City limits

US city minimum wages and their relevance for the UK

An essay by Arindrajit Dube, Associate Professor, Department of Economics at the University of Massachusetts Amherst

The backdrop: the federal minimum wage became the binding standard for most US workers in 1938. But several decade-long bouts of federal inaction since then have propelled wage-setting at a more local level. Prior to the most recent federal increase in 2007, 37 states had minimum wages above the national rate. Cities too have begun setting higher minimum wages, with city-level wage floors already in place in Albuquerque, Chicago, San Francisco, San Jose, Santa Fe, Seattle, and Washington, DC. Others such as Los Angeles are actively exploring possibilities. 

This piece will discuss the US's experience with city minimum wages, reflecting on the evidence of their impact, potential and trade-offs. It will conclude by considering what such initiatives could mean for wages in the UK (and London in particular).

Does it make sense to institute standards at as granular a level as cities? As a starting point, it is useful to recognise how big cities are different. Perhaps no other city embodies the features and contradictions of big cities as clearly as San Francisco, the birthplace of the 'city mandates’ movement in the United States. An historical abundance of highly-educated workers and the growth of high-paying sectors including finance, high-tech and biotech fuelled the city’s takeoff during the 1990s. Labour productivity grew, owing to agglomeration and human capital externalities. Moreover, growth in the size and income of the high-skilled workforce sparked a demand for low-skilled service jobs, leading to a polarised labour market. At the same time, house prices soared, raising the cost of living in the city. In 2001, San Francisco began implementing what would eventually become a fairly comprehensive set of workplace mandates including a minimum wage, an employer health-spending requirement, and paid sick days. It was a mini-experiment in American social democracy. The successful implementation of this city-wide agenda laid the foundation for similar policies elsewhere.[1]

The current landscape of city wage policies

The most recent wave of city policies began in 2014, when Seattle’s city council voted to implement a much higher standard, eventually reaching $15 per hour (about £9.80). This came at the heels of organising of restaurant workers throughout the country: the $15 target has been a focal point in both direct pressure campaigns on fast food chains on the one hand, and city-wide standards on the other. Within the past year, at least 14 additional cities or counties – including Chicago, Oakland, Louisville and San Diego – implemented a new minimum wage, while Washington DC and San Francisco substantially increased their existing standards. 

How should we think about the ambition of these policies? The top-line numbers may be misleading for a few reasons. First, cities may have very different phase-in periods for the same eventual wage; inflation means the timing of when ‘$15’ is implemented has a big impact on its real-terms value. Second, the impact of a $15 minimum depends on the local wage distribution. For example, setting the minimum wage to half the full-time median wage would produce a $10 per hour policy nationally, but much higher figures in major metro areas such as Washington, DC ($13.51), San Francisco ($13.37), Boston ($12.85), New York ($12.25) and Seattle ($11.85).

Figure 1: Biting back: minimum wages in the largest US metro areas and their relationship to median pay

Figure 1 shows the value of the prevailing or planned minimum wage, as well as the ratio of the minimum to the median wage of full-time workers, for the twenty largest metropolitan statistical areas (MSAs). In five of these metro areas (in dark green – Seattle, San Diego, Chicago, San Francisco, and Washington, DC), the prevailing minimum wage is the city one; in the other 15 metro areas (with the lighter shading), the relevant minimum wage is set at the state or federal levels. It shows that, being a high wage area, Washington DC’s minimum wage likely corresponds to around 39 per cent of the city median. In contrast, Seattle’s eventual minimum wage is likely to reach around 57 per cent of the median in that metro area. In general, most of the areas without a city minimum wage have minimums at or below 40 per cent of the median. (The latest data suggest the UK’s minimum wage is worth 47 per cent of the full-time median hourly wage.)

These policies can be expected to have a substantial effect on wages in the bottom half of the labour force

It is useful to take a closer look at the policies in San Francisco, Seattle and San Diego to gauge their potential impact. In all cases, these policies have affected between one-fifth and one-quarter of the workforce. This does not mean a fifth or a quarter of the workforce will necessarily be on the minimum wage, but rather assumes that upward ripple effects will also benefit workers earning just above the wage floor. Nonetheless, the result will be a very sizeable section of the workforce in these cities being paid at or very close to the minimum wage. As a consequence, these policies can be expected to have a substantial effect on wages in the bottom half of the labour force.

It is notable that in all three cities, around two-thirds of the workforce are in the three core service industries (leisure and hospitality; retail and wholesale; and education, health and social services). The predominance of these service jobs – which are referred to as non-tradeable, meaning employers in these sectors have less to gain from moving to a lower-wage location – is important to bear in mind when thinking about how businesses may respond to the wage standards.[2]

How will local labour markets respond to the mandates?

The weight of the recent evidence suggests that the employment effects of US minimum wage policies to date have been modest.[3] The evidence from high minimum wage cities like San Francisco, and other cities such as Santa Fe and Washington DC, also finds employment effects to date have been small.[4] The sizeable wage increases and small impact on employment lead to family incomes rising at the bottom.

Now it is possible that the much larger increases in minimum wages currently being introduced may induce greater substitution of low-skilled labour with automation or higher-skilled workers, but as is discussed by Bain and D’Arcy elsewhere in this collection, those fears can be overstated. There are also some potential gains from higher wage-floors that might help offset some of the costs.

Research indicates that low-wage workers substantially increase consumption in response to wage hikes

A growing body of evidence shows there are sizeable reductions in labour turnover following a minimum wage hike.[6] Given the cost of recruiting and training new workers, reduction in turnover can be expected to offset around one-fifth of the labour cost increases associated with minimum wage hikes in this range. The nature of high-cost metro areas means that a substantially higher minimum wage may allow more lower-wage workers to live closer to their place of work (inside the city) and reduce commuting time. This labour supply effect can also lower recruitment costs and improve the quality of the service workforce.

In part, the cost pressures from minimum wage increases are passed on to customers, especially in restaurants. Higher-income customers inside major cities may be more able to absorb price increases without cutting back on demand. This is suggested by the limited evidence we have from San Francisco.[7] Finally, other research indicates that low-wage workers substantially increase consumption in response to wage hikes.[8] Sharp wage increases may lead to local multiplier effects in certain lower income neighbourhoods.

International relevance of US city minimum wages

The lessons from the US city minimum wages may hold particular relevance in the UK and to London in particular. The two countries share a number of similarities when it comes to labour market institutions such as collective bargaining, employment protection laws and active labour market policies. And both have seen a sharp rise in wage inequality over recent decades. More specifically, the economic engine of London is similar to cities like San Francisco, Chicago, and Washington D.C: international in nature, with relatively high pay and including a large and increasingly global professional class whose demand for services has fuelled a growth in low-wage jobs.

How fertile a soil is the UK for such ideas to take root? In one sense, the US city example is a poor fit for the UK as it goes against a basic tenet of the popular and successful National Minimum Wage: that is, a single rate for the entire country. Nonetheless, it is interesting to note that the Living Wage, which has grown in salience and take-up in recent years, sets out a national rate and a higher London rate with little criticism.

Some groundwork has already been undertaken on the potential for London to have its own minimum wage above the level of the National Minimum Wage. The Bain review last year argued that the Low Pay Commission should be tasked with publishing a figure at which a London minimum wage would be set and, in due course, the Mayor could be delegated the formal power to accept or decline this higher rate. Research for Trust for London argued in 2013 that London could bear a higher minimum wage 40p above the national rate.[9] More research and discussion would obviously be required before such an idea could be put into practice. We don’t really know what level a London minimum wage should reach but, to give an extreme example, were London to aim for a similar minimum-to-full-time-median ratio to Seattle (57 per cent), it would imply a minimum wage of close to £10, above even the current London Living Wage of £9.15. 

More evidence will be needed from US cities before any firm judgement can be made on the impact of higher local wages. As more data from US cities comes in, observers from across the pond would do well to pay close attention to the impact of these policies.

Endnotes

1. M. Reich, K. Jacobs and M. Dietz, When Mandates Work: Raising Labor Standards at the Local Level, University of California Press, 2014

2. M. Reich, K. Jacobs, A. Bernhardt and I. Perry, "San Francisco's Proposed City Minimum Wage Law: A Prospective Impact Study", IRLE Policy Brief, August 2014; M. Reich, K. Jacobs, A. Bernhardt and I. Perry, “Fact Sheet: Estimated Impact of San Diego’s Proposed Minimum Wage Law”, IRLE Policy Brief, June 2014; M.M. Klawitter, M.C. Long, R.D. Plotnick, “Who Would be Affected by an Increase in Seattle’s Minimum Wage?”, City of Seattle, Income Inequality Advisory Committee, March 2014

3. A. Dube, T.W. Lester and M. Reich, "Minimum Wage Effects Across State Borders: Estimates Using Contiguous Counties", IRLE Working Paper, No 157-07, November 2011; S. Allegretto, A. Dube and M. Reich, “Do Minimum Wages Really Reduce Teen Employment? Accounting for Heterogeneity and Selectivity in State Panel Data”, IRLE Working Paper, No 166-08, April 2011

4. A. Dube, S. Naidu and M. Reich, "The Economic Effects of a Citywide Minimum Wage", Industrial & Labor Relations Review, Vol 60 No 4, July 2007; J. Schmitt and D. Rosnick, “The Wage and Employment Impact of Minimum-Wage Laws in Three Cities,” CEPR Reports and Issue Briefs, July 2011

5. A. Dube, Minimum Wages and the Distribution of Family Incomes, December 2013

6. A. Dube, T.W. Lester and M. Reich, forthcoming

7. Dube, Naidu and Reich, 2007; C.H. Colla, W.H. Dow and A. Dube, "The labor market impact of employer health benefit mandates: evidence from San Francisco's health care security ordinance" NBER Working Paper series, July 2011

8.  D. Aaronson, S. Agarwal and E. French, "The Spending and Debt Response to Minimum Wage Hikes", American Economic Review, Vol 102 No 7: 3111-39, December 2012

9. K. Ussher, London Rising: the case for a London minimum wage, Centre for London, November 2013