Economic Policy Review ISSN 1313 - 0544

Minimum Wage Shall Increase? No…

Author: Zornitsa Slavova / 06.04.2011
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Only half a year ago the labor unions and the Social Minister insisted on raising the minimum wage (MW) in 2011 to 270 BGN. This did not happen then, but now KNSB, teamed up with Totyo Mladenov, are pushing for the increasing of the MW by as much as 50 BGN (from 240 to 290 BGN) by mid-year on. Their motives are similar to the last year ones – more money for the workers, fair price of labor, budget revenues, and economic growth. But, is that the case?

 

Increasing purchasing power and economic growth or expansion of informal sector?

The fact that the minimum wage in Bulgaria is at the lowest level in the EU is often used. It is true, as is also true that wages in general are the lowest, and standard of living is far from the richest countries in Europe. Figure 1 shows the proportion of minimum wage to the average income in European countries and USA. Bulgaria places in the middle group of countries – with this proportion being around 40-43%. If the minimum wage rises to 290 BGN, Bulgaria directly moves up to the top 5 countries with a minimum wage over 47% of the average wage. What are the effects of such an unexpected labor market shock?

 

Figure 1: Share of MW in the average wage

Source: Eurostat

Note: * 2009 Data

 

One of the main arguments put forward by the unions is that such "artificial" increase will raise the standard of living of the poorer and more vulnerable groups in our society. Thus, higher incomes for the low-skilled will lead to an increase in the average wage, which in turn causes economic growth. If it were so, why not make the minimum wage 1000 BGN? Wouldn’t this lead to better results? Obviously, that is just not the case. Wages do not and should not rise because any bureaucrat could say so or because someone wants so. In this particular case the proposed increase is not that large and therefore the effects will not be that severe, still it will hurt the ones supposed the be “protected”.

What will happen to all those who are now paid less than 290 BGN – probably more than half a million Bulgarians[1]? Of course, this includes those who officially pay for health insurance and social security at the minimum wage base but receive the remainder of their salary "under the table". Even assuming very pessimistically that this fraud comprises 90% of the cases and that those employed in the public sector actually receive as much as they declare, still affected by this proposal are more than 100,000 people who actually produce less than 290 BGN per month.

It is absurd to think that employers will simply raise wages and everything will go on the old way. Increasing labor costs by 20% will force some companies to fail, some - to move to another country, but the majority - will probably move into the informal sector. Neither we will increase purchasing power, nor we will have more growth. NOI is not even on the agenda.

 

“Fair” income or higher unemployment?

The second major argument used in the minimum wage increase discussion is to find a "fair" price of low-skilled labor. Such an argument sounds even more absurd than the one above. In a functioning market economy, setting administratively the minimum wage for an entire economy is unthinkable. Increasing cost of labor is determined by the growth of labor productivity. On Figure 2 a comparison with the EU is presented, clearly showing that the lowest minimum wage in Bulgaria is the result of the fact that labor productivity is at the lowest level.

 

Figure 2: Labor productivity and MW in EU for 2009

Source: Eurostat

 

Common sense indicates that increasing the minimum wage not only does not lead to increased incomes of low-skilled workers, but discriminates them the most. When labor costs are higher than the value added by the worker, simply he will not be hired and thus probably gain no experience at all. Many researches were conducted analyzing this problem, one particular study by the French National Institute of Statistics and Economic Studies in 2008 demonstrated empirically that increasing the minimum wage by 10% leads to a loss of 290,000 jobs in the long run.

 

More budget revenues or even higher costs and lower tax collection?

So far arguments were targeted at winning workers loyalty, the claim that increasing the minimum wage would lead to more revenue in the budget aims to ensure the support from the government. But it is simply not true.

First, a number of budget costs are based on the minimum wage. On the one hand, the state will have to raise the wages of all public sector employees who work for less than 290 BGN. On the other hand - the minimum wage is the basis for the calculation of many other items - payments for subsidized employment (including the establishment of the new "green jobs" program), social benefits for child 1 to 2 years old, supplements for people with disabilities, remuneration for foster families. Even the Minister of Labor, supporting the proposal, roughly estimated that the change to 270 BGN will cause costs exceeding revenues by around 5 million[2].

Second, the effects of increased minimum wage examined so far – higher unemployment and greater gray sector – will also transform as budget costs. What's more - they will affect the whole economy and will have a direct impact on economic growth.

 

 

 

It is clear why unions miss many important moments in the debate, but hopefully in the course of the discussions the common sense will prevail. In the end, no matter how well presented, the existence of an administrative minimum cost of labor is the biggest injustice that can be imposed on workers and employers and in effect on the whole economy.

 


[1] According to the estimates of NOI by June 2010 (when the increase of the minimum wage by 30 BGN was discussed) 420 000 workers pay for social security on lower than 270 BGN base.

[2] In the previous discussion on raising the minimum wage Totyo Mladenov estimated that if minimum wage were 30 BGN higher, budget revenues would be about 20 million compared to 25 million BGN costs, so a total loss would be around 5 million