The government’s restaurant tipping crackdown is a worse idea than you think
4 May 2016
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Energy and Environment
Government and Institutions
Economic Theory
11 November 2024
Not content with setting the wages in future of up to 20 per cent of the private sector workforce through its National Living Wage, the government has now decided to clamp down on tipping practices in restaurants – opening up a new front in pay regulation.
The business secretary Sajid Javid wants steps taken to emphasise that service charges are voluntary for consumers, but also to ensure tips go directly to workers without employers making deductions. Though these regulations would conform to people’s expectations of what tipping should be, the diverse nature of the restaurant trade means that imposing these sorts of regulatory strait-jackets can have unintended consequences.
To see this, it’s worth considering the standard economic case for tipping, which can get around a number of problems potentially associated with hiring salaried staff. Most obviously, the practice dampens the financial risk of hiring, particularly for new employees where employers might have little information on likely competence. A lower fixed wage with more of the compensation dependent on performance relieves employer risk – through both encouraging the employee to perform better and lowering the fixed cost to the firm.
For similar reasons, it also overcomes what economists call “informational asymmetries”. It is difficult for a restaurant owner to really know both what the customer wants from a waiter and how that waiter interacts with customers, given the differing personalities and other character traits of individual staff members. Without the information for the employer to set appropriate wages for each member of staff, given their value to the firm and the differing tastes of customers, tipping can help provide differential remuneration for employees – with customers providing information directly.
But this sort of analysis of the economics of tipping also highlights why some restaurants might decide to pursue different strategies outside of the social norm that Javid is so keen on. In a certain small restaurant or a chain with established practices, for example, the desires of customers and the performance of staff are much more readily observable. It therefore might be logical to have fixed pay for employees and to absorb the social norm of the “service charge” into general company revenues. The firm may believe this is better for staff morale or retention.
Many restaurants employ a tronc system to distribute tips to different members of staff, often through formulae. These are always likely to be arbitrary. But in a bog standard restaurant with casual chefs, for example, it might make sense to have a greater proportion of tips going directly to the waiting staff than in a very high-end restaurant where people are primarily visiting for the cooking skills of the top chefs or the general experience. If it is not obvious which aspect of the restaurant experience has encouraged a generous tip, again this system might be better for morale. Imposing conformity between these restaurant types makes no sense.
Of course, it may be that staff think that in some instances the company is not passing on rewards for overall good performance and therefore “taking advantage” of them. But there are already market mechanisms for dealing with these issues. The business may gain a reputation for being an unfair place to work – affecting the quality of potential new hires. It can also be criticised for lack of clarity on whether the tip is discretionary. This is particularly true in a world of TripAdvisor and similar review sites. Customers likewise may seek to enforce the tipping social norm by raising the issue in public, causing the firm to change its business practices accordingly.
What’s not clear is why government intervention is necessary. In fact, for some, this new-found interventionism will no doubt be harmful. Restaurants which receive regularly high tips now may have adjusted wages upwards already. Enforcing that employers cannot deduct anything could actually just lower fixed pay for staff, which may be a less appropriate model for the business.
The assumption that tipping should go directly to your waiter is a social norm. Social norms and trust are indeed important in market economies. But social norms arise from the bottom up, and attempting to impose them by law irrespective of the nature of the restaurant is an example of yet more unnecessary government regulation.
Ryan Bourne is the IEA’s Head of Public Policy, and Director of the Paragon Initiative. This article was first published in City AM.
The business secretary Sajid Javid wants steps taken to emphasise that service charges are voluntary for consumers, but also to ensure tips go directly to workers without employers making deductions. Though these regulations would conform to people’s expectations of what tipping should be, the diverse nature of the restaurant trade means that imposing these sorts of regulatory strait-jackets can have unintended consequences.
To see this, it’s worth considering the standard economic case for tipping, which can get around a number of problems potentially associated with hiring salaried staff. Most obviously, the practice dampens the financial risk of hiring, particularly for new employees where employers might have little information on likely competence. A lower fixed wage with more of the compensation dependent on performance relieves employer risk – through both encouraging the employee to perform better and lowering the fixed cost to the firm.
For similar reasons, it also overcomes what economists call “informational asymmetries”. It is difficult for a restaurant owner to really know both what the customer wants from a waiter and how that waiter interacts with customers, given the differing personalities and other character traits of individual staff members. Without the information for the employer to set appropriate wages for each member of staff, given their value to the firm and the differing tastes of customers, tipping can help provide differential remuneration for employees – with customers providing information directly.
But this sort of analysis of the economics of tipping also highlights why some restaurants might decide to pursue different strategies outside of the social norm that Javid is so keen on. In a certain small restaurant or a chain with established practices, for example, the desires of customers and the performance of staff are much more readily observable. It therefore might be logical to have fixed pay for employees and to absorb the social norm of the “service charge” into general company revenues. The firm may believe this is better for staff morale or retention.
Many restaurants employ a tronc system to distribute tips to different members of staff, often through formulae. These are always likely to be arbitrary. But in a bog standard restaurant with casual chefs, for example, it might make sense to have a greater proportion of tips going directly to the waiting staff than in a very high-end restaurant where people are primarily visiting for the cooking skills of the top chefs or the general experience. If it is not obvious which aspect of the restaurant experience has encouraged a generous tip, again this system might be better for morale. Imposing conformity between these restaurant types makes no sense.
Of course, it may be that staff think that in some instances the company is not passing on rewards for overall good performance and therefore “taking advantage” of them. But there are already market mechanisms for dealing with these issues. The business may gain a reputation for being an unfair place to work – affecting the quality of potential new hires. It can also be criticised for lack of clarity on whether the tip is discretionary. This is particularly true in a world of TripAdvisor and similar review sites. Customers likewise may seek to enforce the tipping social norm by raising the issue in public, causing the firm to change its business practices accordingly.
What’s not clear is why government intervention is necessary. In fact, for some, this new-found interventionism will no doubt be harmful. Restaurants which receive regularly high tips now may have adjusted wages upwards already. Enforcing that employers cannot deduct anything could actually just lower fixed pay for staff, which may be a less appropriate model for the business.
The assumption that tipping should go directly to your waiter is a social norm. Social norms and trust are indeed important in market economies. But social norms arise from the bottom up, and attempting to impose them by law irrespective of the nature of the restaurant is an example of yet more unnecessary government regulation.
Ryan Bourne is the IEA’s Head of Public Policy, and Director of the Paragon Initiative. This article was first published in City AM.
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Ryan, I think you can’t isolate tipping from all the other pressures facing hospitality managers today. Unfortunately the failure statistics for restaurants indicate that those that get a handle on all of these factors and manage professionally have a better chance of being in business after 3 years, depressingly only 40% make it. It wasn’t tips that brought them down, it was poor strategic and day to day management, poor marketing, indifferent recruitment, inadequate training, rising rents, lack of a competitive offer and so on.