CBO and the Minimum Wage

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Written by John Schmitt   
Wednesday, 19 February 2014 15:57

You wouldn't know it from the headlines, but on almost every issue in dispute, yesterday's Congressional Budget Office (CBO) report on the minimum wage sided with supporters of increasing the federal wage floor. The only major exception --which has so far dominated the media coverage-- was with respect to the employment effects of a minimum-wage increase, where the CBO decided to saw the baby in half.

First, let's look at all the disputes where the CBO accepted the numbers and the reasoning of supporters.

The minimum wage will directly affect tens of millions of workers.

Opponents of the minimum wage like to cite Bureau of Labor Statistics (BLS) numbers that suggest that there are only about 1.6 million minimum-wage workers, ignoring that this figure refers only to worker who earn exactly the federal minimum wage of $7.25 per hour.

CBO, instead, estimates that about 16.5 million workers would receive a wage increase because the CBO correctly factored in that millions more workers who earn between the current federal minimum wage and the new proposed level of $10.10 would also receive a pay increase.

The CBO estimate of the total direct beneficiaries is almost identical to the 16.7 million worker estimate produced by the Economic Policy Institute and used widely by supporters.

The minimum wage will indirectly raise the wages of millions more.

Opponents downplay "spillover" effects of the minimum wage, that is, they say that the minimum wage is unlikely to have any impact on the wages of workers earning above the federal floor.

The CBO, however, estimates that about 8.0 million workers who otherwise would have earned just above $10.10 in 2016 would also receive a boost after the increase, as employers adjust internal pay scales to reflect the new lower wage at the bottom.

The CBO estimate is somewhat lower than EPI's projection of 11.1 million workers, but still constitutes solid recognition of the importance of "spillover" effects and the capacity of the minimum wage to influence the broader wage distribution.

The beneficiaries of a minimum-wage increase are overwhelmingly not teenagers.

Opponents argue that the typical minimum wage worker is a suburban teenager.

CBO's analysis includes all workers that would receive an increase in the minimum wage and concludes that only 12 percent of these low-wage workers are teenagers, 10 percent have a college degree, and more than half (53 percent) work full time. These numbers mirror closely the demographic data produced by EPI and widely cited by supporters of the increase.

The large majority of benefits of a minimum-wage increase would go to low- and middle-income families.

Opponents claim that the minimum wage is not well targeted to low-income families. But, CBO says 65 percent of the increase in earnings would go to families with incomes below three times the federal poverty line (or, roughly, about $60,000 for a family of three). Again, the CBO figures are close to EPI's estimates, which conclude that about 69 percent of benefits go to families with incomes below $60,000, with 23 percent going to families with incomes below $20,000.

The minimum wage will reduce poverty.

One of the sources most frequently cited by opponents of the minimum wage, David Neumark and William Wascher's book, Minimum Wages (2008), does not pull any punches on the impact of the minimum wage on poverty: "...there is essentially no empirical evidence indicating that minimum wages have beneficial distributional effects. Instead, the research tends to find either no evidence of distributional effects or evidence that minimum wages increase poverty." (p. 189)

But, the CBO report rejected this reading of the research and concluded that an increase to $10.10 would, on net, lift 900,000 people out of poverty.

The CBO's estimate of the size of poverty reduction is more conservative than recent projections produced by economist Arindrajit Dube, who concluded that increasing the minimum wage would reduce poverty by between 4.6 million and 6.8 million people, after full implementation. But, CBO clearly believes that --even after employment losses-- that the minimum wage is an anti-poverty tool.

The minimum wage is a form of stimulus.

The CBO also acknowledged and accepted the economic logic of supporters of the minimum wage who argue that by increasing the incomes of low-wage workers --who tend to spend a very high share of what they earn-- a minimum-wage increase would act as a stimulus to the broader economy.

CBO writes: "On balance, according to CBO's analysis, raising the minimum wage would increase demand for goods and services ... [by shifting] income from business owners and consumers (as a whole) to low-wage workers. Low-wage workers generally spend a larger share of each dollar they receive than the average business owner or consumer does; thus ... overall spending increases." (p. 27)

CBO's estimate that this stimulus effect would "boost... employment by a few tens of thousands of workers in the second half of 2016" is in the ballpark of EPI's estimate of about 85,000 jobs through minimum-wage stimulus.

EITC and minimum wage are complements.

Whenever efforts to increase the minimum wage gain momentum, opponents suggest expanding the Earned Income Tax Credit (EITC) instead. (The EITC is a refundable tax credit that boosts the after-tax wages of low-wage workers in low-income families, especially those with children.) Opponents see the minimum wage and the EITC as competing with one another. Supporters of the minimum wage, though, see the two policies as strongly complementary.

The EITC, in a straightforward way, increases the incentive to work. As a result, the EITC draws more people into the labor market and induces others who already have jobs to work more hours. The resulting increase in labor supply drives down the market wage (that is, the wage before EITC benefits are paid), which lowers employers' labor costs. The EITC, which was designed as a subsidy to low-wage workers, also effectively functions as a tax-payer subsidy to low-wage employers. A minimum wage puts a limit on the size of that subsidy to employers.

The two policies work well together. The EITC raises wages for low-income workers to where a minimum wage of the same level would likely cause job loss. Meanwhile, the minimum wage ensures that the benefits of the EITC go to workers, not employers.

CBO acknowledges these important issues, citing research by David Lee and Emmanuel Saez, as well as Jesse Rothstein, and concludes: "An increase in the minimum wage would shift some of that benefit [of the EITC that accrues to employers, rather than to workers] from employers to workers by requiring the former to pay the latter more." (p. 15)

On all of these issues, the CBO concluded that supporters of raising the minimum wage were right and opponents were wrong. According to CBO, raising the minimum wage to $10.10 per hour by 2016 would directly raise the wages of over 16 million workers and indirectly raise the wages of another 8 million. The beneficiaries are overwhelmingly adults, most working full-time. The benefits are well targeted, with the large majority going to low- and middle-income families. The CBO believes that the minimum wage will lift almost one million people out of poverty. The CBO also endorses both the idea of the minimum wage as stimulus and the idea that the minimum wage and the EITC are policy complements, not substitutes for one another.

Tomorrow, I'll turn to the CBO analysis of the employment effects.

Tags: CBO | earned income tax credit | EITC | minimum wage