From Chairman Harkin
Q: Your testimony included the hypothetical case of a single mother working at minimum wage in Des Moines who would purportedly lose public benefits like child care subsidies if she received a raise. This is based on an online calculator from the Urban Institute, which uses 2008 program policies and laws. However, according to the fee chart from the Iowa Department of Human Services—which is updated annually and shows current child care copays for low-income families—a single mother of one child earning $7.25 per hour and working full time would have a very low copay – paying only around $8 per month for child care. If her wage increased to $10.10, her copay would increase to $128 per month. That is, she does not lose her entire subsidy as you have asserted; rather her child care is still heavily subsidized, though she does pay a bit more. We have provided you with this fee chart. What is your response to this updated information? How do you reevaluate the hypothetical case you have presented?
A: I contacted the Urban Institute staff who produced the NICC calculations. They checked their calculations and the current Iowa subsidy charts and verified that your staff is correct. Iowa’s childcare subsidies slowly phase out until they reach a threshold value, at which point they stop entirely. The NICC uses 2008 program rules, and in 2008 that threshold value was below $10.10 an hour. Inflation adjustments since then have raised the threshold for a single mother with one child to $10.56 an hour. (The fee chart shows subsidies for parents with higher income levels; only parents of children with disabilities qualify for them.)
Re-evaluating the provided hypothetical, the single mother would face an effective marginal tax rate of 73 percent if her income rose from $7.25 an hour to $10.10 an hour. Her market income would rise by $494 a month, while she would owe $152 more in state and federal taxes and lose $129 in childcare benefits[1] and $88 in SNAP benefits. So her net income would rise by $125 a month, 25 percent of the increase in her market earnings.
If, however, she subsequently earned a 50 cent raise to $10.60 an hour she would be left worse off than if her pay remained at $7.25 an hour. At that point she would cross the eligibility threshold for childcare benefits and lose the approximately $400 a month in remaining childcare subsidies. This entirely offsets both her increased pay from the raise and the entire net income gains from going from $7.25 an hour to $10.10.
The structure of the current welfare system heavily penalizes low-income workers who earn raises or work additional hours. They receive little near-term benefit from additional work. The Des Moines Register recently reported on this problem.[2] The paper covered a single mother who, in order to maintain eligibility for childcare subsidies, now works four days a week instead of her preferred five:
Single mother Stacia Mattix of Des Moines faced losing child care assistance in December because she was making 30 cents more than allowed. The 30 cents was not going to cover the more than $300 a week she received in assistance for her two children, ages 3 years and 18 months.Her solution was to drop a day from work to remain qualified, which has cost her around $80 a week in income.
“I think it’s unfair for the people who are working and trying to make a decent living that they can’t get any help because they make a teeny-tiny bit over,” said Mattix, 22.
Mattix feels stuck. Her children must attend a child care center because of the hours she works. In-home child care would be cheaper, but she cannot find one that opens at 5:45 a.m.
“Making $10.81 an hour is not going to make up $300 a week for day care,” Mattix said. “I think something needs to be done about it.”[3]
Q: Mr. Sherk, most opponents to the minimum wage claim that the minimum wage harms teenage employment. You have made the case that increasing the minimum wage encourages more teenagers and college students to apply for minimum-wage jobs and that these new workers crowd-out adult applicants. In other words, teens gain jobs, to the detriment of adult workers. Which is it—raising the minimum wage is bad for teens, or good for teens?
A: Raising the minimum wage causes employers to hire fewer workers overall. However, it also causes some teenagers to enter the labor force and apply for jobs they would not have otherwise sought. This has ambiguous effects on teenage employment: it reduces job openings, but more teenagers apply for the remaining openings. Consequently total teen employment can either rise or fall depending on the ratio of adult to teenage workers before the increase and the change in teenage job seekers afterward.[4]
Minimum wage increases unambiguously harm the job prospects of workers, both teenagers and adults, who would have applied for jobs anyway. They face both fewer job openings and stiffer competition for those openings. As I discussed in my testimony, this lowers the ratio of adult to teenage employment within firms. It also shifts the composition of teenage employment. After minimum wage increases, businesses employ more teenagers living in affluent zip codes and fewer teenagers from lower-income zip codes.[5] The higher pay induces more affluent teens to enter the labor market. They crowd out both disadvantaged adults and disadvantaged teenagers.
From Senator Murray:
Q: Mr. Sherk: In your testimony, you discussed about the effect of increasing the minimum wage on people working minimum wage jobs. However, in Washington State, where the minimum wage is nearly $2 per hour higher than the national rate, we have seen benefits for a far larger group of low-income workers. Workers earning just above the minimum wage have also seen higher wages, putting more money into their pockets that they’ve spent in the Washington State economy. These workers may not qualify for as many federal benefits as workers earning only the minimum wage, and an extra few dollars in their paycheck can make a big difference in helping them make ends meet. Do you agree that the benefits to those workers need to be taken into account when considering the effects of an increase in the minimum wage?
A: I would agree the costs and benefits to all workers should be taken into account when considering increasing the minimum wage. This includes the extent to which employers raise the pay for employees earning near the minimum wage, and the extent they reduce or increase hiring in this group.
Policymakers should also evaluate why pay rises for workers earning near the minimum wage. One theory holds that employers want to maintain internal wage differentials—they want do not want to pay more experienced workers’ entry-level wages. Analysis shows these “ripple effects” occur to a limited degree.[6]
Minimum wage increases can also raise the pay of higher earners through “substitution effects.” Many companies face a basic choice: they can either (a) hire many low-wage, unskilled workers to do the job or (b) hire a smaller number of more highly skilled and highly paid workers and use more machines to perform the same work. This does not apply to all industries, of course—highly skilled workers are not much more productive as house cleaners, and a modern automotive factory has no place for unskilled workers. However, many businesses face this choice.
Minimum wage increases make hiring unskilled workers more expensive without raising their productivity. This increases the demand for more skilled workers, improving their job opportunities and earnings at the expense of inexperienced workers.
These “substitution effects” are the primary way that unions benefit from minimum wage increases. Unionized workers tend to be more highly paid and highly skilled than the population as a whole. They benefit when Congress makes it harder for less-skilled workers to compete against them. Research shows that a 20 percent increase in the minimum wage raises the pay of unionized workers who earn twice the minimum wage by 10 to 20 percent.[7]
Unfortunately, this comes at the cost of decreasing the earnings of families with minimum wage workers. While those who keep their jobs make more, employers cut back on hiring and hours of less-skilled workers. Consequently the total earnings of minimum wage workers drop.[8]
Senator Lamar Alexander’s Questions for the Record for James Sherk
Q: During the hearing, it was asserted that studies like those of Dr. Michael Reich studying metropolitan areas or counties across state lines are the “gold standard” of economic studies on the minimum wage. Do you agree that such studies are the “gold standard” for evaluating the economic effects of minimum wage increases? If not, please describe any problems with respect to these studies’ methodology.
A: The “gold standard” of any economic study is a randomized controlled trial, with some subjects randomly subject to the program or policy, and others randomly selected as a control group. Such studies control for all external differences between the treatment and control groups, leaving the policy as the only remaining factor driving changes between the two. Randomized controlled trials recently demonstrated that Job Corps does little to improve the wages or employability of youth who participated in the program.[9] Randomized controlled trials also demonstrated that giving long-term unemployment insurance recipients Re-employment Eligibility Assessments (REAs) speeded their return to work.[10]
Such randomized controlled trials are not possible in the context of the minimum wage debate. Congress does not randomly raise the minimum wage some firms must pay, but not others, and evaluate whether those firms hire fewer workers. This leaves researchers with a second-best approach of comparing the economic results of jurisdictions that raise their minimum wage with those that do not and then controlling for external factors that might influence the comparison.
Dr. Reich and his co-authors attempt to control for external factors with an intuitively plausible methodology: comparing counties that border each other across a state line, where one state raises its minimum wage and the other does not. It seems reasonable that such counties should be relatively similar to each other, and thus the primary difference between them would come from the higher minimum wage. However, other researchers have examined this assumption and found that counties that border each other are often very dissimilar.[11]
Dr. David Neumark (University of California at Irvine) and Dr. William Wascher (The Federal Reserve Board) analyzed how closely the labor markets of cross-border counties resemble each other. They find that among reasonable candidates for comparison, the cross-border counties “appear no better than a random draw.”[12] In the example I referenced in my written testimony, Dr. Reich’s methodology compares urban Leon County in Florida (the home county of Tallahassee and site of a major university) with its population of 275,000 with rural Grady County, Georgia, population 25,000.
Q: There was some disagreement at the hearing as to whether studies finding that minimum wage increases reduce employment have local or regional controls as compared to Dr. Reich’s studies purporting to employ local controls in comparing adjacent counties across state lines. You testified that the “heart of the dispute” between Dr. Reich’s studies and the findings of other economists, i.e., that higher minimum wages reduce employment, regards what constitutes an appropriate control group. Please explain and clarify the apparent conflict in the economic literature of the minimum wage, including the differing controls used in each.
A: Studies comparing states that raise their minimum wage to those that do not consistently find the minimum wage reduces employment. Dr. Reich and his co-authors argue this happens because states with minimum wages above the federal rate—predominantly in the Northeast and Pacific coast—have slower underlying employment growth, especially among the teenage and restaurant workers most affected by the minimum wage. They contend this drives the apparent negative relationship between higher minimum wages and lower employment. Their research deals with this potential problem by either (1) comparing cross-border counties or (2) including controls for the census region the state resides in—thus comparing changes in employment only between states in the same census division. With either of these approaches they find no correlation between minimum wage rates and lower employment.
On the first point, Dr. Neumark and Dr. Wascher object that Dr. Reich throws out large amounts useful information on the effect on minimum wage increases. For example, a rural county in Tennessee and in Michigan may have comparable labor markets. A decrease in employment in Michigan relative to Tennessee following Michigan’s minimum wage hike provides insight into the effect of higher minimum wages. But because Michigan and Tennessee do not border, Dr. Reich’s studies ignore this information.
Economists have other approaches for dealing with pre-existing trends. One involves directly controlling for state time trends. Dr. Neumark and Dr. Wascher included such controls in earlier studies and found it had no effect on their conclusions. Dr. Reich and his colleagues included controls for time trends over a period covering 1990-2009 and found that doing so removed the negative employment effect of minimum wage increases. This is one of the reasons they criticize Neumark and Wascher’s findings. However, their approach assumed that employment grows at a constant rate over time. This is unlikely to hold true, especially given the recessions of 1990, 2001, and 2008-09. When Neumark and Wascher controlled for state trends using a more flexible specification that allowed for different rates of growth during recessions and expansions they found minimum wage increases reduce employment.[13]
On the second point, Neumark and Wascher point out that many states in the same census region (such as West Virginia and Florida) have very different employment trends. They analyzed minimum wage effects separately for each census region and also analyzed the comparability of states within those regions. They found significant negative employment effects in the census regions where states are the most comparable. In census regions where state economic trends differed markedly—and thus make poor comparison groups—they found no effects.
The argument that the failure to include regional controls biases minimum wage studies hinges upon the assumption that states in the same region (or neighboring counties) are better comparisons for each other. Neumark and Wascher find this is often not the case, but that such analysis finds negative employment effects when states have similar economic characteristics.[14]
It should be noted that studies with regional controls by researchers other than Neumark and Wascher also find negative employment effects—when the comparison states are chosen on the basis of their similarity. For example, a recent study analyzed the effect of New York’s 2004 increase in the minimum wage. This study found that the nearby states of Pennsylvania, Ohio, and New Hampshire had similar economic trends. Compared with these states—or a more complex “synthetic control” method—the researchers found that teenage employment in New York fell sharply after the minimum wage rose.[15]
Q: During the hearing, you were asked about your example of the hypothetical single mother from Des Moines, Iowa earning minimum wage. It was suggested that the numbers you used from the Urban Institute did not take into account legal changes that have occurred since 2008. Would you please explain the source of your data, the method of your calculations, and your conclusions concerning how higher minimum wages combine with overlapping government social program phase-outs to create disincentives to work?
A: Many federal programs phase out as an individual’s income rises. This makes sense—the government should not be providing food stamps or welfare benefits to middle-class workers. However, Congress did not coordinate the phase-out rates across programs. As a consequence low-income workers can face extraordinarily high effective marginal tax rates as they lose benefits from multiple programs at once. Many low-income workers receive little to no net benefit from working additional hours or earning a raise. This problem particularly affects full-time workers with earnings near the federal minimum wage.
To quantify this problem the Urban Institute created a Net Income Change Calculator (NICC).[16] The calculator models how a worker’s net income changes as his or her earned income rises. It accounts for changes in: federal income and payroll tax liabilities; earned income tax credit (EITC) refund; welfare benefits (TANF); women, infants, and children benefits (WIC); food stamps (SNAP); subsidized housing; and child-care benefits. The calculator does not account for medical benefit programs like Medicaid or SCHIP. The program uses 2008 benefit eligibility rules.
I used the NICC to calculate the effective change in the income of a single mother with one child in Iowa. I assumed that the mother worked full time for the federal minimum wage of $7.25 an hour and participated in all federal programs for which she was eligible. I further assumed her child was 3 years old, that childcare cost her $700 a month, that she pays $600 a month in rent, and has $1,000 in assets as well as a vehicle worth $3,000. I evaluated the effect on her net income of a $2.85 pay increase to $10.10 an hour. Anyone can replicate my results by entering these assumptions into the NICC.
The NICC shows that, with the raise, the single mother earns $494 more a month in market income. However, after taxes and benefits her net income falls by $264. The mother pays $152 more in total taxes (including a smaller EITC refund) and loses over $600 in government benefits. The bulk of these benefit reductions ($528) came from losing eligibility for childcare subsidies. Iowa’s childcare subsidies slowly decrease over a limited income range until they hit a threshold earnings amount. At that point, they phase out entirely. In 2008, that threshold was less than $10.10 an hour in a full-time job, so a parent getting a raise to $10.10 an hour would lose eligibility for all childcare subsidies.
Sen. Harkin’s staff contacted the Iowa Department of Human Services and obtained an updated childcare fee chart indicating that a single mother of one child would currently lose $120 in benefits if her pay was raised to $10.10 an hour. Urban Institute staff determined that Sen. Harkin’s staff is correct. Inflation adjustments have increased the phase-out threshold for a full-time worker to about $10.56 an hour. (The fee chart that Sen. Harkin’s staff provided has subsidies for higher income amounts, but these only apply to the parents of children with disabilities.)
In 2013, a raise to $10.10 an hour would reduce the mother’s benefits by approximately $220, not the $600 I reported. So she faces an effective marginal tax rate of 75 percent over that income range.[17] If, however, that mother received a further 50 cent raise she would lose eligibility for all childcare subsidies. The loss in subsidies at $10.57 an hour would leave her financially worse off than if her pay had remained at $7.25 an hour.
The structure of existing social assistance programs heavily penalizes low-income workers who work additional hours or earn raises. The Des Moines Register reported on this problem, and highlighted a case of a single mother who began working only four days a week to maintain her eligibility for childcare benefits, even though she would have preferred to work full time:[18]
Single mother Stacia Mattix of Des Moines faced losing child care assistance in December because she was making 30 cents more than allowed. The 30 cents was not going to cover the more than $300 a week she received in assistance for her two children, ages 3 years and 18 months.Her solution was to drop a day from work to remain qualified, which has cost her around $80 a week in income.
“I think it’s unfair for the people who are working and trying to make a decent living that they can’t get any help because they make a teeny-tiny bit over,” said Mattix, 22.
Mattix feels stuck. Her children must attend a child care center because of the hours she works. In-home child care would be cheaper, but she cannot find one that opens at 5:45 a.m.
“‘Making $10.81 an hour is not going to make up $300 a week for day care,” Mattix said. “‘I think something needs to be done about it.”
Minimum wage increases occur in the income zone where these phase-out and threshold effects are most severe. Suburban teenagers who do not qualify for these benefits would enjoy the full benefit from a higher wage rate (assuming they kept their jobs). But low-income adults receiving government assistance would forfeit much of the economic value of their higher pay.
The government has created a system in which low-income adults benefit little from moderate increases in their pay—either through working longer hours, earning a raise, or a higher minimum wage. This is one of the reasons that just 9 percent of adults in families living below the poverty line work full-time year-round. They are responding rationally to the incentives the government has created.
Q: In response to your concern about work disincentives, it was suggested that if you were opposed to minimum wage increases due to the effect government social program phase-outs have in consuming most of the additional resulting income, then you must be in favor of increasing government benefits, or vice versa. It was asserted that by advocating against increasing the minimum wage as well as against increasing government benefits, you were arguing “two absolutely contradictory points.” Please explain and clarify your position on how the Federal government should modify government benefit phase-outs to reduce disincentives to work, and how that position relates to the proposed minimum wage increase.
A: Government social programs create extremely high effective marginal tax rates for low-income families. That is to say, as their income rises—either through a raise or a minimum wage hike—they both pay more in taxes and lose benefits. Many families with hourly earnings near the federal minimum wage face effective tax rates in excess of 70 percent—and in some cases over 100 percent—if their pay increased by one to three dollars an hour.
These punishingly high effective tax rates occur because of federal welfare programs. Congress never coordinated their phase-out rates across programs—consequently workers lose benefits from multiple programs at once over the same income zone. Congress should restructure these programs, such as by having them phase out sooner, to limit effective tax rates to no more than 50 percent over any income zone.
Without such a reform, a minimum wage increase can do little to help low-income families, even if they keep their jobs. The same applies to raises low-income families earn without federal intervention. Two-thirds of minimum wage workers earn a raise within a year, but those living near poverty experience little net financial benefit from this pay increase. The structure of social assistance programs discourages workers from gaining the experience and skills that would enable them to rise out of poverty.
Q: You testified about the effects of large minimum wage increases on the economy of American Samoa. Do these effects provide any lessons for the United States in considering whether to increase the Federal minimum wage? Please explain.
A: The federal minimum wage affects very few Americans—less than three percent of all workers. Changes in the minimum wage, while significant for those impacted, have little aggregate effect on the economy. Consequently advocates of a higher minimum wage can argue, with little risk of contradiction, that minimum wage hikes stimulate the economy—it is difficult for economists to tease out the small effects of the higher minimum wage from other factors impacting GDP. Supporters of raising the minimum wage now routinely argue that it would give workers more money, leading them to spend more, stimulating demand and the overall economy.
American Samoa put these theories squarely to the test. Congress planned to gradually increase American Samoa’s minimum wage to the federal level of $7.25 an hour. At that rate it would have covered 80 percent of all hourly workers in the territory’s economy—the equivalent of a $20 an hour increase in the continental United States. Congress suspended the minimum wage increase when it got to $4.76 an hour. At that point it covered two-thirds of employees in the tuna canning industry, the territory’s largest industry.
Such a large increase in the minimum wage had a large and visible impact on American Samoa. But it did not increase purchasing power, stimulate demand, or raise living standards. Instead the tuna canning industry contracted sharply and unemployment septupled from 5 percent to 36 percent; higher than anything America experienced during the Great Depression.[19] While wages grew, inflation grew faster, and so inflation-adjusted pay fell 11 percent.[20] The islands’ Democratic governor attributed virtually all of this economic damage to the minimum wage hike and begged Congress to suspend the increases.[21]
American Samoa’s experience demonstrates that minimum wage hikes do not produce virtuous self-reinforcing economic cycles that lead to general prosperity and growth. It also shows that employers respond to higher minimum wages the way economic theory suggests: by hiring fewer workers. Congress should weigh these costs carefully as it considers minimum wage increases. Congress had good intentions when it raised the minimum wage, but the hike hurt many of the workers Congress wanted to help.
Q: At the hearing, it was said that there are always individuals who are willing to work for less and are willing to undercut others because they desperately need the work. Do you agree this is a problem?
A: One of the problems with the minimum wage is that it makes it harder for those who need jobs the most to get them. Workers have different reservation wages—the lowest wage they will accept to work in a job. Generally speaking, the more an individual needs a job the lower their reservation wage. Workers with other options, such as teenagers supported by their parents, require higher wages to induce them to work.
Increased minimum wages encourage workers with higher reservation wages to enter the job market. They compete for job openings with workers with lower reservation wages who would have applied anyway. As a result, the workers most in need of jobs—and the opportunity to gain skills and earn raises—become less likely to get hired.
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Endnotes
[1] The calculations your staff produced assumed 20 work days a month, i.e., a four-week month. The NICC calculations assume 4.33 weeks in a month, which increases the marginal cost per month to $129 from $120.
[2] Sara Sleyster, “’Child care cliff’ makes it tough for working poor to get ahead,” The Des Moines Register, March 17, 2013, http://www.desmoinesregister.com/article/20130318/NEWS/303180039/-Child-care-cliff-makes-tough-working-poor-get-ahead.
[3] Note that Ms. Mattix receives more childcare subsidies than the hypothetical single mother I discussed because she has two children.
[4] To illustrate this consider companies A Corp. and B Inc. Before the minimum wage increase A Corp. employs only teenagers and B Inc. employs only adults. Because of the minimum wage hike A Corp. cuts its payroll and this reduces its total teenage employment—only teenagers can lose their jobs. B Inc. also cuts its payroll, but at the higher pay rate teenagers make up half of the qualified applicants for its openings. So teenagers account for half the new hires when B Inc. fills job openings. B Inc. employs more teenagers than before despite employing fewer workers.
[5] Laura Giuliano, “Minimum Wage Effects on Employment, Substitution, and the Teenage Labor Supply: Evidence from Personnel Data,” The Journal of Labor Economics, Vol. 31, No. 1 (January 2013), pp. 155-194.
[6] Jeannette Wicks-Lim, “Mandated wage floors and the wage structure: Analyzing the ripple effects of minimum and prevailing wage laws,” Ph.D. dissertation, University of Massachusetts-Amherst, September 2005.
[7] David Neumark, Mark Schweitzer, and William Wascher, "The Effects of Minimum Wages Throughout the Wage Distribution," National Bureau of Economic Research Working Paper No. w7519, February 2000, at www.nber.org/papers/w7519. Figure 3 shows that a 10 percent increase in the minimum wage increases these union members' earned income by 5 to 10 percent. Thus, a 40 percent increase could increase their earned income by 20 to 40 percent.
[8] Ibid., Figure 4B.
[9] Peter Z. Schochet, John Burghardt, and Sheena McConnell, “Does Job Corps Work? Impact Findings from the National Job Corps Study,” The American Economic Review, Vol. 98, No. 5 (December 2008), pp. 1864–1886.
[10] Eileen Poe-Yamagata et al., “Impact of the Reemployment and Eligibility Assessment (REA) Initiative,” IMPAQ International, June 2011, http://wdr.doleta.gov/research/FullText_Documents/ETAOP_2012_08_Impact_of_the_REA_Initiative.pdf.
[11] David Neumark, Ian Salas, and William Wascher, “Revisiting the Minimum Wage- Employment Debate: Throwing Out the Baby with the Bathwater?” National Bureau of Economic Research Working Paper No. 18681 (2013), http://www.nber.org/papers/w18681.
[12] Ibid., pp. 27-28.
[13] Ibid., pp. 10-14.
[14] Ibid., pp. 15-24.
[15]Joseph Sabia, Richard Burkhauser, and Benjamin Hansen, “Are the Effects of Minimum Wage Increases Always Small? New Evidence from a Case Study of New York State,” Industrial and Labor Relations Review, Vol. 65, No. 2, (April 2012).
[16]http://nicc.urban.org/netincomecalculator/
[17]Her market income would rise by $494 ($2.85/hour*40hr/week*4.33 weeks/month) but she would forfeit $152 in higher taxes, $88 in SNAP benefits, and $129 in childcare subsidies, for a net increase in income of $125 –just 25 percent of her additional earnings. Note that the figure Sen. Harkin’s staff calculated on childcare subsidies assumed a four-week month, the NICC calculations assume 4.33 weeks per month. This explains the difference between $120 and $129 in lower subsidies.
[18] Sara Sleyster, “’Child care cliff’ makes it tough for working poor to get ahead,” The Des Moines Register, March 17, 2013, http://www.desmoinesregister.com/article/20130318/NEWS/303180039/-Child-care-cliff-makes-tough-working-poor-get-ahead.
[19] Written testimony of American Samoa Governor Togiola Tulafona before the Subcommittee on Fisheries, Wildlife, Oceans and Insular Affairs of the Committee on Natural Resources, U.S. House of Representatives, September 23, 2011, Table 3.
[20] Government Accountability Office, American Samoa and the Commonwealth of the Northern Mariana Islands: Employment, Earnings, and Status of Key Industries Since Minimum Wage Increases Began, Report No. GAO-11-427, June 2011, Table 2.
[21] Written testimony of American Samoa Governor Togiola Tulafona.
