Chancellor of the Exchequer, George Osborne, ended his budget speech to Parliament yesterday with what has come to be the customary clever twist. Having told MPs he’d be removing or reducing tax credits from several million ‘hard working families’ he sweetened the pill by announcing a big hike in the statutory national minimum wage for employees aged 25 and over, which will rise to £7.20 per hour from April next year and to £9 per hour by 2020, thereby forcing employers to cough up extra cash in order to make up the cut in the taxpayer subsidy to low paid employment.
Moreover, by rebranding the enhanced wage the ‘National Living Wage’ he not only disguised the fact that for many employees the guaranteed wage hike will be smaller than the tax credit cut, leaving them worse off, but also wrong-footed potential critics who find it hard to oppose the language of the Living Wage even though Mr Osborne’s version is a lot less generous than the figure campaigners calculate individuals need to cover the basic cost of living. This is currently estimated at £7.85 per hour, or £9.15 in London where living costs are higher, albeit both these figures will rise considerably once the effect of tax credit cuts are taken into account. Living Wage campaigners have thus at one and the same time had to welcome the Chancellor’s move, question it for not going far enough, and been left having to persuade employers who might otherwise have decided to opt for the full fat Living Wage not to settle for Mr Osborne’s Living Wage Lite.
Consequently, the main voices of opposition to the Chancellor’s belief that ‘Britain needs a pay rise’ have so far come from sections of the business community who appear happy to accept the austerity rhetoric of ‘all in this together’ if this means mass downsizing of the public sector but not if their own finances are put on the line.
To be fair, not all business organisations are complaining and even those that are have been fairly measured in their response to a government whose ideological stance they in general support. Contrast this with what was being said only a few months ago when most of these same bodies declared the Labour Party ‘anti-business’ for advocating an £8 per hour national minimum wage by 2020. Nonetheless, the CBI still considers Mr Osborne’s pay plan ‘a gamble’ which might cost jobs and thinks the jury is out on the wisdom of his move. So just how much of a gamble is the Chancellor taking?
A lot depends on whether pay at the bottom end of the labour market is determined purely by the interaction of demand for and supply of workers of given productivity or instead to some extent reflects a power imbalance between employers and individuals. If the former conditions exist employers are price (i.e. wage) takers in the labour market – which increases the risk to jobs from a high statutory minimum wage – if the latter, employers are price makers, in which case there is less risk to jobs.
It’s not clear whether the Chancellor’s decision to introduce the National Living Wage is based on some such assessment of the workings of the labour market but he does say he has been influenced by the findings of an independent commission set up in 2013 by the Resolution Foundation think tank to look into the future of the national minimum wage and the role of the Low Pay Commission (LPC) under the chairmanship of Sir George Bain, who was first Chair of the LPC when it was formed in the late 1990s. The commission published its detailed recommendations in March 2014 (and here, as a member of the commission, I should declare an interest).
After an extensive review of available evidence the Resolution Foundation commission concluded that there was a strong case for government to ask the LPC to be more ambitious in its approach to raising the minimum wage and it now appears that the Chancellor agrees. This doesn’t of course mean that one can take a gung-ho approach to the minimum wage, nor indeed that politicians should from now on feel free to raise the minimum without reference to the LPC (a fear expressed by some in the past 24 hours, though I think the Chancellor’s actual intention is in fact to enhance the LPC’s remit). But regardless of this my view is that any risk to jobs from the National Living Wage (NLW) at the level proposed by the Chancellor is minimal, although the policy does raise a variety of attendant considerations.
In keeping with the consensus of econometric analysis, the employment impact of the NLW as measured by jobs is likely to be close to zero. This is mainly because the NLW does not cover young workers (i.e. under 25s), the group most adversely affected by high minimum wages. The initial estimate of the Office for Budget Responsibility (OBR) thus suggests a negative employment impact of around 60,000 – tiny in a UK labour market of 33 million people which is currently creating jobs at a very fast rate - and a 0.1 percentage point increase in the estimated structural unemployment rate. Jobs at greatest risk are those in sectors with the highest incidence of low paid workers – in particular retail, hospitality and care – while over 25s may lose out relative to younger workers (a potentially beneficial job displacement effect given the high rate of youth unemployment).
It is possible, indeed likely, that employers will adjust to the NLW by cutting hours of work instead of, or in addition to, cutting jobs, which for those affected will to some extent offset the effect of a higher hourly wage on people’s weekly or annual earnings. The other adjustment alternative, raising labour productivity at given hours so that the NLW ‘pays for itself’ sounds good in theory but rarely shows up in econometric evidence.
This effect of minimum wages on hours is very difficult to assess (the OBR reckons the NLW will reduce hours worked in the economy by 4 million per week) but I think a big potential concern is that the NLW might act as a further incentive to employers to increase their use of zero-hours contracts – which are already very prevalent in sectors where the NLW will bite hardest - in order to minimise the impact on total labour costs. Such a perverse effect would flout the spirit of the new NLW but is an outcome one might expect in a lightly regulated labour market where it remains easy for employers who so wish to hire workers on the cheap whatever the level of the legal minimum wage.