As the Dow Jones plummets amid concerns of a new recession on the horizon, there will naturally be those who argue that now is the wrong time to raise interest rates. Moreover, it will certainly be the wrong time to raise wages. But it is high wages that drive the economy, not lower interest rates. Higher wages after all, afford workers greater purchasing power, which in turn enables them to demand more goods and services in the aggregate.
Over the last couple of years, many states have either raised their minimum wages or adopted them. One of the most interesting cases is that of Oregon. Between 2002 and 2014, the State of Oregon has had a steadily increasing minimum wage. In 2002 the minimum wage was $6.50 compared to the federal minimum wage of $5.15 an hour. In 2014, the state’s minimum wage was $9.10 an hour while the federal minimum wage remained at $7.25 an hour. Currently Oregon’s minimum wage is $9.25 an hour.
The standard model of competitive markets holds that a rising minimum wage will lead to lower levels of employment. But recall the 2014 report of the Congressional Budget Office (CBO) that concluded that a rise in the minimum wage to $10.10, as was proposed by President Obama in his State of the Union address, would, despite resulting in as many as 500,000 fewer jobs, would on the whole greatly benefit the economy. As many as 16 million Americans were going to see their pay rise, and they would spend it in the economy.
Oregon’s experience appears to bear this out. To understand what is happening and why the states may be a model for the nation we need to abandon the standard model of competitive markets and look at the minimum wage through the prism of wage contours. The concept of wage contours was developed by Harvard economist John Dunlop in the late 1950s, who would also serve as President Ford’s Secretary of Labor during the 1970s. Dunlop developed the concept to explain how a firm’s internal wage structure might be as much affected by external forces as internal ones.
A wage contour was defined as a group of workers with similar characteristics working in similar industries and earning similar wages. For each group there would be a group of rates surrounding a key rate, and these group rates would be affected by changes in the key rate. Within an industry, the key rate was essentially any rate serving as the reference point for the industry. As key rates were specific to industries, they could also vary from industry to industry. Similarly the logic would apply to sectors.
Therefore, if we understand the minimum wage through the prism of wage contours, then the statutory minimum wage is nothing more than a key rate for the low-wage sector. Low-wage workers working in an industry that pays slightly more than that key rate but are part of a group earning around that key rate who will also be affected by changes in that key rate.
Data from the Current Population Survey (CPS) from 2002-2014 shows that the statutory minimum wage does have an impact on wages around it. Using this data, I constructed 10 contours. Beginning with the statutory minimum wage in each year the first contour included wages between the statutory minimum wage and 25 percent above. Each successive contour ran an additional 25 percent until a total of ten were created. At the national level median wages rose in each year the statutory minimum rose, and did not rise in years when the statutory minimum did not.
In more concrete terms, between 2002 and 2006 when the minimum wage was $5.15 an hour, the median wages were $5.77 an hour in the first contour, $7.21 in the second, $9.13 in the third, and $11.54 in the fourth. The median wages in these contours did not increase until the minimum wage increased from 2007 to 2009. By 2009 when the federal minimum wage reached $7.25 an hour, the median wage in each contour was $$8.17, $10.00, $12.50 and $15.55 respectively. They have remained relatively unchanged since.
In Oregon where the minimum wage was higher to begin with and was rising consistently each year, with only one or two exceptions, median wages also rose for the most part, although there were some exceptions. During the same initial four year period median wages rose from $7.22, $9.13, $11.54 and $14.42 respectively in 2002 to $8.41, $10.58, $12.98, and $16.83 respectively in 2006. By 2009, these median wages were $9.62, $11.54, $14.42, and $18.40 respectively. And in 2014, they were $10.00, $12.50, $15.38, $20.19 respectively.
Meanwhile in Pennsylvania, where there has been no state set minimum wages, median wages have hovered around the national median wages. At the same time, unemployment, for the exception of when it peaked to 14.8 percent (according to the sample) in 2009 at the height of the Great Recession, it steadily decreased in Oregon. Between 2002 and 2008, unemployment fell from 8.8 percent to 5.6 percent. It then fell again from 14.8 percent in 2009 and 7.2 percent in 2014.
If we consider the first four contours to be constitutive of the larger low-wage labor market — what we would define as the “effective” minimum wage population — it isn’t too difficult to see the similarity between Oregon and the conclusions of the CBO report. Moreover, that the minimum wage appears to result in wages rising is actually consistent with the preponderance of studies showing that there is a strong correlation between minimum wage increases and increases in average wages, especially at the lower tail of the distribution.
Now I only presented what was happening in the first four contours; median wages following increases in the statutory minimum wage, were rising in the other contours too. On the whole, this would suggest that if we want to help those at the bottom of the distribution, the minimum wage may be an effective tool. That the median wages in other contours are also rising suggests that the larger middle class will also benefit.
Contrary to the typical big government response that often comes from Washington advising that during a recession workers need more programs, they instead really need higher wages. It is rising wages that fuel the economy because increased purchasing power leads to increased aggregate demand for goods and services. If policymakers are looking for demonstration projects to support this position, they need look no further than the states. Oregon appears to be a good example.
Oren Levin-Waldman is professor of public policy in the School for Public Affairs at Metropolitan College of New York (firstname.lastname@example.org ) and author of several books on wage policy. They include the just published: Wage Policy, Income Distribution and Democratic Theory ( http://www.routledge.com/books/details/9780415779715/#reviews ); The Political Economy of the Living Wage: A Study of Four Cities (M.E. Sharpe 2005); and The Case of the Minimum Wage: Competing Policy Models (SUNY Press 2001). He is a researcher for the Employment Policy Research Network (EPRN), and some of his work can be found at http://www.employmentpolicy.org/people/oren-levin-waldman.