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September 28, 2018

From: Grant Bishop

To: Ministers of Labour and Employment

Date: September 28, 2018

Re: Is the minimum wage the best tool?

On Monday, Alberta will increase the province’s minimum wage to $15 per hour.  This past Wednesday , Ontario’s government announced a halt to the previous government’s minimum hike to $15 per hour.  This cross-provincial contrast returns minimum wage to the forefront of the policy debate.  Politics undoubtedly drive both governments’ decisions.  However, what is the evidence about the impacts of increasing minimum wages? All governments must consider carefully the economic implications of their intervention in labour markets.  If enhancing income security is the aim, is the minimum wage the best tool?

Much of the debate on minimum wages focuses around the extent of potential employment losses.  A simplified, classical view is that a minimum wage interferes with the bargaining between workers and firms for wages that reflect each worker’s productivity: since the regulated floor is higher than certain low-skilled workers would be paid in the unencumbered market, employers lay off – or simply do not hire – those workers.  Of course, real labour markets are more complex than this stylized picture, involving sets of “frictions” around matching workers to jobs and other channels for firms to adjust to a policy change.

Despite the theoretical prediction, the evidence for employment losses from minimum wage increases is somewhat mixed.  Various firm-level studies of minimum wage increases in US states (one of the most notable by Canadian David Card) have found no significant employment losses or reductions in hours.  Importantly, these studies focus on “natural experiments” around particular regions or industries (e.g., restaurants) and it may be a stretch to generalize these results to Canadian labour markets.

Indeed, evidence for minimum wage increases in Canada appears to more conclusively find significant job losses.  From these estimates (surveyed in a recent C.D. Howe Institute commentary by Joseph Marchand), a 10 percent increase in the minimum wage translates to losses ranging from roughly 2 percent to 8 percent of those employees working at the minimum wage.   Based on this range, Marchand calculates losses of roughly 26,000 jobs from Alberta’s 47-percent increase in minimum wages from $10.20 in 2015 to $15 in 2018.  Equivalent magnitudes for job losses are echoed in both a note by David Green for the Canadian Centre for Policy Alternatives and a recent Bank of Canada paper

Importantly, these represent losses against  “counterfactual” employment – that is, jobs in the unobserved state where there was no minimum wage increase – and may not show in statistical downward moves in the headline employment numbers.

In practice, firms may not lay off present workers; rather, they will seek to retain good workers but restrain future hiring.   Work by Pierre Brochu and David Green leveraging Canadian data from 1979 to 2008 illustrates that higher minimum wages reduce separation rates and correspondingly decrease firms’ hiring.  This result is consistent with “efficiency wage” hypothesis that higher wages encourage worker productivity.  Since finding good workers is costly, firms retain these workers.  But this creates winners and losers – likely among those most vulnerable: less desirable workers get left on the sidelines.

Moreover, if higher wages reduce turnover and boost productivity, the question remains, why would rational, profit-maximizing firm not simply increase wages on its own?  Additionally, although automation may boost employment overall, we face a major risk that a higher minimum wage will expedite digital rollouts to displace labour needs, induce greater offshoring or produce more “gig” labour outside formal employment contracts.  A 10 percent jump in the wage bill for those firms employing minimum wage workers is significant and firms do not lack for advice from management consultants on rationalizing labour costs.

So is a minimum wage hike the best tool for income security?  As Jack Mintz has argued, Alberta could have instead introduced an earned income tax credit of equal value funded from general revenues (similar to the federal WITB) at a rough cost of $300 million. Trevor Tombe and Blake Shaffer similarly suggest an expansion of the Alberta Child Benefit as a preferred alternative.  Two arguments make these preferable options: needs-tested targeting and less distortion to labour markets.  Recent work by Statistics Canada shows diverse profiles across minimum wage workers.  This underscores the importance of tailoring support to economic situation.

Under a minimum wage hike, the bill lands on the desk of particular employers – and dampens employment.  If enhancing income security is truly the aim, policymakers should look to targeted income support and spread the funding burden through a broader tax base.

Grant Bishop is Associate Director, Research at the C.D. Howe Institute.

To send a comment or leave feedback, email us at blog@cdhowe.org.

The views expressed here are those of the author. The C.D. Howe Institute does not take corporate positions on policy matters.