The living wage is not the answer

Something struck me whilst watching the US election. Despite Obama – as a Democrat – being generally collectivist and conscious of the hard-pressed in society (you can’t call them poor), the American ideal of standing up on your own feet and making it for yourself is still the underlying axiom of the electorate. When Obama said, “Yes, we can” in 2008, he really meant, “Yes, you can”.

The state will always be there to provide a security net, but ultimately it is down to the individual to fend for himself and to try to better his life. The essence of the American Dream is something we can learn from. In a capitalist democracy it is up to the state to provide the conditions and opportunities for aspirants, nothing more.

The UK Government has rightly honed in on this with their spin on the “strivers” of society, Miliband’s “squeezed middle” – decent people who are working hard in a tough economic climate. Indeed, Obama emphasised that if the middle class does well, America does well. But plans for a “living wage” are contradictory to this principle and economically illogical.

The proposal encourages employers to voluntarily pay a wage above the legal minimum wage – £8.30 an hour in London and £7.20 outside London. This ensures that people on low pay can afford basic everyday expenses and their general living standards rise. Indeed, more than 6 million people earn less than the living wage – around one in four UK workers – and various reports by think tanks have shown that the minimum wage may not be enough for the most rudimentary of daily expenses.

Its intentions are respectable: welfare is becoming less generous, wage increases are not keeping up with inflation and rising house prices are making borrowing more difficult. The living wage seems to be, therefore, a very humane solution to the hardship of millions of families. It has certainly been popular amongst politicians, even on the right, as a way to appease those affected by spending cuts.

The living wage would also boost demand in the economy as greater disposable income would multiply into further consumption. Workers would become more productive as they are more comfortable, and firms would be required to publish their wage levels in an attempt to make low wages a stigma. It all sounds lovely.

Unfortunately the living wage is what is known in economic terms as a botched job. It simply does not solve the very causes of lower disposable income. At the most basic level, the Government needs to concentrate all its effort into an economic recovery which will see inflation rates fall, the deficit reduced and growth quicken. This is in turn will lead to a fall in unemployment, a rise in welfare and more affordable household expenses. Call it top-down, but economic problems must have an economic solution. Shallow political measures are not the answer.

To add to this, a living wage would have adverse effects on employment. It is no great secret that if something costs more, there will be less of it. The labour market is not different – in many respects it is better left to itself than in other circumstances when intervention is necessary. Many people are currently unemployed because companies cannot afford to pay them the minimum wage, especially SMEs.

Proponents argue that since the minimum wage was introduced in 1999 the effect on the demand of labour has been negligible. The stark truth is that firms are profit-maximising machines. Managers do not sincerely care about the morality of wages or whether their employees can buy full fat or skimmed milk. They care about revenue, income flow and other horrible sounding words. So when the minimum wage was introduced they absorbed the costs and this was translated into higher prices. Fast-food restaurants in New Jersey did so when the state’s minimum wage was raised in 1992, according to a landmark study by David Card and Alan Krueger of Princeton University. Firms also skimped on non-wage benefits and trimmed the number of hours worked by low-paid staff.

The national living wage is 20 % higher (in London, 40%), however, and this is likely to make things more difficult for firms. Unemployment in the UK has perversely been lower than expected given growth rates. The living wage would surely be a blow to this.
The living wage may well be taken up by some firms. As social responsibility becomes more important to firms they may do this, but only with revenue in mind. KPMG et al. know that the good press coverage over this may well translate into more business. But other firms simply cannot afford this. Further imbalances in the labour market may arise when workers start leaving their jobs for ones that offer the living wage.

Higher wage costs would, furthermore, make companies reluctant to invest in Britain. As Britain restructures alongside the strains of globalisation, wages will fall in traditional industries. The best we can do is seem attractive to foreign investors – the living wage is not that.

All too often left wing economics has laudable intentions but unsatisfactory solutions. It seeks to solve problems through short-term panaceas that appease the social conscience but fundamentally do not tackle the root of the problem and properly address the issue. Times are tough and everyone must bear the brunt of austerity. If welfare must be cut, then the Government should try to cut the right types of welfare that will not hold back strivers. Tax avoidance should be curbed to reduce the deficit. Childcare benefits could rise to encourage more parents into work.

Most importantly, we need a fledgling economy that is growing enough to create jobs and that is robust enough to harbour affordable living costs. Once that has been achieved we can stop worrying about “living” and start striving for our very own British Dream.