Last March, my CEPR colleague, David Rosnick, and I finished a detailed study of the employment impact of the first three years of the San Francisco minimum wage. Back in early 2004, San Francisco established a city-wide minimum wage of $8.50 --25 percent higher than the $6.75 California state minimum wage at the time and 65 percent higher than the prevailing federal minimum of $5.15.
We analyzed employment patterns in a range of industries with a high share of low-wage workers, including fast food and retail. We compared trends in wages and employment in San Francisco before and after the increase with trends over the same period in San Francisco's adjacent suburbs and, separately, in nearby Oakland, two areas where the minimum wage was unchanged.
To rule out statistical flukes, we looked at the impact after one year, then two years, then three years. We also examined the impact on low-wage employers, regardless of industry, and we isolated the impact on small employers (fewer than 10 employees and 10 to 24 employees).
We consistently found that the minimum-increased boosted wages, but had no discernible impact on employment. Wages rose significantly in fast food, broader food services, and in low-wage establishments (regardless of industry). Because wages in San Francisco were already relatively high in retail trade, the law had no significant impact on wages in that sector. At the same time, the new, higher minimum wage had no measurable impact --one way or the other-- on employment in these same industries and establishments.
Our findings for San Francisco were not surprising. They are consistent with the large majority of recent research on city-wide and national minimum wages. But, doesn't this contradict basic economic principles? How can raising wages have no effect on employment?
The most convincing explanation is that standard economic theory does a poor job describing the low-wage labor market. In the textbook view, labor markets are "perfectly competitive," employers and workers have perfect information about all the available job openings and the skills of all available workers.
In reality, the labor market has a lot more friction. Low-wage employers have difficulty recruiting, motivating and retaining workers. Many potential low-wage workers face informational barriers when it comes to finding jobs or face transportation barriers or child-care responsibilities that limit their job search to an area near their homes. Once employers find workers, managers need to get them up to speed and motivate them to do their best. In this sense, people are very different from the other inputs into a business. And, once workers are on the job and producing at their peak, employers have to worry about losing them, especially to another employer.
These frictions can make all the difference in the low-wage labor market. A higher wage floor draws more workers into the labor force, helping with recruitment. Higher wages frequently have the effect of increasing workers' identification with and motivation on the job, increasing productivity. Higher wages also lower turnover, reducing the cost of recruiting and training new workers.
The standard "competitive" labor-market model doesn't take these off-setting cost-savings of higher wages into account. The data for San Francisco --and nationally-- suggest that these cost-savings could well be large since we consistently find little or no impact of moderate increases in the minimum wage.
If higher wages lower costs, why don't employers just go ahead and raise wages on their own? The key issue here is that in most industries, especially low-wage industries, employers have more than one way to turn a profit. Some will do just fine paying low wages and treating higher turnover and lower employee morale as a cost of doing business. Others will prosper offering higher wages paid for by lower training and recruitment costs and more motivated employees.
From a business stand point, both the "low road" and the "high road" approaches work. From a social point of view, however, the "high road" is the far better option. The minimum wage, like the one that will raise the city wage floor in San Francisco on January 1, steers all low-wage employers onto the high road.
Based on the city's own recent experience, the employment impact of Sunday's 32-cent increase will be imperceptible. That same incremental increase, however, will ensure that the city's already low-wage workers don't fall any further behind the rest of that prosperous city.