Business response shows fatal flaw of sharp minimum wage hike, harming many low-skilled workers

When a doctor taps your knee, your leg kicks out on reflex. In other words, applying pressure in a certain way elicits a predictable response. Similarly, recent increases in the minimum wage in Ontario and elsewhere put pressure on businesses that responded in predictable ways.

For example, in the wake of Ontario’s recent 21 per cent increase in the minimum wage, from $11.60 to $14, news headlines report that businesses have responded in numerous ways that are easily predicted by economic theory and evidence. Unfortunately, these responses hurt many low-waged workers—the very people the minimum wage is meant to help.

For instance, businesses have responded by reducing the amount of labour that they employ by reducing staff or cutting hours. But no one should be surprised. When the cost for low-skilled labour artificially increases (in this case, by government mandate) without a commensurate increase in worker productivity, businesses will inevitably respond by finding ways to reduce labour costs or pass costs on to customers. In other words, when the price of something rises with no quality improvement, people tend to buy less of it. This is true for business owners and their expenses, just like consumers of goods and services.

Unfortunately, job losses will not be limited to a few isolated cases but, as predicted recently by the Bank of Canada, will be more widespread. Indeed, it is not hard to predict job losses given that multiple Canadian research studies into previous minimum wage increases consistently show that businesses respond by reducing their demand for labour.

The problem is that low-skilled workers bear the brunt of the negative consequences. With a higher minimum wage, businesses are more likely to prefer more experienced workers with proven track records and less likely to give opportunities to lower-skilled less-experienced workers. Consequently, more vulnerable workers, particularly young workers, are most likely to lose their jobs or have difficulty finding a new one.

One way businesses reduce staff is by increasing automation—such as self-serve checkouts. Increased automation will disproportionally harm low-skilled workers. Jobs that generally involve routine or repetitive tasks are particularly vulnerable to automation. As a recent study by leading minimum wage expert David Neumark found, low-skilled workers in the U.S. (defined as having a high school diploma or less) who have readily automatable jobs are more likely to become unemployed after a minimum wage increase.

There are other ways that businesses respond to a minimum wage hike that can negatively affect low-wage workers who are fortunate to keep their jobs. For instance, some businesses are reducing employee benefits and cutting the number of hours available for work.

In some cases, the increase in the minimum hourly wage may not be enough to offset the reduction in the number of hours worked. According to a study by Washington researchers, this is precisely what happened in response to a recent minimum wage increase in Seattle. The study found that overall earnings (number of hours multiplied by the wage rate) of low-wage workers in the city declined. So a government policy intended to help low-wage workers actually made many of those workers worse off.

As an alternative to reducing labour costs, some bussinesses have also responded by passing costs on to consumers through higher prices. But even this response from business will adversely effect low-skilled workers. After all, workers who earn a low wage are also least able to afford higher prices.

And finally, businesses are responding by closing down, unable to bear the increased labour costs and leading to fewer opportunities for low-skilled workers.

When you knock a knee, the leg jerks. And when government mandates higher labour costs, businesses respond, often in ways that make many low-skilled workers worse off. Policymakers in Ontario and across Canada should understand these realities before raising the minimum wage.