Indexing the Minimum Wage: A Vise on Entry-Level Wages

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Indexing the minimum wage is a rising trend at the state and local levels. Whether through a ballot initiative, as in Washington and Oregon, or state legislature, as was the case in Alaska, efforts have increased in the recent years to tie minimum wage increases to specific economic indicators such as the Consumer Price Index (CPI).

Washington, Oregon, and Alaska all have minimum wages exceeding the federal standard that also increase annually based on changes in the CPI. In the 2001 legislative session, 24 other states considered increasing their minimum wages, and 15 of these considered linking those increases to indexing.

The arguments in favor of indexing are deceptively simple. Advocates argue indexing helps low-wage workers keep up with inflation and gives “certainty” to employers about wage increases. And besides, raising the minimum wage every year keeps a divisive issue off the legislative calendar.

But mandated wage increases are proven to be vastly inefficient. Moreover, there is a general consensus that forced wage hikes lead entry-level employers to eliminate jobs or reduce work hours. Even if jobs are not cut, employers respond to higher labor costs by shifting their hiring focus to better skilled employees or more capital-intensive production, leaving the least skilled out of the labor market.(1)

Automating minimum wage increases shifts these negative effects from a once-in-a-while occurrence to an annual event, albeit in an incremental fashion. Indexing is little more than an effort to institutionalize on auto-pilot a cycle of rising labor costs leading to reduced job growth, annual harm to job opportunities for the least skilled, and constant inflationary pressure, all without any measurable reduction in poverty.(2)

(1) See David Neumark, Mark Schweitzer and William Wascher, The Effects of Minimum Wages Throughout the Wage Distribution, Working Paper 9919 (Cleveland: Federal Reserve Bank of Cleveland, December 1999), for an overview of current minimum wage research on displacement and substitution effects of minimum wage increases.

(2) See Richard K. Vedder and Lowell E. Gallaway, Does the Minimum Wage Reduce Poverty? (Washington, D.C.: Employment Policies Institute, 2001), which concludes that changes to the minimum wage have not had an effect on poverty.