December 15, 2008

Minimum Wage, EITC and Poverty

Marc Comtois

One of President-elect Obama's solutions to fighting poverty is to "raise the minimum wage to $9.50 an hour by 2011." In their forthcoming book Minimum Wages, M.I.T. professor David Neumark and William L. Wascher of the Federal Reserve Board make the following conclusions (PDF):

First, minimum wages reduce employment opportunities for less-skilled workers, especially those who are most directly affected by the minimum wage....

Second, although minimum wages compress the wage distribution, because of employment and hours declines among those whose wages are most affected by minimum wage increases, a higher minimum wage tends to reduce rather than to increase the earnings of the lowest-skilled individuals....

Third, minimum wages do not, on net, reduce poverty or otherwise help low-income families, but primarily redistribute income among low-income families and may increase poverty....

Fourth, minimum wages appear to have adverse longer-run effects on wages and earnings, in part because they hinder the acquisition of human capital.

Further, research (PDF) done by Joseph J. Sabia of American University and Richard V. Burkhauser of Cornell University for the Employment Policies Institute shows that raising the minimum wage "is an increasingly ineffective anti-poverty strategy."
Our results show that recent minimum wage increases between 2003 and 2007 had no effect on state poverty rates. Moreover, the proposal to raise the Federal minimum wage to $9.50 per hour is unlikely to be any better at reducing poverty because (i) most workers
(89.0 percent) who are affected are not poor, (ii) many poor workers (48.9 percent) already earn hourly wages greater than $9.50 per hour, and (iii) the minimum wage increase is likely to cause adverse employment effects for the working poor.
However, their research also examined the possible effects of another Obama proposal, which is to increase the EITC (Earned Income Tax Credit).
While raising the Federal minimum wage is an increasingly ineffective anti-poverty strategy, expansions in the Earned Income Tax Credit (EITC) program may be a promising alternative for several reasons. First, because eligibility is based on family income rather than a wage rate, the benefits are much more likely to be received by workers living in poor families....Thus, most of the 48.9 percent of poor workers who
earned hourly wages greater than $9.50 per hour in March 2008 and who would thus not gain from the proposed increase in the Federal minimum wage, could gain from expansions in the EITC. Second, because the costs of the EITC are not directly borne by employers, expansions in this wage subsidy do not cause adverse labor demand effects. In fact, a large body of empirical literature finds that expansions in the EITC increase employment among low-skilled single mothers....Given that employment is an important anti-poverty mechanism and wage subsidies can increase income to the working poor, expansions in the EITC may be a more effective means of aiding the working poor than increasing the Federal minimum wage.
Yet, Neumark conducted a study (PDF) in 2007 that helped to describe how increases in both the minimum wage and the EITC affect different groups.
Higher minimum wages reduce earnings of minority men, and more so when the EITC is high. In contrast, the EITC boosts minority women’s employment and earnings, and coupling the EITC with a higher minimum wage appears to enhance the positive effect of the EITC for minority women, although it hurts female teenagers and 20-24 year-old high school dropouts. Whether or not the policy combination of a high EITC and high minimum wages is viewed as favorable or unfavorable therefore depends in part on whose incomes policymakers are trying to increase. There is a potential argument for more concern with the incomes of younger minority women, who may be more likely to have and be caring for children. On the other hand, the estimates suggest that at high EITC rates the negative effects on men’s earnings are somewhat larger, and the apparent adverse effects for female teenagers and dropouts also have to enter into the equation. Given the variation in effects, there is no clear policy prescription. We hope, though, that we have helped to identify some of the important distributional effects that need to be weighed by policymakers.
In short, the solution is never cut and dried. Helpful, I know, but worth realizing that there is no poverty panacea. Never has been, never will be.

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Nice post Marc. Too bad the finer points of these sorts of policy changes pale in comparison to the potential political gain that is achieved by pandering to the masses. So much for change! For me, honest change would be “The One” explaining to the poor that there is evidence that raising the minimum wage doesn’t really help them and instead trying to do something that actually facilitates job growth in this country.

Posted by: Frank at December 16, 2008 11:52 AM

nice post.

Taking an micro-econ class and learning that if we treat labor like commodities and apply supply and demand curves, it can explain people's b/h.

So min wage increase might not help poverty, but it does have an impact on wages.

Any minimum wage directly impacts the wage rate by creating a wage floor. Minimum wage laws create a transfer of wealth to those workers who manage to keep their jobs, but also a deadweight loss from reduced employment. Because the minimum wage increases the wage rate, it also induces more unemployment.

Bottom line, employment is lowered when minimum wages are introduced. The question is who is going to be most affected and benefit? Unions? Skilled workers? Maybe that's not such a bad thing? Ahg, who knows really. cheers, j

Posted by: j at March 17, 2009 5:10 AM

Yet another reason for free markets!... in a time when Liberals are trying to move away from free markets and into socialism and government intervention. Free markets correct themselves. But when you impose unnatural restraints on the markets, you don't allow them to correct, thereby exacerbating the problem. During economic downturns, if it weren't for minimum wages, the free market would cause a temporary lowering of wages, which would allow workers to keep jobs, it would keep businesses in business, it would lower consumer prices, and eventually the supply/demand ratios would stabilize so that wages could rise (who knows, perhaps higher than minimum wages for those who work hard and continue to be productive).

Liberalism is a mental disorder.

Posted by: NotEntitled at December 15, 2009 9:51 AM
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