PDF Ebook Rational Expectations and the Puzzling No Effect of the Minimum Wage
This paper argues that expectations are an important element that need to be included into the analysis of the effects of the minimum wage on employment. We show in a standard matching model that the observed employment effect is higher the lower is the likelihood associated to the minimum wage variation. On the other side, there is a significant anticipation effect, ignored in the literature. This property is able to explain the controversial results found in the empirical studies. When the policy is anticipated, the effect at the time of the actual variation is small and hard to identify. The model is tested on Spanish data, taking advantage of the unexpected change in the minimum wage following the election of Zapatero in 2004.
Minimum wages were first introduced in Australia and New Zealand in the late 19th century and are now in force in more than 90% of all countries.1 Despite its widespread use, the minimum wage is a debated issue. Its supporters assert that it helps prevent the excess of exploitation in the labor market and increases the living standards of the lowest paid up to some minimum acceptable standards. Detractors claim that the minimum wage may price low'skill workers out of market, harming rather than helping the poorest workers.
Economic theory does not provide a clear prediction about the employment effects of the minimum wage: in a competitive labor market a binding minimum wage reduces employment, but this is not necessarily the case in a monopsonistic labor market, where a higher wage may attract more workers without dampening the labor demand. As discussed in Section 2, the empirical literature is also controversial. On one hand, older studies support the idea of a negative employment effect of the minimum wage.2 On the other hand, the New Minimum Wage Research is characterized by a wide range of estimates.
This paper proposes a mechanism capable of reconciling those conflicting findings. The key ingredient is the introduction of expectations in the analysis of the minimum wage policy. In fact, minimum wage changes can often be foreseen. This is particularly true in countries such as France and Spain, where the statutory minimum wage is set to be updated every year, or in Italy and Germany, that have no minimum wage laws but rely on collective agreements between employer groups and trade unions, renegotiated at defined dates. In the light of these features, the minimum wage policy cannot be considered as an unpredictable shock; on the contrary rational agents form expectations about minimum wage movements and adjust their current behavior to the future economic environment. They have the incentive to anticipate the policy because the profitability of an employment relationship depends also on the future wage. When the minimum wage is expected to increase, the present value of a job decreases, with negative implications on job turnover and employment before the implementation of the policy. Hence, when the minimum wage actually changes the employment adjustment may be small because it has been partly anticipated.
We argue that the empirical literature has not been able to find conclusive results because the minimum wage variations under analysis were expected, so that the observed employment effect was relatively small and potentially hard to identify. Furthermore, the anticipated effect has been neglected, leading to an underestimate of the overall employment effect.
Download
PDF Ebook Rational Expectations and the Puzzling No Effect of the Minimum Wage
Posted in :
