A minimum wage is a legal minimum for workers. It means workers are guaranteed a certain hourly pay helping to reduce relative poverty. However, a minimum wage could have potential disadvantages.
1. Unemployment. If labour markets are competitive a minimum wage could cause unemployment because firms will demand less labour, and higher wages may encourage more workers to supply their labour.
Firms in labour intensive industries will be most affected. For example, hairdressers and cleaning companies will see a proportionately bigger increase in their wage bill.
Diagram of Minimum Wage
- In the above diagram the NMW (Wtu) has caused unemployment of Q1 –Q2
2. Cost Push Inflation. A minimum wages can cause cost push inflation. This is because firms face an increase in costs which are likely to be passed on to consumers. This is even more likely if wage differentials are maintained.
3. Black Market. A minimum wage may increase the number of people working on the black market so firms can avoid paying the legal minimum.
4. Poorest don’t benefit. A limitation of the minimum wage is that it doesn’t increase the incomes of the lowest income groups. This is because the poorest have to rely on benefits and are therefore not affected by minimum wages.
5. Limited Impact on Relative Poverty. Many who benefit from the minimum wage are second income earners and therefore the household is unlikely to be below the poverty line. A household with a single income earner just above the min wage is likely to be relatively poorer. But, they will not benefit from the minimum wage.
See also: Advantages of Minimum Wages
Evaluation of Min Wages
- The effect of a min wage on unemployment is uncertain, the structure of the labour market is very important. E.g. if the labour market is a monopsony, a minimum wage may not cause unemployment.
- Empirical evidence from the US and the UK suggests that a moderate increase in the minimum wage doesn’t cause a fall in employment. Therefore the key question is how high the minimum wage can rise before causing unemployment.
- The impact of a minimum wage wage differentials is important. For example, skilled workers just above the minimum wage may feel they deserve more. However, increasing the minimum wage tends to have limited impacts on wage differentials.
- There may be a good case for a regional minimum wage because actual wages tend to be lower in the north than the south. In London, very few workers benefit from the minimum wage and in this region the minimum wage could increase.