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Suppose the minimum wage increases to \$$x$. Is there any evidence on the effect (if any) this is likely to have upon the wage profile of workers higher in the hierarchy, who are already paid more than \$$x$?

My question is inspired by the following comment from the Financial Times (paywalled link):

As an employer with an annual payroll of around £650k pa the impact of the introduction of the minimum wage in 1997 led us to pay our lowest paid staff ( casual bar staff back then on about £3ph ) the increased minimum wage so they at least benefited. Everyone else higher in the hierachy ( full timers, supervisors, asst managers, managers) all suffered because at every opportunity ( as people left and needed to be replaced) we tried to replace these higher paid staff with the same caliber person but on lower wages. And we were successful at dong this; and we had to be because we could not afford our overall wage bill to increase. So in 2000 I was paying a General Manager 35k a year. Now I can find and pay a general manager 25k pa and thats a massive nominal decline over 15 years. So the real impact of the minimum wage introduction in the real world of small husiness was to pay the lowest casual staff a little more but most of the higher paid staff ended up being paid less .

Is there any evidence to support the claim that the described response is a widespread phenomenon?

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  • $\begingroup$ I don't have much references, but I would say that it depends on the company. Look at what Ford supposedly achieved with an increase wage in early 20th C. In a nation-scale, that will eventually create some inflation, which will effectively reduce the buying power of higher-ranked. But to actively lower the higher wages sounds like a terrible practice, IMHO: it is likely that some will leave to avoid the two effects. $\endgroup$
    – clem steredenn
    Jul 9, 2015 at 9:34
  • $\begingroup$ @bilbo_pingouin What did Ford do? There is a quite widespread fable about the effect of his wage hike. forbes.com/sites/timworstall/2012/03/04/… Sorry Ubiquitous, this is not a comment on your question, but I did not think my comment merited to be its own separate question. $\endgroup$
    – Giskard
    Jul 9, 2015 at 10:01
  • $\begingroup$ @denesp Note that I had "suposedly", since I did not investigate more on that than high-school classes a few decades ago. However, from your link, limiting the turnover by having higher salaries (than the other) is exactly the effect that I described in my last point. Lower salaries will increase the turnover. $\endgroup$
    – clem steredenn
    Jul 9, 2015 at 10:21
  • $\begingroup$ @bilbo_pingouin Then the fault probably lies with me, I didn't see how any of this followed from your comment. $\endgroup$
    – Giskard
    Jul 9, 2015 at 10:48
  • $\begingroup$ @denesp -- well, it is not what I had in mind originally, but it still work to some extend :-) $\endgroup$
    – clem steredenn
    Jul 9, 2015 at 11:06

4 Answers 4

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This phenomenon is sometimes called "wage compression" because the range of wages is compressed by the minimum wage laws. One paper on this subject is The Impact of the Minimum Wage on Other Wages

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There actually is empirical evidence that raising the minimum wage raises a range of wages that are close to, but above the minimum wage. The effect begins to fade as you go up the wage scale, so that could be viewed as "wage compression" or it could be viewed as reducing income inequality. http://laborcenter.berkeley.edu/local-minimum-wage-laws-impacts-on-workers-families-and-businesses/

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Dube et. al. have a recent paper that documents this fact in payroll data from a US retailer. Another paper looking at this but with a less clear answer is Autor et. al. 2016.

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From employer's perspective minimum wage, in most cases, is simply an overpayment. There wouldn't be any point for minimum wage if it was not an overpayment.

The work done by minimum wage workers can potentially be worth a lot less than the cost of employing them, thus the value of work performed by other workers need to balance this gap. Workers earning above minimum wage need to make up for those earning minimum wage and whose work is worth less than that, so that the employer still makes a profit.

Let's consider a simple scenario.

Before minimum wage

Suppose we don't have a minimum wage regulations and the following scenario happens. We have two workers, one skilled, one unskilled. The difference in their work efficiency is x2, that is work of the skilled worker is worth twice as much as the work of unskilled. The workers are rewarded accordingly to their work performance, so gross salary of the more efficient one is twice as big as the unskilled worker's salary.

Now, minimum wage gets introduced.

Minimum wage

The initial value of minimum wage is set to 150% of unskilled worker's salary.

Clearly, unskilled worker's work is not worth that much, so at least one of two things must happen now:

  1. Skilled worker needs to agree to be paid less or
  2. If no skilled worker with x2 efficiency agrees to be paid less then the skilled worker will be replaced with even more skilled worker whose efficiency is higher than x2, so that the employer can maintain the same profit margin.

Yes, I have made a lot of assumptions along the way but still this could be a likely explanation why minimum wage causes drop in the salary of higher paid workers.

Update

Upon receiving the feedback for this answer I am adding references to sources that back up my arguments.

enacting a higher minimum wage clearly benefi ts low-skilled workers. By contrast, if one’s initial premise is that there are alternative means to produce a product, and employers will seek the least-cost method of doing so, then raising the minimum wage will cause employers to seek substitutes such as automation or relocation overseas, thereby reducing the amount of workers they hire.

Demand for workers falls, clearly.

The Road to Serfdom with the Intellectuals and Socialism F. Hayek, p.15

Legislative bodies have the power to legislate a wage increase, but unfortunately, they have not found a way to legislate a worker productivity increase. Further, while Congress can legislate the price of a labor transaction, it cannot require that the transaction actually be made. To the extent that the minimum wage law raises the pay level to that which may exceed the productivity of some workers, employers will predictably make adjustments in their use of labor. Such an adjustment will produce gains for some workers at the expense of other workers. Those workers who retain their jobs and receive a higher wage clearly gain. The adverse effects are borne by those workers who are lost disadvantaged in terms of marketable skills, who lose their jobs and their income or who are not hired in the first place.

Again, demand for workers drops, thus by supply-demand law we expect salaries to drop.

Youth and minority unemployment, Dr. Walter E. Williams, p.7

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    $\begingroup$ I suppose that OP was referring with "Is there any evidence" to empirical evidence. $\endgroup$
    – FooBar
    Jul 9, 2015 at 10:59
  • $\begingroup$ @FooBar The OP asked for evidence. I point you to the meaning of the word "evidence": Evidence, broadly construed, is anything presented in support of an assertion. This support may be strong or weak. The strongest type of evidence is that which provides direct proof of the truth of an assertion. At the other extreme is evidence that is merely consistent with an assertion but does not rule out other, contradictory assertions, as in circumstantial evidence. Now, cancel the downvote please or contact OP to include "empirical" in the question body in which case I will edit my answer. $\endgroup$
    – matcheek
    Jul 9, 2015 at 11:24
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    $\begingroup$ Alright, I'll extend my short comment: I suppose that OP was referring with "Is there any evidence" to proper evidence. In my book, theoretical evidence is only useful if there's evidence to back it up. Either using alternative predictions of the model, or by using micro-foundations. Pure theoretic "evidence" without any micro foundation (aka empirical evidence) is in my world pretty weak evidence - which I believe less useful as an answer. $\endgroup$
    – FooBar
    Jul 9, 2015 at 13:52
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    $\begingroup$ Yes, and I could make a similar toy model in which the low wage worked spends all his additional income on goods, which increase demand for service of the high wage guy, and increase profits of the firm. There's dozen other channels that are active, which is why general equilibrium is such an intractable beast. Shutting down $x-1$ channels and claiming to have "supportive evidence" for what might/will happen in the real world is a way we teach undergraduates about economic interactions and logic, not a way we actually do research. $\endgroup$
    – FooBar
    Jul 9, 2015 at 15:01
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    $\begingroup$ Unless, of course, you have suggestive evidence (empirical), that your channel is the right one, and your interactions are the most important ones, and the assumptions you made are harmless, and that we can ignore everything else for the sake of simplification. But you need to show that suggestive evidence, otherwise your answer cannot be taken serious. $\endgroup$
    – FooBar
    Jul 9, 2015 at 15:03

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