Top economist asks: Should we raise the minimum wage in a recession?

Tuesday, 27 October 2020

The Government has paid out $11 billion in wage subsidies to businesses that have suffered a loss of income as a result of the coronavirus crisis. (File video, first published in August 2020)

More targeted support for lower-income earners could be a better solution to address Covid-induced inequality than a minimum wage increase, ANZ’s chief economist says.

The bank has released its latest quarterly economic outlook, which notes significant uncertainty ahead.

It said an “extraordinary” amount of fiscal support had been unleashed so far this year, which had limited the effects of the Covid-19 lockdown.

“While needing to manage ongoing health risks, the Government should now also be preparing to facilitate the economic recovery,” the bank’s economists said.

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“No matter how much the Government spends, there will be no recovery until momentum in the private sector changes direction. Policies to encourage households to spend and businesses to invest and hire are needed.

“But policy-makers also need to keep an eye on the long term and the growing debt burden, aiming to ensure swift recovery and lift productive capacity. It’s not easy; a delicate balance is required.”

They said the global environment would be challenging over the coming months but New Zealand was relatively well-placed.

“More difficult times lie ahead as recessionary impacts are felt, especially with the border closed. Households will be a bit more cautious about spending and debt, especially as job losses mount. Business investment will be slow to improve, especially in the face of lingering uncertainty. Fiscal and monetary policy will provide a cushion, but fully offsetting the economic impact isn’t feasible.”

Retail, hospitality and tourism workers have been hardest hit, worsening income inequality.

The economists said New Zealand was very exposed to international tourism, and without it, the economy was probably about 5 per cent smaller, even if that had not become fully evident yet. The impact would be more obvious over the summer months.

“As a consequence, we can expect to see less national income and spending for a time. We assume that the border does not open until early 2022, which will be a boon for the industry at that time, given pent-up demand, even if spending power of tourists may be weaker than otherwise. But for some in the industry, that will be too long to wait.”

The wage subsidy had been a significant buffer for the economy but ANZ chief economist Sharon Zollner said it was not possible to continue support at that level.

She said the Covid-19 economic shock was hitting lower-income earners disproportionately hard because it was affecting retail, hospitality and tourism jobs in particular.

Fiscal policy would have an important role to play to even that out, she said.

But she said it would be better to use taxes and transfers to boost incomes at the lower end of the wage spectrum than to introduce another minimum wage increase next year, which businesses might find hard to cover.

Labour has pledged to lift the minimum wage to $20 an hour next April.

Zollner said ANZ’s forecasts were that the economy would still be stagnant in the first half of next year and there would be challenging business conditions in a range of sectors.

That could mean the impact of a minimum wage rise was “unfortunately large”, she said.

“Job security and employment are an important part of any economic recovery… there are always trade-offs. The interests of people who have jobs now and those who want to get a job are not always perfectly aligned,” Zollner said.

She said while increasing the minimum wage might help those with secure jobs, it could have a negative effect on workers in aggregate.

Other measures could be used to top up lower incomes in a way that did not increase costs for firms, she said.

“To put some numbers around this, MBIE estimates that the last increase in the minimum wage in April cost 6500 jobs. But given how vulnerable and uncertain businesses are at present, the 2021 increase is likely to be even more costly. Some of the industries that have been hardest hit by this crisis are also highly exposed to the minimum wage. And the minimum wage rise has the potential to hurt marginal would-be workers in particular.”

New Zealand had the fifth-highest minimum wage in the OECD compared to the median wage, the bank’s economists said.

“And it’s been at the higher end of the spectrum for quite some time. If the answer to New Zealand’s low-wage, low-productivity economy is a higher regulated minimum wage, one would have hoped to have seen some benefits by now.

“And that argument, that higher wages will drive productivity, relies on firms being prompted to choose productivity-enhancing capital over labour at the margin. That’s fine and dandy in a strongly growing economy, but has nasty consequences for employment in a slowing one.

“That’s why it’s important that minimum wage raises take into account economic conditions at the time. The more restrictive labour market settings are during times of crisis, the longer it will take for businesses to start hiring again, and the slower the economic recovery will be, which is bad news for workers in aggregate.

“Minimum wage rises at a time many firms can’t afford them risk ending up with permanently higher unemployment and poorer social outcomes than otherwise. Policy naturally has a bias to protect incumbents (firms or workers), as jobs never created and firms never started aren’t measured, and will always remain the subject of conjecture. But that doesn’t mean the impacts aren’t real.”