Temas Públicos
Nº 833 -
www.lyd.org- Email:[email protected]
August 17, 2007
ISSN 0717-1528
Minimum salary of $250 thousand:
Let us not worsen even further
the income distribution!
During the last weeks there has been an intense debate about the so called minimum ethical wage. Within this context several options
have been put forward; one of them, which has
attracted special attention, suggested that the
minimum wage should be 250 thousand pesos
a month. In the light of available empirical evidence it is possible to evaluate the likely effects that such a policy could
generate in the labor market.
Economic
theory
points out that fixing salaries
above the level freely determined by the market, makes
the use of labor costlier for
businesses. This would lead
them to reduce the number of
workers employed. At the
same time more people
would be available to work at
this higher salary, so this
measure would create greater unemployment.
would be left unemployed and thus their income would be reduced.
Likewise it has been mistakenly stated that an
increase in the minimum wage will improve the
economic situation of those employees belonging to the poorer segments of the population.
It has been pointed out that estimates on the
effect of the minimum salary over
employment are low, implying
that its main effect is an increase
With the Dinardo
in income for low paid workers
methodology and taking as
basis the Casen polls’ data for belonging to poor families. How2000 and 2003, it is possible to ever the relation between the low
impact of the minimum wage on
estimate that, under certain
employment, and its effect on the
assumptions, an increase in
lower income families it is not as
the minimum wage to $250
evident as is thought.
thousand would have a
negative effect on the
distribution of salaries and
consequently over income
distribution.
Below we present some
elements which should be taken
into account in the public debate.
PYMES and big
businesses
The increase in the
minimum salary, when it is not associated to
increases in productivity, hurts the less skilled
and less productive workers as firms faced with
this measure would have no other option than
to fire them.
On the other hand the net effect over
the total income of the workers is uncertain because while some workers who have not lost
their jobs would increase their income, others
Using microeconomic data we can test
the hypothesis that the wage rigidity affecting
the labor market has been caused by the constant increases in the minimum wage, which
have exceeded the increases in real salaries
since 1993 (see Table N° 1). This has especially affected the PYMES (Small and Medium
Sized Firms) -which generate over 80% of the
national employment- possibility supported by
1
Table 1
Base 100 = 1993
Chart N° 1. Real Remunarations and Minimum Wage Evolution
Index 1993-2006)
200
spond to real economic conditions and productivity levels,
could generate more distortions than benefits and worsen
the conditions which it wants to
improve.
The Level of the Minimum Wage
150
100
One way to evaluate how restrictive is the minimum wage,
0
is to compare its level with the
1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
median salary (the salary
which divides the wage earners
Real Remunerations
Minimum Wage
in two equal groups). This exercise is based in the idea that
Source: INE, Banco Central.
if there are differences in the
qualifications of workers (and
the differences in the hiring of workers dependin Chile they do exist), the smaller the wage
ing on the sizes of firms. In effect, in estimates
gap into which these differences must be acof the demand for labor1 the ratio between the
commodated, the more likely it is that the emminimum wage and the average salary is cruployment of the less qualified will be affected.
cial in determining the level of employment of
In comparative terms the current minithe PYMES, but not of firms with over 50 work2
mum wage in Chile is relatively high. Last year
ers (Aravena, 2004) .
it was equal to 58% of the median
If we introduce the
wage. This is a number close to
size of the business as a
that of France (60%), which tovariable in the estimation of If we introduce the size of the gether with Belgium, are the counbusiness as a variable in the tries with the highest minimum
the demand for labor, we
can observe that the estimation of the demand for salaries in the developed world.
PYMES
present
higher labor, we can observe that the Besides, this rate is substantially
rates of net employment de- PYMES present higher rates of higher that the one in countries
struction, being the main net employment destruction, such as Spain (27%), Mexico
being the main cause of
cause of employment insta(34%), Canada (39%) and the
employment
instability due to United States (32%). That is why a
bility due to their high rate of
their high rate of labor
labor reassignment.
minimum salary of around 60% of
reassignment.
the median wage is, comparativeIt can be concluded that,
ly, too high.
given that the PYMES have
borne, for the most part, the increasing
50
Minimum wage, poverty and
income inequality
wage rigidity caused by the constant increases
of the minimum wage over real salaries, and
the higher labor costs resulting from the reform
of the year 2000 it can be expected that, a level of wages as suggested, which does not re-
To illustrate the relation that exists between
the minimum wage and poverty, it is assumed
that the most suitable estimate for the elasticity
2
of labor with respect to the minimum wage is
–0,13.
effects from the point of view of the distribution
of salaries. On one hand, there is an increase
in inequality associated with the loss of jobs6.
Neumark and Wascher (1995) calculatOn the other hand, this policy also generates a
ed the effect of a minimum wage on poverty,
decrease in inequality associated to the deusing household income data between 1986
crease in salary gaps. Taking as basis the
and 1995. They used household information
CASEN poll data for 2000 and 2003, the first
during two consecutive years observing transieffect is shown to be significantly larger than
tions away from and towards poverty or bethe second. Therefore it is possible to estimate,
tween two parts of the income distribution.
under certain assumptions, that an increase of
Each household is classified in terms of the
the minimum salary would have a negative efratio total household income –
fect over the salary distribution
poverty line. The effect of the
(and also over income distribuminimum wage led them to extion).
In comparative terms the
amine how the distribution of
current minimum salary in
this indicator changes when the
Conclusions
Chile is relatively high. Last
minimum wage increases in a
year it was equal to 58% of the
specific year4. Then, they calcusalary median. This is a
It has been pointed out
late the difference between the
percentage closer to that of
that a suggested minimum
changes in the distribution with
France (60%) which together wage of 250 thousand pesos
and without an increase of the with Belgium are the countries
would benefit the poorer
minimum wage. For example, if
with the highest minimum
households
and
therefore
the proportion of households
salaries in the developed
would be a suitable instrument
under the poverty line increasworld. Besides, this rate is
for improving the distribution of
es by 0,02 when the minimum substantially higher than the
income. However there exists
salary does not change, and by one observed in countries such
evidence which proves the op0,01 when it increases, the es- as Spain (27%), Mexico (34%),
posite. This policy helps some
timated effect of an increase of Canada (39%) and the United
households to get out from
the minimum salary in this proStates (32%).
poverty, but the unemployment
portion would be 0,01.
associated with a higher minimum wage means that some
According to the Neumark
households will end up in povet al. study it is estimated that
erty.
Evidence
suggests
that the last effect is
an increase in the minimum wage in the United
greater
than
the
first
one
and
consequently the
States increased the proportion of households
net
effect
of
the
minimum
wage
is an increase
–their income is 1,0 to 1,5 times the poverty
in
the
proportion
of
poor
households.
line– under the poverty line. In the same way
these results show that the minimum wage reIt is important to remember that nowaduces the proportion of households with an indays there are transfers to the poorer housecome between 1,5 and 3 times the poverty line.
holds by means of monetary subsidies, educaLastly it shows that it would not have any effect
tion and health care. According to the CASEN
over those which are over 3 times the poverty
2006, these subsidies amount to an average of
line (due mainly to the fact that these are
128 and 109 thousand pesos for the first and
households in which the low paid workers consecond lowest income brackets (20% poorest
tribute with very little to the household income).
households), respectively. This way the average income of the first and second decile
If, in the same way we apply the methodology
5
household would reach 75 and 179 thousand
of Dinardo et al (1996) we can show that an
pesos per month, respectively. Thus, a subincrease in the minimum wage generates two
3
stantial part of the households, potential beneficiaries of the proposed minimum ethic salary,
have already reached the suggested income
level.
In this sense it is important to stress that salaries must be defined by the market in relation
to the productivity of the workforce, because
this way the creation of jobs is not affected. It
is not enough to improve the conditions of
those already employed; one should create a
scenario to generate more opportunities for the
creation of new jobs.
It could also be said that the PYMES
have borne the greater part of the increasing
wage rigidity caused by the constant increases
in the minimum wage over the increases in real
salaries. This has generated greater net destruction and a higher reassignment of employment, and consequently more instability.
1 In estimating the demand for labor, not only the
real average salary is used but also the ratio between the
minimum salary and the average salary, so as to quantify
the effect of the real minimum wage on the economy. The
result is that the effect of the minimum wage over the
demand for labor in the businesses with under 50 workers
is significantly different from zero and economically relevant, since its elasticity is more than –0.1.
2 ‘Creación, Destrucción y Reasignación de Empleos en Chile, según tamaño de empresas’ Serie de
Investigación, Ministerio del Trabajo y Previsión Social.
3 It is argued that this elasticity is relatively low,
and therefore many conclude that raising the minimum
wage is a suitable policy.
4 This requires applying an experimental design
which considers a control group to distinguish the change
in the indicator for reasons other than the minimum wage.
5 ‘Labor Market Institutions and the Distribution of
Wages, 1973-1992: A Semiparametric Approach’ Econometrica, Vol. 64, No. 5.
6 Assuming a conservative value for the elasticity
of demand.
4