Nova workboard

a blog from young economists at Nova SBE

Minimum wage – Helpful or Harmful?

Recently in Portugal there has been considerable debate concerning a possible increase of the minimum wage. Since decades, economists have been arguing about the real impact of such an increase on unemployment and on the welfare of families.

Supporters of the minimum wage say it protects employees from exploitation and allows them to afford the basic necessities of life. Moreover it also forces businesses to be more efficient since employees become more productive. On the other hand, opponents of the minimum wage say it establishes price floors on wages, which leads to a dead weight loss in the economy meaning that inefficiencies exist. In this case, the minimum wage might force businesses to hire fewer employees, thus increasing unemployment and poverty.

A higher wage does not necessarily mean a higher income, as the number of working hours could go down after an increase in the minimum wage. Even if wages go up, families might end up worse than before when child benefits or financial supports for families are cut. Likewise, increased wages can leave workers worse off than before when non-monetary benefits like free lunch for example are cut.

The impact of a minimum wage increase depends very much on the composition of the labour market, more precisely on the income gap. In an economy that has a relatively small income gap because the “low wage” sector’s remuneration is already quite high compared to other countries, a minimum wage increase would have different effects on employment compared to the same increase in another economy where the low wage sector is quite big and the income gap high. What most models do not consider is the potential improvement in efficiency and productivity of each worker following the increase of the minimum wage. This ultimately is beneficial for firms as they have more productive and satisfied workers who enjoy working for the company, thus reducing employee turnover and its associated costs.

Let us take the example of Switzerland and Singapore, where there is no minimum wage. This allows employers to freely set the wages based on the productivity of their employees. Maybe this is the reason why these countries are among the ones where it is considered best to do business. The truth is that countries with low or no minimum wages are prosperous and growing.

Meanwhile, countries which have high minimum wages are less productive because unskilled workers are paid the minimum wage regardless of their productivity. What can we deduce from this? No rational entrepreneur would start a business in such countries. The problem is that the average entrepreneur is too uninformed or too lazy to start a business abroad, knowing that his or her government keeps on paying unproductive and unmotivated workers just to show up.

Although the debate about the minimum wage and its effects on welfare is mostly held by economists, it is ultimately the politicians who decide. This necessarily raises the question by which motivations these decisions are driven. Is there a potential conflict of interests?

Politicians usually do not know a lot about economics and need to rely on external advice in economic policy issues. This advice often comes in the form of studies published by the so-called economic think tanks, which have a large influence on the public opinion. Although most of these think tanks claim to be independent, it becomes quite obvious after a little research that many of the well-known think tanks are funded by groups of stakeholders that share similar interests on a certain issue.

Especially the debate on the minimum wage has led to a severe competition between think tanks on whether its effect is beneficial for the economy or not. Unsurprisingly, many think tanks belonging to the left-wing argue in favour of the introduction or the increase of the already existing minimum wage. On the other hand, more conservative oriented think tanks stress on the potential nefarious effects of the minimum wage. Of course it seems obvious that left-wingers support low-wage workers and sympathize with unions, while right-wingers tend to rather protect big companies’ and high-earning employees’ interests.

Afonso Queiroz Aguiar



Author: studentnovasbe

Master student in Nova Sbe

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