Minimum wage increases are more regressive than sales taxes---lower-income families are “net-losers” because of raised prices

Advocates of higher minimum wages often cite helping poor families as the primary motive for raising its value. They argue that families primarily supported by low-wage earnings will receive a substantial portion of the benefits and, moreover, that increasing minimum wages imposes very little public or social cost. Supporters contend that employment impacts experienced by low-wage workers are small, if any at all, and the pass-through of labor costs to prices induces negligible changes.

Using data from SIPP and CES for the year 1996, the exercise described in this paper simulates the distributional impacts of the rise in the federal minimum wage from $4.25 to $5.15 implemented in 1996–97; in 2010 dollars, this increase corresponds to a change from $5.91 to $7.00. Following the assumptions maintained by advocates, the simulation presumes ðiÞ that low-wage workers earned this higher wage with no change in their employment or any reduction in other forms of compensation, ðiiÞ that these higher labor costs were fully passed on to consumers through higher prices, and ðiiiÞ that consumers simply paid the extra amount for the goods produced by low-wage labor with no change in their quantities purchased. The cost of this increase is about $15 billion, which was nearly half the amount spent by the federal government on such antipoverty programs as the federal EITC, AFDC/TANF, or food stamp program. The analysis assesses the extent to which various categories of families benefit from higher earnings and the amounts that these groups pay more as consumers through higher prices. Combining these two sides yields a picture of who gains and who pays for minimum wage increases, including the net effects for families.

On the benefit distribution side, as other research has shown, the picture portrayed by this analysis sharply contradicts the view held by proponents of the minimum wage. Low-wage families are typically not low-income families. The increased earnings received by the poorest families are only marginally higher than those of the wealthiest. One in four families in the top fifth of the income distribution has a low-wage worker, which is the same share as in the bottom fifth. Virtually as much money goes to the highest-income families as to the lowest. While advocates compare the wage levels to the poverty threshold for a family to make the case for raising the minimum wage, less than $1 in $5 of the additional earnings goes to families with children that rely on lowwage earnings as their primary source of income. Moreover, as a pretax increase, 22 percent of the incremental earnings are taxed away as Social Security contributions and state and federal income taxes. The message of these findings is clear: raising wages wastefully targets the poor contrary to conventional wisdom.

Turning to who pays the costs of an increase in the federal minimum wage through higher prices, the analysis reveals that the richest fifth of families do pay a much larger share ðthree times moreÞ than those in the poorest fifth. This outcome reflects the fact that the wealthier families simply consume much more. However, when viewed as a percentage of expenditures, the picture looks far less appealing. Expressed as a percentage of families’ total nondurable consumption, the extra costs from higher prices are slightly above 0.5 percent for families at large. The picture worsens further when one considers costs as a percentage of the types of consumption normally included in the calculation of state sales taxes, which excludes a number of necessities such as food and health care. More important, the minimum wage costs as a share of “taxable” annual expenditures monotonically fall with families’ income. In other words, the costs imposed by the minimum wage are paid in a way that is more regressive than a sales tax.

On net, the minimum wage does redistribute income slightly in favor of lower-income families, with higher-income families paying more in increased prices than they benefit from the rise in their earnings. However, adverse impacts occur within income groups. Whereas fewer than one in four low-income families benefit from a minimum wage increase of the sort adopted in 1996, all low-income families pay for this increase through higher prices, rendering three in four low-income families as net losers. Meanwhile, many higher-income families are net winners.

Political support for the minimum wage largely depends on the apparent clarity of who benefits and the inability to trace who pays for the wage increase, irrespective of whether costs are paid through higher prices, lower profits, or cutbacks in jobs or employee benefits. As shown in this study, the benefits created by the minimum wage go to families essentially evenly distributed across the income distribution; and, when minimum wage increases are paid through higher prices, the induced rise in consumption costs mimics the imposition of a value-added or sales tax with a higher tax rate enacted on the goods and services purchased disproportionately by low-income families. Effectively, then, a minimum wage increase emulates imposition of a “national consumption tax” that is more regressive than a typical state sales tax, with its proceeds allocated to families unrelated to their income. Far more poor families suffer reductions in resources than those who gain, and as many rich families gain as poor families. These income transfer properties of the minimum wage reveal it to be an ineffectual antipoverty policy.