The minimum wage legislation is an example of government intervention into the market economy due to a market failure. In this case the market failure was to not provide the workers with a level of income that meets health and decency levels. The government had to support the workers by telling the firm to set up a wage that would ensure this level of standards. It is difficult to say how efficient this legislation will be due to lack of statistics of the effects it will have on the economy.
The main effect, based on demand and supply theory that a minimum wage would have on the economy is that a rise in the wage should lead to a fall in employment. This can be seen in Diagram 1. The equilibrium wage rate was W1 and the employment was Qd1. However with an increase in the wage to Wmin the employment rate falls to Qd2. The supply of labour increases to Qs2 thus creating unemployment between Qd2 and Qs2. This is most likely to be involuntary unemployment since the people want to work but the firms do not want to hire them at such a high wage. However this under different market structures the effect of a minimum wage will be different.
A monopsonist market occurs when there are only a small amount of firms in an industry. Due to the small number of firms, they being the only purchasers of labour can determine the wage at which to hire their workers. If the workers are unwilling to work for that wage then their only choice is to move into another market. When choosing the wage rate the monopsonist firm must look at the marginal cost of labour. This is because it must pay all current employees the new wage. This can be seen in Diagram 2.
In the diagram above it can be seen that the equilibrium of a competitive market is defined by employment level of Qd1 and a wage of W1. The monopsonist firm will hire Q2 amount of workers. This is because it has to pay all workers the same wage and thus the marginal cost (MC) must be compared to the marginal revenue product (shown by the demand curve). Thus the new wage rate is Wm. If there is a minimum wage that is introduced by a union, the firm becomes a price taker. Thus if the wage is set at W1, then the market will be back to it’s equilibrium level and thus having both a higher employment wage rate than at the monopsonist levels. If however the union decides to increase the wage even higher then there will be a fall in employment as described in Diagram 1.
The minimum wage affects different employees in different ways. The main effects are on the people who are low skilled and have little or no education. The minimum wage legislation does not apply to managerial or executive positions. The low skilled labour force sees several effects. The first is the initial fall in demand for their labour. This brings about a need to receive a benefit from the government. The second might be the acceptance of a job that pays less than the minimum wage but is not registered. The worker does not face any prosecution and thus might willingly accept the lower wage since it is better than nothing. Another effect that a minimum wage has on low skilled workers might be migration. Since they cannot find a job in the local vicinity the workers might be forced to move to an area where labour is still demanded at the minimum wage. The worker might also change the industry or firm they work for. A low skill job such as sales assistant is similar in many different shops so a person that lost his or her job in one shop might be able to find another job in a different shop since they already have the basic skills.
The rate of the minimum wage is another major determinant in its effect on employment. The higher the rate is set above the equilibrium level the more people will be unemployed. It is difficult for the government to figure out which rate to set since different markets will have different rates before the national minimum rate is introduced and thus there will be different effects in the diverse markets.
There are several problems with introducing a minimum wage. The main two are that due to lack of previous experience it is difficult to predict the effects it will have on the economy and the second is that it will take a long time to determine the effects. The Second Report of the Low Pay Commission tried to access the effects after the first 9 months of the policy. Their main conclusion was to increase the wage showing that it is hard to predict the precise rate. Other findings included that the minimum wage benefited the vast majority of the employment population. The commission did say that it was still too early to access the full impact of the minimum wage and that the statistics used are not yet reliable.
The implication of the national minimum wage as suggested by the Low Pay Commission is that 1.9 million workers benefited from the minimum wage. They also stated that there was a decrease in the proportion of workers receiving less than minimum pay from 5% to 2%. This shows that there was no significant decrease in employment after the introduction of the minimum wage. However it still might be too early to see the full effects due to the time lag that follows an introduction of such a radical economic policy. The Low Pay Commission also suggested that there would not be a sudden change in the inflation rate due to producer’s anticipation of increased costs.
The National Minimum Wage that was introduced on April 1st 1999 had several effects on the UK economy. Although it helped many workers it is still too early to see by how much. It is also early to say what effect the NMW had on the inflation in the country. The Low Pay Commission’s conclusion was that the NMW was introduced successfully and that it should continue being used with slight alterations. It is difficult to say what the long term effect of the NWM will be but the most popular opinion is that it should be successful in what it was set out to achieve.
Bibliography:
C. Dillow. (March 2000). Minimum Wage Myths. Institute of Economic Affairs. Oxford: Blackwell Publishers.
C. Saget Is the Minimum Wage an Effective Tool to Promote Decent Work and Reduce Poverty? (2001) [WWW] (December 7th 2001)
D. Begg, S Fisher, R Dornbusch. (2000). Economics. 6th ed. Berkshire: McGraw-Hill Publishing Company.
Encyclopedia.com - Results for minimum wage (2001)
[WWW] (December 5th 2001)
Low Pay Commission The National Minimum Wage: First Report of the Low Pay Commission (CM 3976), June 1998, The Stationery Office
Low Pay Commission The National Minimum Wage: The Story So Far: Second Report of the Low Pay Commission (CM 4571), February 2000, The Stationery Office
R.G. Lipsey & K.A. Chrystal. (1999). Principles of Economics. 9th ed. Oxford: Oxford University Press.
