Labour Market

The new Living Wage consensus is still problematic

A lot has been happening on the minimum wage front recently.

This week the Living Wage Foundation published its new rates: £10.75 per hour for London, £9.30 for the rest of the UK. The LWF is a campaigning body which accredits around 6,000 businesses and other organisations voluntarily paying an hourly rate, higher than the legal minimum, said to reflect the cost of a decent living for somebody working full-time. The rate is set using a combination of statistical analysis of low pay and the findings of focus groups on acceptable living standards.

The Living Wage Foundation’s campaign has been so successful in shifting the terms of the minimum wage debate in the UK that it may well soon go the way of the Anti-Corn Law League after the repeal of the Corn Laws. Both major parties are now committed to something approaching the LWF’s targets.

After years of hostility to the principle of governments setting wages, the Conservatives moved to accept New Labour’s National Minimum Wage, first introduced in 1998. They then performed one of the party’s occasional gob-smacking U-turns when George Osborne decided to introduce a National Living Wage in 2015. The NLW is a higher minimum for those 25 and over, scheduled to reach 60% of median hourly earnings next year.

But this was not enough. Philip Hammond wanted to take the National Living Wage further, and commissioned an American academic, Arindrajit Dube, to explore the case for further increases in the adult minimum. Then – keep up – Sajid Javid, at September’s Conservative conference, pledged to increase the NLW to £10.50 an hour (from its current £8.21) by 2024, an increase of 27%. He also announced that the rate would now apply to 21-24 year-olds. The Conservatives claim that this will mean “the end of low pay“.

This grabbed the headlines from the Labour Party, which had previously promised £10 an hour. However Jeremy Corbyn has also promised to extend this hourly rate to all workers, even those aged 16 who are currently only entitled to £4.35 an hour (or even less if they are apprentices). Labour also seemingly plans to abandon the Low Pay Commission, which has advised governments on minimum wages since the National Minimum Wage was introduced under Tony Blair’s government. Instead it intends to set up a “Living Wage Review Body” which will apply the methodology employed by the Living Wage Campaign to assess appropriate minimum pay.

This is just the latest snub to the Low Pay Commission, a widely-respected body which has produced or commissioned high-quality research and offered cautious and broadly sensible advice to governments for over twenty years. Mr Osborne notoriously failed to consult the LPC before introducing the National Living Wage. Mr Hammond’s appointment of Arin Dube to report on pushing it up was, as I pointed out at the time, another brush-off to the LPC, intended to provide an academic fig-leaf for a bit of naked populism. It was rather like asking Nigel Farage to produce an objective analysis of the case for leaving the European Union.

That maybe a bit unfair. Professor Dube has now completed his review and it was published last week. It is an interesting survey of research on minimum wages, particularly in the United States where there has been much more variability in wage-setting. There is a federal minimum and many different state and city minima, so there is much more evidence than there is for the UK, and over a longer period. Professor Dube summarises the vast range of academic literature very neatly, and his exposition of the methodology used in newer studies is particularly clear. I shall use it with students. Nevertheless he reaches a predictable conclusion, that minimum wages appear to do little harm. Cost increases as a result of minimum wages seem to be absorbed through reduced profits or higher prices, though there may also have been some productivity gains. The stage is set, therefore, for further increases in state-determined pay.

He has to admit, however, that the scale of increases proposed at the moment is unprecedented and cautions that wages cannot be pushed up without limit.

Professor Dube’s report came out to little fanfare. Even less attention was paid to two publications from the Low Pay Commission which were published at the same time as his report.

In the first of these, the LPC offers its advice on the future trajectory of the National Living Wage. It points out that politicians’ promises to “end low pay” cannot be met simply by putting up the minimum hourly rate. “This is not the same as raising an individual’s total, weekly, monthly or annual salary” as most minimum-wage workers are working part-time. Still less does the NLW necessarily raise total household income and relieve poverty. The LPC points out that many low-paid workers live in affluent households. Moreover what poorer households gain in increased pay may be eroded by income tax, national insurance contributions and reductions in in-work benefits.

This report also suggests that a proposed new target of two-thirds of median hourly earnings, which would be amongst the highest minima in the world, could be “very stretching” for businesses in low-paying sectors. These include businesses such as small shops and restaurants where Professor Dube’s get-outs – higher prices, lower profits and productivity increases – are likely to be difficult to sustain.

The second LPC report is the result of a two-year review of the Youth Rates of the National Minimum Wage. While the report accepts the case for lowering the coverage of the National Living Wage to 21-year-olds, it suggests that this be done in stages (a recommendation the government appears to have accepted). It is not convinced that there should be any change in the rate structure below the age of 21. The LPC points out that abandoning the youth rates, as Labour proposes, would mean a very large increase in the “bite” of the minimum – the proportion it bears to median earnings for the age group – and could well have significant disemployment effects.

Both the Low Pay Commission reports and that by Arin Dube express concern that wage-setters might “overshoot”, pitching minimum wages too high and creating unemployment. As it will be very difficult to reduce rates once set, any reduction in job destruction would have to take place through holding nominal wage constant and allowing them to fall as a result of inflation. Professor Dube suggests that this could happen quite quickly, meaning little permanent damage: within two years, perhaps. I am much less sanguine about this. I think governments will find it difficult to hold the NLW and the other minima constant, and the process of erosion could take three or four years. In this sort of period, many new labour market entrants might find it difficult to get jobs, and we know that people in that position are permanently “scarred” – that is, their lifetime earnings profile never recovers from a poor start.

Another issue, touched on but not discussed in detail in all three of these reports, is the regional dimension of low pay. Concentrations of low pay vary considerably around the UK, and this is reflected in the bite of the minimum in different regions (and nations).

My own calculations suggest that the NLW is currently (April this year) 69% of median gross hourly earnings in Northern Ireland, 68% in the East Midlands, 67% in Wales – but only 46% in London. Neither Professor Dube nor the LPC nor our vote-seeking political leaders pay much attention to the view that prudence suggests regional or national minima rather than one rate across the whole of the UK. In that respect at least the Living Wage Campaign is still an important independent voice as its cost-of-living approach does argue sensibly for a different rate in London than outside.

Ryan Bourne and I have previously argued for variation in minima between regions and nations: separate rates for Wales, Northern Ireland, Scotland, London and the rest of the UK. Despite the current relentless push to higher minima, I still think this is something to keep in the policy-makers’ arsenal.

In any case, we will need to keep a very careful watch on the effects of the political parties’ belief that pay can be permanently pushed up by government fiat without damaging consequences. It could all end in tears sooner rather than later.


Editorial and Research Fellow

Len Shackleton is an Editorial and Research Fellow at the IEA and Professor of Economics at the University of Buckingham. He was previously Dean of the Royal Docks Business School at the University of East London and prior to that was Dean of the Westminster Business School. He has also taught at Queen Mary, University of London and worked as an economist in the Civil Service. His research interests are primarily in the economics of labour markets. He has worked with many think tanks, most closely with the Institute of Economic Affairs, where he is an Economics Fellow. He edits the journal Economic Affairs, which is co-published by the IEA and the University of Buckingham.

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