Increases in State Minimum Wages Have Reduced Employment in Low Wage Jobs

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1 WELCH CONSULTING For immediate release: July 24, 2014 Ian Woon i Introduction A recent blog post by ii the Center for Economic Policy Research (CEPR) argues that raising the minimum wage will have little, if any, detrimental effects on employment. The basis of the CEPR s argument is empirical. For the past few months, the CEPR has monitored employment growth in the 13 states that increased their minimum wages in January. Using data from the Bureau of Labor Statistics (BLS), the CEPR blog states that 2014 job creation was faster in states that raised the minimum wage. While the CEPR acknowledges that their simple exercise can t establish causality between minimum wage increases and employment growth, they claim that their calculations provide evidence against theoretical negative employment effects of minimumwage increases. This post caught the attention of the mainstream media and the blogosphere and was re-blogged by USA Today and many other websites. iii iv v The easy availability of government data on the internet allows unprecedented access to a vast array of information that can be useful for policy-related research. Readers, however, should view empirical research that has not been subjected to peer-review with a skeptical eye. Empirical evidence that purports to repudiate the law of demand should be scrutinized especially carefully. The CEPR bases its conclusion on incorrect calculations and a flawed methodology. Their calculations do not contradict the well-established law that a wage increase will cause employers to economize on labor services and substitute towards cheaper alternatives such as mechanization or outsourcing. Our examination of minimum wage increases suggests that employment in low-wage jobs may have declined by 0.6% to 1.4% over the past 10 months in states that increased their minimum wages in January. While our results are suggestive and not conclusive, we use an approach that is more consistent with academic studies of minimum wages. Instead of assuming that the minimum wage affects all workers equally, we focus on the employment of workers likely to be affected by the minimum wage, and attempt to net out the impact of other factors that might affect employment. Correcting Errors in the CEPR Calculations Before turning to our study of minimum wages, we correct the record with respect to the correlation between state minimum wages and aggregate employment. vi We were unable to reproduce the CEPR s findings despite using the same data source and methodology. The CEPR blog indicates that California had the highest employment growth (in percentage terms) between the end of 2013 and the beginning of 2014, and that Washington had the third highest job growth. In fact, employment in Nevada grew the most over this time period and Texas ranked third, while California had the 15th highest and Washington had the 8th highest employment growth. Using the methodology outlined by the CEPR, the relationship between total employment and minimum wages should be: vii

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3 Where to Look for Minimum Wage Effects An increase in a state s minimum wage will not have a substantial impact on aggregate employment because the minimum wage directly impacts a small minority of low skilled, inexperienced workers. Rather, a more thorough analysis of the impact of state minimum wages should recognize that low wage and entry-level workers are the most directly affected by minimum wages. A higher minimum wage will have little effect in industries with a high concentration of skilled and experienced workers who earn much more than the state minimum. In contrast, a higher minimum wage will impact employment more substantially in industries that rely on workers in low-wage occupations and entry-level jobs. The establishment payroll survey (used by the CEPR in their blog post) reports employment by industry but not by the experience, education or skill level of the workforce. We focus on the Limited-Service Restaurant industry because of its preponderance of low wage workers. viii The average hourly wage of non-supervisory workers in Limited-Service Restaurants is $9.27 nationally and many of these restaurants will be directly affected by a new higher minimum wage. In the analysis below we focus on a single low-wage industry, Limited-Service Restaurants. Methodology: A Focus on Relative Employment Growth An empirical policy analysis that relies on cross-state differences in policy variables (changes in state minimum wages) should recognize that outcomes (employment growth) may differ among states for reasons other than the policy variables in question. There are many reasons, other than state minimum wage changes, why employment has grown faster in one state than another. We evaluate the impact of an increase in a state s minimum wage on the relative employment growth in low-wage jobs by comparing the change in the state s employment growth in low wage jobs to a benchmark rate. The benchmarks we use are: (i) lagged employment growth in the low-wage industry at an earlier time when the state minimum wage was not increasing, and (ii) contemporaneous employment growth in a high-wage industry where few workers would be directly affected by a new higher state minimum wage. The Tri-State Area of New York, New Jersey and Connecticut Of the 13 states that increased their minimum wage in January 2014, ten increased the minimum in the previous year. Consequently our focus will be on the three states, New York, New Jersey and Connecticut, for which we can compare a state minimum wage increase in January 2014 to no change in the state minimum wage one year earlier in January In order to mitigate measurement error, we aggregate employment across the tri-state area and consider changes in the combined employment in these three states. Our comparison group is the remainder of the U.S. The CEPR blog post focused on August 2013 to May 2014 and for purposes of comparison we use the same time period. x

4 Raw Employment Growth Comparisons Between August 2013 and May 2014, employment in Limited-Service Restaurants in the tri-state area declined by -0.42% but increased by 2.82% in the rest of the United States. It is unlikely that all of the 3.24% difference in employment growth is due to the higher state minimum wages in the tri-state area. We therefore convert raw employment growth changes to relative employment growth changes in an attempt to net out other factors that could account for employment growth differences between states. Using Professional and Business Services Employment as a Benchmark In contrast to Limited-Service Restaurants, the average hourly wage of non-supervisory workers in Professional Business and Services is $24.26 per hour. Relatively few employees in this industry are directly impacted by state minimum wages. Therefore, the Professional and Business Services industry is a reasonable benchmark against which Limited-Service Restaurants can be compared. Professional and Business Service employment in the tri-state area grew by 1.00% from August 2013 to May Thus, employment in the low-wage Limited-Service Restaurant industry declined by 1.43% (rounded) relative to employment in a high-wage industry that is largely immune to the effects of state minimum wage increases.

5 Even this relative decline in employment in Limited-Service Restaurants might be due to business cycle factors and not minimum wage increases. Consequently we use relative employment growth in the low-wage industry in rest of the U.S. as a second benchmark. xi Outside the tri-state area employment in Professional and Business Services grew by 2.81% between August 2013 and May 2014 virtually the same rate as employment growth in Limited-Service Restaurants. Consequently the relative growth in employment in Limited-Service Restaurants outside the tristate area was 0.01%. In the tri-state area, employment in Limited-Service Restaurants grew 1.43% more slowly than employment in the high-wage benchmark industry. In the rest of the U.S., employment in Limited- Service Restaurants grew at the same rate as in the high-wage benchmark industry. Taken together, this suggests that employment in Limited-Service Restaurants in the tri-state area declined by 1.43% due to the increase in the state minimum wages in New York, New Jersey and Connecticut in January 2014.

6 Using Prior Employment Growth as a Benchmark Another way to benchmark the employment growth is to compare employment changes from August 2013 to May 2014 to comparable employment changes one year earlier. In the tri-state area, employment in Limited-Service Restaurants grew by 1.26% from August 2012 to March 2013 at a time when state minimum wages were held constant. This means that the increase in state minimum wages in January 2014 is associated with 1.68% slower growth in employment at Limited-Service Restaurants in the later period. Some of this decline might be due to general business cycle factors and not minimum wage increases. Consequently we look at the same temporal change in employment growth in the rest of the U.S. as a second benchmark. Outside the tri-state area, employment growth in Limited-Service Restaurants slowed from 3.89% to 2.82%, for a decline of 1.08% (rounded). In the tri-state area, employment growth in Limited-Service Restaurants slowed from one year to the next by 0.60% more than it did in the rest of the U.S. This suggests that employment in Limited-Service Restaurants in the tri-state area declined by 0.60% due to the increase in the state minimum wages in New York, New Jersey and Connecticut in January 2014.

7 Conclusions We used the same time period and general data source as the CEPR and reached the opposite conclusion about the impact of state minimum wage increases. We found evidence that employment growth in a low-wage industry, Limited-Service Restaurants, was adversely affected by increases in state minimum wages. In contrast to the CEPR we used a difference-in-difference methodology to attempt to net out the confounding influence of factors other than the minimum wage increase. While our results are only suggestive, they indicate that the minimum wage increases in the tri-state area of New York, New Jersey and Connecticut in January 2014 could have been responsible for a 0.6% to 1.4% decline in employment in industries that rely heavily on inexperienced and relatively less skilled workers. The law of demand, the idea that employers will substitute away from labor services to other factors of production when confronted by a mandated wage increase, is one of the most wellestablished and fundamental concepts in economics. When economists find a correlation that appears to contradict the law of demand they should re-examine their data and methodology rather than leap to the conclusion that employers choose to hire more workers after they become more expensive to hire. Economists at the CEPR are rightfully concerned about the plight of low wage workers who lack many of the job market skills that employers demand. These workers would benefit from policies that would make them more valuable, at the margin, to their employers. Advocates for a higher minimum wage are instead attempting to make these workers more expensive to employers without fundamentally changing their skills or marginal value in the production process. Given that the new average minimum wage of the tri-state area is $8.31, our results suggest that a $10.50 minimum wage would have substantial detrimental effects on the employment prospects of less skilled and inexperienced workers. Prohibiting individuals from working unless they are able to find an employer willing and able to pay $10.50 per hour for their services will not help alleviate poverty or income inequality higher minimum wages will reduce rather than enhance economic mobility.

8 i Stephen G. Bronars is a senior economist and Ian Woon is a summer intern in Welch Consulting s Washington DC office. ii iii iv v vi The June 30 CEPR blog attempts to compare employment growth from the last five months in 2013 to the first five months in vii These figures also reflect the latest (and final) May employment totals released by the BLS on July 17. viii A limitation of this approach is that state-level employment in Limited-Services Restaurants is only available for 22 states. Below we explain that our focus is on the tri-state area of New York, New Jersey and Connecticut and Limited-Service Restaurant employment is available for each of these states. ix The rest of the U.S. includes states with no state minimum wage increases since 2013 and states with minimum wage increases in both early 2014 and early Ideally we would like to isolate employment in states with no state minimum wages as another control but, as mentioned earlier, detailed industry employment by state is limited to a subset of states. x We use employment for a specific industry, Limited-Service Restaurants, which is only available as a seasonally unadjusted series. We measure employment growth as the percentage difference in employment between August 2013 and May 2014 instead of the CEPR s approach of computing five month averages of seasonally adjusted employment in late 2013 and early 2014, and then computing an annualized growth rate. xi This empirical approach is known as a difference in difference calculation.