Michigan Legislature, lawmakers are being asked to vote on an increase in the state’s legally mandated minimum wage. We therefore reprint the following testimony provided to the U.S. Congress in May 2004 by Paul Kersey, a former Mackinac Center labor policy research associate who was then serving as the Bradley visiting fellow in labor policy at the Washington, D.C.-based Heritage Foundation.)

Ladies and gentlemen, it is understandable to want to help out poor families, and toward that end it has been suggested that Congress increase the minimum wage, from the current $5.15 an hour to $6.65 an hour.

Well, I have good news and bad news for you. The bad news is that increasing the minimum wage will do little to improve conditions for the working poor. This is because relatively few of the recipients of such an increase are living in poverty. The good news is that the working poor do not necessarily need government help. Research shows that the "dead-end job" is largely a myth.

This is not to say that the working poor do not have a hard road ahead of them, but for those who persevere, it is a road that leads out of poverty. We should not block off that path by making low-wage jobs more scarce, which is a likely result of an increase in the minimum wage.

Our analysis of 2003 U.S. Census data shows that of 7.8 million American workers receiving an hourly wage of less than $6.65 an hour — the immediate beneficiaries of a change in the minimum wage — only 15 percent are currently living in poverty. Nearly three-quarters of these workers, 72 percent to be precise, have a family income that is at least 50 percent higher than the poverty line, and over half belong to families earning double the poverty level. One fifth of low-income workers belong to families earning over $80,000 annually.[1] The average family income of the typical low-wage worker was a respectable $40,000 per year.

In other words, the typical beneficiary of a minimum wage increase will not be a poor father or mother scrambling to keep a family fed, clothed and housed. The recipients of the pay raises demanded under this proposal are at least as likely, if not more likely, to already be solid members of the middle class.

For those low-wage earners who are members of poor families, we should not overstate the effects that an increase in the minimum wage will have. Our review of the Census data indicates that fewer than one-quarter of those affected by the proposed new minimum wage work full-time. There is no reason to believe that this percentage is higher for poor families. In fact, last year Heritage scholars Robert Rector and Rea Hederman looked at the average hours of work performed by adults in poor families and found that a little more than one quarter, 27.8 percent, reported 2,000 hours or more. Two thousand hours would be equivalent to one parent working full-time year-round. Nearly as many families, 27.4 percent, reported no work at all. Median hours worked by adults in families with children were lower than 1,000 per year, or less than 20 hours a week.[2]

Consequently, the value of a minimum wage increase for poor families is limited by the low amount of hours that parents in poor families actually tend to work. Increasing working hours would have a far greater benefit for these families, both immediately and in the long term than increasing the minimum wage. Although the minimum wage increase currently proposed may raise family income by as much as 30 percent in the short term, Rector and Hederman showed that increasing work hours to the equivalent of having one adult working full time nearly doubles the average income of these families, even after accounting for lost government benefits and increased taxes.

Over the longer term, minimum-wage or near-minimum-wage work can serve as a springboard to better jobs. Unskilled workers may gain new skills or gain a record of reliability that allows them to move on to better paying positions. Low-wage earners frequently see their wages rise quickly: Researchers at two universities, Florida State and Miami of Ohio, found that full-time workers hired at the minimum wage received a median pay increase of 13 percent within their first year, which shows that low-wage employees are able to work through minimum-wage jobs into better ones.[3] The schedule of increases currently under consideration, first to $5.90 (and) then $6.65 an hour a year later, is not all that much greater than the pay raises that occur naturally.

Simply finding full-time work, including jobs at or near the minimum wage, provides the poor with the means to escape poverty. Research by the Employment Policy Institute shows 47 percent of families living below the poverty line in 1997 managed to make it over the poverty line in 1998. The authors of that study concluded that "earnings from minimum wage work and the Earned Income Tax Credit both significantly reduced the number of working poor in the 1990s."[4]

Artificially raising wages will cut off this difficult but direct path to greater prosperity for many poor families and will delay the entry of other workers, including youth, into paid work by needlessly increasing the cost of unskilled labor. Employers will not be able to afford to hire as many unskilled workers and will respond by cutting back services or replacing workers with machinery.

Labor economists refer to the "elasticity" of demand for labor to describe the ratio of jobs gained or lost when wages change. Estimates of this "elasticity" vary, but the average estimate by labor economists is that for a 10 percent increase in the minimum wage, employment among those affected drops by 5 percent.[5] If the minimum wage is increased from $5.15 to $6.65 per hour, demand for unskilled labor could drop by as much as 15 percent in jobs that earn the minimum wage, resulting in the loss of hundreds of thousands of jobs and making it more difficult for poor families to take this escape route out of poverty.

One final thought about poverty. While it is natural to have sympathy for our fellow citizens who work at low-wage jobs and still live in poverty, we should remember that our notion of poverty is relative. Using U.S. Census data, Heritage Foundation scholars examined the living standards of poor Americans and found that the average poor American has a car, air conditioning, at least one color television along with cable or satellite TV, a home that is in decent condition and enough food in the refrigerator.[6] Poverty in America, especially for those who do not work, is less a matter of material deprivation than of emotional and spiritual loss, the pervading worry that comes from knowing that one is dependent on the arcane determinations of state and federal bureaucrats, and the loss of self-esteem that comes from knowing that one is not self-sufficient.

But for the working poor, this type of poverty is largely abolished. They are able to face the future with optimism and confidence, however modest their income, precisely because it is earned. They know they are contributing to the national economy and have taken control over their own lives.

Increasing the minimum wage will do little to improve the conditions of poor Americans. Relatively few of those workers who receive wages at or near the minimum are members of poor families. For those poor who are working, wage increases are substantial and come quickly as they accumulate job experience. Increasing the minimum wage will, however, eliminate entry-level jobs for unskilled workers, making it more difficult for those who want to work to find jobs.

There is no such thing as a dead-end job. Low-wage jobs provide the poor with an escape route from poverty. It would be a shame if in the name of helping the working poor, we made this escape route more difficult for them to follow.

Paul Kersey is a former labor research associate with the Mackinac Center for Public Policy, a research and educational institute headquartered in Midland, Mich. Permission to reprint in whole or in part is hereby granted, provided the author and his affiliation are cited.

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[1] Data tabulated using the March 2003 Current Population Survey.

[2] Robert Rector and Rea Hederman, "The Role of Parental Work in Child Poverty," Heritage Foundation Center for Data Analysis Report No. 03–01, January 27, 2003.

[3] William Even and David MacPherson, "Rising Above the Minimum Wage," Employment Policies Institute, January 2000.

[4] John Formby, John Bishop and Hoseong Kim, "The Economic Well Being of Low-Income Working Families," Employment Policies Institute, March 2002.

[5] Victor Fuchs, Alan Krueger and James Poterba, "Economists’ Views About Parameters, Values, and Policies: Survey Results in Labor and Public Economics," Journal of Economic Literature, Vol. 36, (September 1998) pp. 1387-1425.

[6] Robert Rector and Kirk Johnson, "Understanding Poverty in America," Heritage Foundation Backgrounder No. 1713, January 5, 2004.