Minimum wage increase: bone or bane?

There are fairer and more effective ways to improve the lives of our lowest earners, write Helen Roberts and Dennis Wesselbaum.

Last week up to 175,500 New Zealanders saw a 6 per cent increase in their earnings, with the rise in the minimum wage from $18.90 to $20 an hour. At the individual level an employee working 40 hours a week would see an increase of $44 in their gross pay ($2288 annually) which, after tax and KiwiSaver contributions, equates to a difference of $34.54 weekly ($1796.08 annually) in their take-home pay. Comparably, the median and mean worker pay levels in 2020 were $56,000 and $67,000, respectively, while the minimum wage is $41,600.

On the surface this is a significant rise and, given that inflation is currently about 1.4 per cent, should provide more disposable income for these individuals. Whether it substantially affects worker wellbeing remains to be seen.

To evaluate the effects of minimum wage changes, we weigh costs against benefits. The benefit to the individual is a higher wage that enables more consumption and/or saving.

Paying staff more may encourage organisations to support and retain staff so as to exploit their investment, but research doesn’t yet support this argument. There are also potential costs.

Minimum wage increases have been linked to reduced working hours, reduction in staffing levels, and hiring freezes, leaving some employees worse off. Increasing the minimum wage may increase inflation or the costs of specific goods or services that will impact the individual in real terms.

Research shows that minimum wage increases do not motivate employees to perform better, and that wage increases not related to merit do not have a significant impact on productivity.

We would argue the money could potentially be better spent in developing talent in organisations and giving those with the skills and ability the opportunity to progress through a company. This is likely to have stronger productivity impacts, particularly in small and medium-sized enterprises.

Research from both the US and the UK demonstrates that minimum wage rises can actually have a detrimental impact on those employees’ health. We argue that minimum wage increases reduce the likelihood of a merit-related pay increase, which can lead to demotivation.

Encouraging companies to introduce more long-term incentives such as profitsharing linked to key performance indicators (common in large companies such as the Tesco supermarket chain in the UK) is an alternate long-term solution.

Organisations should explore opportunities for employees to share in a firm’s wealth by writing employment contracts that include options to become a shareholder or performance incentives that are linked to long-term performance metrics. These build employee commitment that encourages long-term growth and profitability, and the benefits of higher productivity are shared across the workplace.

An increased minimum wage also leads to a dilemma for employers. Do they lift everyone’s pay by $1.10 an hour, or do they reduce the relative pay gap between those with different skill levels?

The former, although ideal, will escalate the wage bill; the latter is likely to demotivate more skilled employees. Neither is desirable for employers.

These adverse effects of minimum wage increases could be particularly strong in an economy where economic activity is already lower than usual, as we are seeing during the Covid-19 recession.

The New Zealand economy contracted by 2.9 per cent in 2020 and faces uncertainty from various factors such as the Government’s vaccination strategy, border restrictions, the economic recovery in our trading partners, and other proposed labour market policy changes (eg fair pay agreements).

Increasing costs for firms which already face lower demand for products and services could lead to more unemployment and more firms failing.

Increasing firms’ costs in a fragile state of recovery cannot be considered as optimal timing and could deepen the recession and hinder the recovery.

We see a role for the government. Small business owners everywhere continue to ask why organisations must be the ones to support increases in the take-home pay of employees.

Individual tax bands have not changed since 2010. Many other countries change these annually and have tax-free bands for the lowest earners.

Maybe the Government should review its role in improving the lives of the lowest paid rather than demanding improvements to minimum wage income earners that severely impact small, often vulnerable, firms detrimentally.

Dr Helen Roberts (accountancy) and Dr Dennis Wesselbaum (economics) are at the Otago Business School, University of Otago.