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ACCORDING to statements by the South African government the debate is over whether it will introduce a national minimum wage (NMW) in addition to the sectoral dispensations already in place. Not that we have had much of a debate on the merits or otherwise of such a policy and why it is imperative to adopt it at this point in time.
As I have commented in the past, the contrast in the enthusiasm and vigour with which the government pursues socio-political and redistributive measures and the sluggishness in addressing growth-enhancing reforms says a lot about its priorities.
It will be interesting to see whether the government’s new-found enthusiasm for reducing red tape to improve the business climate bears fruit soon. It is after all moving in the opposite direction by introducing new red tape that will come with the monitoring of employers’ compliance with the NMW legislation. It is also not yet clear whether the proposed NMW will be subject to a vigorous socio-economic impact analysis as has been promised with regard to all new regulatory proposals.
But then one should expect that any decision that is primarily politically motivated will not lend itself to rational debate. Among other things, politics is all about promoting group interests. Those in favour of the decision to introduce a NMW will be susceptible only to arguments and evidence in support of their position, while its opponents will likewise in true ideological fashion cling to their position.
Put differently, those in favour of minimum wages often call on empirical evidence, ambiguous as it may be, that casts doubt on whether they result in job losses, while those against rely on what they see as the indisputable theoretical logic of the market, viz. an increase in price results in a decrease in demand and the equilibrium quantity.
However, to quote Tito Boeri and Jan van Ours, “Minimum wages are one of the most well-studied policies. Yet both theory and empirical evidence are largely ambiguous on their disemployment effects.”
Trade-off of higher wages for job losses
In a recent paper by David Neumark and William Wascher, they review the many flaws in empirical research on the effect of minimum wages on employment, concluding that “the evidence still shows that minimum wages pose a trade-off of higher wages for some against job losses for others”.
In a similar overview, John Smitt comes to the conclusion that “The weight of that evidence points to little or no employment response to modest increases in the minimum wage. Probably the most important channel of adjustment is through reductions in labor turnover, which yield significant cost savings to employers”. So one is free to pick your preferred evidence according to your confirmation bias!
This is also true for South Africa where researchers have reached contrasting findings with regard to possible negative employment effects as a result of the introduction of a NMW, e.g. Seekings and Natrass (arguing for job losses) and Isaacs and Fine (arguing against job losses).
Perhaps the international research that is most relevant to South Africa is that of Harasztosi and Lindner on the effects of a 60% increase in the minimum wage in Hungary in 2001: they found that “ the higher minimum wage had a small negative effect on employment, and so the primary effect was pushing up wages. Firms in the manufacturing sector responded to the minimum wage by raising output prices. This evidence indicates that firms passed through the effect of the minimum wage to consumers.” Is this not how South African firms have responded to wage increases in excess of productivity growth in the past?
The debate regarding the merits of a minimum wage will therefore not be settled on the basis of empirical evidence. The pros and cons will rather have to be judged with reference to the specific conditions within which a minimum wage gets introduced in a specific country at a specific point in time.
In South Africa’s case the argument about a NMW is further clouded by frequent references to the elimination of the “apartheid wage gap”, the existence of a large number of working poor, extreme inequality, and the large gap between the remuneration of CEOs and low-paid workers. There is therefore an inclination to see the proposed NMW mainly as an instrument for promoting social justice by reducing inequality, although with the result of increasing the chances of minimum wages being set higher than their market-clearing level.
All that remains is for government, business and labour to agree on the level of the NMW, possible exemptions, and the relationship between the NMW and various sectoral minimums agreed on through collective bargaining. The obvious contradiction between a NMW and the youth wage subsidy also needs to be resolved.
Unemployed, small business won't have seat at the table
As usual the people that are the most severely impacted by the decision, viz. the unemployed and small businesses, will not have a seat at the table. However, bearing in mind that South Africa has an official unemployment rate of 25% (35% if discouraged work seekers are included), comprising mostly unskilled or low-skilled workers, it will be an almost impossible task not to set the NMW above the market-clearing wage.
Determining the level of the NMW is furthermore not a one-off exercise. To avoid future acrimony around inevitable increases (probably annually) in the NMW, it is advisable to depoliticise the revision of the level of the NMW by institutionalising the decision, e.g. along the lines of the Low Pay Commission in the UK.
So all that remains is to try to figure out what the consequences of the introduction of a NMW in South Africa in 2016 will be.
According to John Smitt there are 11 possible channels through which employers can adjust to an increase in minimum wages, viz.:
1. Reduction in hours worked
2. Reductions in non-wage benefits
3. Reductions in training
4. Changes in employment composition (‘upgrading’ the skill level of their workforce)
5. Higher prices
6. Improvements in efficiency
7. ‘Efficiency wage’ responses from workers (workers are motivated to work harder)
8. Wage compression (cutting earnings of higher-wage workers)
9. Reduction in profits
10. Increases in demand (minimum wage as stimulus)
11. Reduced turnover (of workers)
In essence, the preferable response for employers in reaction to the introduction of a NMW in excess of what they are currently paying is to raise the productivity of affected workers to a level that justifies the new, higher wage rate.
The first option in addressing this need is to adjust work processes, which will often entail replacing workers with capital, thus increasing the capital/worker ratio. Increased capital intensity will require improving the skills of the workforce through training, but the trainability of employees is dependent on the general skills they have been endowed with by the education system, which is a moot point in a South African context.
Large businesses employing hundreds if not thousands of employees and with relatively complex production processes will generally have greater opportunities to this effect than small businesses. The response from SMEs is more than likely to be a reduction in their permanent workforce with possibly greater use of temporary and pieceworkers.
Reallocation of labour
The biggest shortcoming in the debate is perhaps the focus on the short-term effects of the introduction of a NMW with little attention being paid to its implications for the future structural development of the economy. It is noteworthy that in the past countries have introduced a NMW with the explicit objective of encouraging labour and capital to move from low-productivity to high-productivity sectors (e.g. Norway) or moving up the value chain (e.g. Malaysia). To achieve such objectives of course requires a wider supporting policy environment, including a high level of labour mobility.
As Martin Sandbu writes in his Free Lunch economic briefing in the Financial Times of 9 March 2016, “We should note a number of things about the prospect of these mechanisms occurring. They all crucially rely on reallocation of labour and capital, which means that some companies or sectors expand while others contract. Even the within-firm substitution requires a greater investment in capital. But that means the economy more broadly must be conducive to expansion in the more productive industries.
That requires at least three things: a functional financial system that can fund the expanding businesses; sufficient demand growth for productive businesses to expand with confidence; and the ability of labour and capital to move easily between companies or sectors.”
It is questionable whether South Africa complies with all of these requirements, leaving aside the question of the desirability of an economy-wide structural shift from labour-intensive industries, especially those employing large numbers of low-skilled and unskilled workers, to more capital-intensive industries employing mostly highly skilled workers.
To further complicate matters we should heed the warning of Martin Ford expressed in his award-winning book on the future role of technology in economic activity, namely that “emerging industries will rarely, if ever, be highly labour-intensive. The threat to overall employment is that as creative destruction unfolds, the ‘destruction’ will fall primarily on labour-intensive businesses in traditional areas, while the ‘creation’ will generate new businesses and industries that simply don’t hire many people”.
The challenge for South Africa is therefore to successfully compete in old industries to claim a sufficient number of the globally available (but shrinking) job opportunities in these industries.
To conclude: Implementing a NMW policy in an economy that is faced with the task of creating employment for a vast army of unskilled and low-skilled unemployed people at a point in time when it is struggling to escape from the low-growth rut in which it finds itself is at best a risky experiment.
References
Balakrishnan, R.; Steinberg, C. and Syed, M.: The Elusive Quest for Inclusive Growth: Growth, Poverty, and Inequality in Asia. IMF Working Paper WP/13/152. June 2013.
Boeri, T. and Van Ours, J.: The Economics of Imperfect Labour Markets. Princeton University Press. 2013.
Den Haan, W.; Ellison, M.; Ilzrtski, E.; McMahon, M. and Reiss, R.: The UK’s new National Living Wage: Likely impact on employment, wages, and prices. VoxEU. 31 March 2016.
Ford, M.: The Rise of the Robots. Technology and the Threat of Mass Unemployment. Oneworld Publications. 2015.
Harasztosi, P. and Lindner, A.: Who Pays for the Mimimum Wage? December 2015.
Huang, Y.; Loungani, P. and Wang, G.: Minimum Wages and Firm Employment: Evidence from China. Federal Reserve Bank of Dallas. Working Paper no. 173. April 2014.
International Monetary Fund: Brazil. Selected Issues. IMF Country Report No. 15/122. May 2015.
Isaacs, G & Fine, B.: The national minimum wage debate: looking beyond a narrow focus on labour markets. Econ3x3, March 2015.
Klyuev, V.: Structural Transformation ? How Does Thailand Compare? IMF Working Paper WP/15/51. March 2015.
Moene, K.O. and Wallerstein, M.: The Scandinavian Model and Economic Development. World Bank Institute. February 2006.
Neumark, D. and Wascher, W.: Minimum Wages and Employment. IZA Discussion Papers, No. 2570. Institute for the Study of Labour. January 2007.
Neumark, D.; Salas, J.M.I. and Wascher, W.: Revisiting the Minimum Wage-Employment Debate: Throwing Out the Baby with the Bathwater? Working Paper 18681. National Bureau of Economic Research. January 2013.
Sandbu, M.: Go North, Young Man. Financial Times. 9 March 2016.
Sandbu, M.: Beyond the Minimum. Financial Times. 4 April 2016.
Schmitt, John: Why Does the Mimimum Wage Have No Discernible Effect on Employment? Center for Economic and Policy Research. February 2013.
Seekings, J & Nattrass, N.: What is at issue in the minimum wage debate? Econ3x3, January 2015.
