Minimum wages and firm employment: Evidence from China

Yi Huang, Prakash Loungani, Gewei Wang 16 May 2014

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The impact of the minimum wage on employment is a polarising issue in ‘advanced’ – the term commonly used for ‘high-income’ – economies. In the blogosphere, one side is often accused of cruelty (‘they don’t care about the working poor’) and the other of stupidity (‘they don’t realise that labour demand curves slope downwards’). The evidence is mixed. The majority of studies find that minimum wage changes lower employment by a modest amount (Neumark and Wascher 2007) or have little impact (Schmitt 2013). Some studies find that the adverse employment impact is greater for certain groups such as low-skilled workers and teenagers, but this too is a matter of contention. Notably, a series of studies by David Card, Larry Katz, and Alan Krueger in the 1990s found that for fast-food companies in the US an increase in the minimum wage was actually associated with an increase in employment – a result consistent with the models of monopsony (see Card and Krueger 1995 for a summary).

For emerging economies, which account for the bulk of global employment, the evidence on the impact of minimum wages is fairly limited and inconclusive (Betcherman 2013). In recent work (Huang, Loungani, and Wang 2014), we study how minimum wage policies affect firm employment in China by matching a unique county-level data set on minimum wages to firm-level survey data on employment. We also investigate the effects of tightened enforcement of minimum wage policies starting in 2004. This evidence from China is important given the academic debate about the effects of minimum wages and the growing policy discussions in emerging markets on the appropriate level and design of minimum wage schemes (Fang and Lin 2013).

Minimum wages in China

A system of guaranteed minimum wages was formalised in July 1994 under a labour law that authorised provincial governments to set their own minimum wage standards taking into account local economic conditions. In March 2004, a new directive established more comprehensive minimum standards and tightened enforcement through threats of tougher punishment for lax enforcement of labour laws.

We have compiled minimum wages at the county level for all provinces in China, collected by the Ministry of Human Resources and Social Security using official reports from county governments. This dataset contains detailed information on all the adjustments of minimum wages at the county level and includes 2,805 county-level divisions. Since we have information on the dates of implementation of these minimum wage adjustments, we are able to calculate the effective minimum wage as the weighted average of minimum wages changes. By using other county-level data (e.g. on local unemployment rates), we can also try to capture the endogenous response of minimum wage changes to local economic conditions.

Figure 1 shows geographical variation in the effective minimum wage and displays different quartiles over time. These maps show that the minimum wage is not always lower in inland areas compared with coastal areas, and also that it varies over the years, including before and after the 2004 reform. The extensive geographic variation and the variation over time provide a rich avenue for estimating the impact of minimum wage changes on employment. To do so, we match the data on minimum wages to firm-level survey data on employment.

Figure 1. Geographic variation in minimum wages across Chinese counties

Impact on employment

Our regressions of firm-level employment on the county minimum wage suggest that a 10% hike in minimum wages leads to a decline of between 0.15% and 0.3% in firm employment, depending on the other controls included in the regressions. This range is not dissimilar to that found in the early literature on the impacts of minimum wages for advanced economies (though most of those studies were for impacts on teenage employment than for workers as a whole).

We also find that the impact of minimum wages on employment differs across firms. Low-wage firms or those with low profit margins tend to reduce their hiring in response to a minimum wage hike, while high-wage or high-profit-margin firms increase hiring. The impact when firms are grouped by deciles based on their average wage levels is shown in Figure 2. A 10% increase in minimum wages lowers employment for the lowest decile of firms by about 0.4%, whereas for the highest decile of firms employment increases by nearly 0.6%. For the bottom four deciles, an increase in minimum wages lowers employment while there is a significant positive impact for the top three deciles; in between the impacts are close to zero. Though more work is needed to fully understand this heterogeneous impact, one factor to note is that in China the high-wage firms tend to be the ones with more market power. Hence the prevalence of monopsony power, which the studies by Card and Krueger mention as the reason for the positive impact of minimum wages on employment, is more likely to be prevalent among the high-wage firms in China.

Figure 2. Effect of minimum wages on firm employment for different deciles, grouped by firm wages

Impact of increased enforcement

It is commonly believed that enforcement of minimum wage policies was strengthened after 2004. After this new law was passed, firms started to feel the pressure of rising labour costs, both from the tightened enforcement and from developments in the labour market. Figure 3 shows the decline after 2004 in the share of firms whose average wage was less than the legislated minimum wage.

Figure 3. Share of non-compliant firms

We test whether the increased enforcement affects our results by comparing the results for the full sample period for those estimated over the 2004–2007 period. As shown in Figure 4, our results are very robust to the ‘natural experiment’ of tightened enforcement.

Figure 4. Effect of minimum wages on firm employment after increased enforcement for different deciles, grouped by firm wages

Conclusion

The minimum wage policy of China provides new opportunities to evaluate the design and enforcement of labour market policy in emerging market countries (Lemos 2009, Basu et al. 2010, Li et al. 2012). As in advanced countries, the choice of the minimum wage in emerging economies has to balance the goals of ensuring labour market flexibility and protecting the interests of workers (Sobel 1999, Blanchard et al. 2013). Our results show that the impact of the minimum wage on employment is very heterogeneous. For firms in the middle of the wage distribution, the impacts of the minimum wage on employment are small. But low-wage firms show a negative impact and high-wage firms show a positive impact. There is a growing literature that considers the impact of minimum wages using regional data across US states and incorporating time-varying heterogeneity (Allegretto et al. 2013). Our paper is the first to document that such heterogeneous effects are also very important for China.

References

Allegretto, S, A Dube, M Reich, and B Zipperer (2013), “Credible research designs for minimum wage studies”, Working Paper, Institute for Research on Labor and Employment.

Basu, A K, N H Chau, and R Kanbur (2010), “Turning a blind eye: Costly enforcement, credible commitment, and minimum wage laws”, Economic Journal, 120(543): 244–269.

Betcherman, G (2013), “Labor Market Institutions: A Review of the Literature”, World Development Report, World Bank Group.

Blanchard, O J, F Jaumotte, and P Loungani (2013), “Labor market policies and IMF advice in advanced economies during the Great Recession”, International Monetary Fund.

Card, D and A Krueger (1995), “Time Series Minimum Wage Studies: A Meta-analysis”, American Economic Review Papers and Proceedings, 85.

Card, D and A Krueger (1994), “Minimum Wages and Employment: A Case Study of the Fast Food Industry in New Jersey and Pennsylvania”, American Economic Review, 84.

Fang, T and C Lin (2013), “Minimum wages and employment in China”, IZA Discussion Paper.

Huang, Y, P Loungani, and G Wang (2014), “Minimum Wages and Firm Employment: Evidence from China”, Federal Reserve Bank of Dallas Globalization and Monetary Policy Institute Working Paper 173.

Lemos, S (2009), “Minimum wage effects in a developing country”, Labour Economics, 16(2): 224–237.

Li, H, L Li, B Wu, and Y Xiong (2012), “The end of cheap Chinese labor”, Journal of Economic Perspectives, 26(4): 57–74.

Neumark, D and W Wascher (2007), “Does a higher minimum wage enhance the effectiveness of the earned income tax credit?”, NBER Working Paper 12915.

Schmitt, J (2013), “Why does the minimum wage have no discernible effect on employment?”, Center for Economic and Policy Research.

Sobel, R S (1999), “Theory and evidence on the political economy of the minimum wage”, Journal of Political Economy, 107(4), 761–785.

 

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Topics:  Labour markets

Tags:  China, minimum wage

Assistant Professor of International Economics and Pictet Chair in Finance and Development, The Graduate Institute, Geneva

Senior resource manager and advisor in the IMF's Research Department

Research Assistant Professor, IGEF