It is a discussion that divides Portuguese society and separates the left from the right. Does the increase in the minimum wage generate more unemployment or not? The new Nobel Prize in economics believes not.
We have been discussing in Portugal for years whether the increase in the national minimum wage causes an increase in unemployment or not. It is a discussion that has passionate economists and politicians.
In 2015, when the Government decided to increase the minimum wage from 505 to 530 euros, Pedro Passos Coelho, who had just gone to the opposition, predicted an increase in unemployment: “We will have many companies that will have difficulties in bearing these costs and that will leave to hire”.
More recently, in 2020, the current leader of the PSD, Rui Rio, defended a similar thesis: “Living on 635 euros is little, but being unemployed is worse”.
The then and current PSD leaders were not talking nonsense. This was the dominant economic current for decades and was the theory taught in colleges when both studied economics: more salaries weighed on the payroll of companies and companies, in theory, would be forced to fire to keep the same costs.
This more or less sacrosanct rule of economics fell like a house of cards when two economists — David Card and Alan B. Krueger — wrote a paper which they called the ‘Minimum Wages and Employment: A Case Study of the Fast-Food Industry in New Jersey and Pennsylvania.’
One of these authors, David Card, has just won, this Monday, the Nobel Prize in Economics. In this study carried out in the 1990s, the two authors tried to empirically prove the thesis that the increase in the minimum wage generated more unemployment.
To this end, they analyzed two neighboring US states, New Jersey and Pennsylvania. In the state of New Jersey, there was an increase in the minimum wage to 5.05 dollars/hour and in Pennsylvania the value remained at 4.25 dollars. David Card and Alan B. Krueger then went to check up on the chains of fast food, like McDonald’s in New Jersey, there would have been an increase in unemployment, as the prevailing theory professed.
Surprise: came to the empirical conclusion that, in New Jersey, unemployment not only did not rise, it even fell, unlike what happened in neighboring Pennsylvania. And in the state no McDonald’s stores were closed.
Having found no cause-and-effect relationship between raising the minimum wage and unemployment, then how did companies absorb the extra cost? In this study, which revolutionized the foundations of economic theory, the authors also came to the conclusion that in New Jersey there was an increase in prices in the chains of fast food above the one registered in Pennsylvania. That is, restaurants apparently chose to pass the extra burden of raising the minimum wage to consumers.
Conclusion: as explained this morning by a head of the Swedish central bank who awarded the Nobel Prize to David Card, the existence of a correlation does not necessarily mean a cause-effect relationship. There may be external phenomena that explain what we think is the cause and what we think is the effect.
That said, this thesis should not serve as a free hand to raise the minimum wage without looking at the consequences. Just this weekend, Joaquim Miranda Sarmento, the PSD’s spokesperson for economic issues, defended that the increase in the minimum wage in 2022 should be “substantially lower” compared to the 40 euros that are foreseen.
But Sarmento, perhaps because he is still active in the academy, does not use the unemployment argument with Passos and Rio. Antena 1 and to Business Journal, recalls that “Portugal is one of the OECD countries where the minimum wage is closest to the median which, at the moment, is around 850 euros”.
In other words, the problem is not so much in the increase in the minimum wage, which is in the middle of the table in the European comparison, but in the median wage economy that has stagnated in recent decades. António Guterres tried to change this through the “Agreement of Strategic Agreement 1996/1999”, which provided a benchmark for an increase in the average salary of 3.5%, taking into account the rate of inflation and productivity.
More recently, António Costa has also tried a Salary Pact between standards and unions to push for average wages, but the pandemic has thwarted that intention. With the pandemic waning, it’s time to put the Pact back on the table. The workers are grateful and the Nobel Prize in economics does not take it amiss.
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