Minimum wages in Germany and Japan

26.12.07 Publication:

Politics and economics often pull in different directions. In the world’s third biggest economy, Germany, a policy is being debated intensely that makes little economic sense but much political sense. In the world’s second biggest economy, Japan, that same policy would actually make quite a lot of economic sense. But for political reasons it has been sidelined, for now.

The policy in question is that of setting a minimum wage, to be required by law. Germany is one of the few European Union countries that has no economy-wide minimum wage, despite its traditionally strong trade unions and its history of using the law to create close co-operation between workers and management. Perhaps, in fact, that is why it has not had a minimum wage: few people have felt that one has been needed.

Competition from cheaper workers in central and eastern Europe have changed that situation, however; so did the reunification of West and East Germany in 1989 which added millions of low-paid workers to the German labour force. Inequality has increased and the lowest-paid have become poorer.

For the past decade, high unemployment has discouraged workers and their political supporters from campaigning for a minimum wage, for fear that it would destroy jobs. Now, however, unemployment is falling and the left-wing Social Democrats are the weaker partner in a “grand coalition” government led by Angela Merkel and her right-wing Christian Democratic Union. So they have taken up the issue of the minimum wage in order to strengthen their support among ordinary workers, and with success: at the end of last month, Mrs Merkel gave in to their pressure to introduce a new minimum wage for postal workers, and to consider extending that provision to ten other low-paid industries.

Politically, it makes perfect sense. But the economics are much less favourable. The problem with minimum wages is that in response to them companies are likely to employ fewer people. If demand is growing strongly in an economy or if there is a shortage of workers, then the damage to employment will be small. But if unemployment is high and so workers are not scarce, then jobs may be destroyed.

That remains a danger in Germany. Britain introduced a minimum wage in 1997, at a level higher than the one demanded by German unions (the Germans want 7.50 euros per hour, or Y1,220), but it did no noticeable harm because British unemployment was then falling, sharply, and growth was strong. Today, only 5.4% of the British labour force is unemployed, compared with 8.6% in Germany. A minimum wage is likely to keep German unemployment high—especially if the world economy slows next year, as many economists expect it to.

The most favourable economic background for a minimum wage is one of a labour shortage, with limited opportunities for companies that employ low-paid workers to transfer the work across borders. Increasingly, that description fits Japan, where unemployment is only 4% of the labour force, and where the workforce is shrinking slowly each year as the population ages and baby-boomers retire.

Yet in Japan all that the LDP government has done is to revise the minimum wage law in order to require that such wages must not be less than welfare benefits. In Japan, the minimum wage varies regionally, with a current national average level of Y687 per hour. In Tokyo the rate is Y739. But that remains far lower than is being demanded in Germany, or than the British minimum wage (Y1,250 at current exchange rates). The Tokyo wage is roughly equivalent to the lower level that is set in Britain for the youngest workers, aged 16-17.

In Japan, like in Germany, demand is weak. In 2008, economic growth could well be slow as exports become hurt by a recession in America and perhaps even slower growth in China. So if Japan were to raise the minimum wage sharply, rather than very gently as is currently planned, some people would probably lose their jobs and unemployment would rise.

However, Japan does have scarce labour. Services businesses, which are the main employers of low-paid workers, cannot easily use workers overseas instead, unlike some in Germany which can operate from Poland next door. Japan also has very weak growth in consumer spending, because wages have remained depressed. To revive the economy and to counter any decline in exports, Japan desperately needs wages and consumer spending to rise.

A sudden rise in the minimum wage next year would probably not be wise or possible. But a steady, planned rise, at rates well above the rises in consumer prices and in wages generally, carried out over the next few years, would provide a benefit in higher consumption that could well outweigh any damage to employment. A higher minimum wage would push up other wages too. It would put money directly in the hands of the people most likely to spend it straight away rather than saving it, namely the poor. And in political terms it would be a good response to concerns about inequality, stealing a potent issue away from the opposition Democratic Party of Japan.

Business groups oppose a higher minimum wage, of course. Such groups opposed the minimum wage in Britain too when it was proposed by Tony Blair’s new Labour government in 1997. But they failed to block it. If higher minimum wages were to force the notoriously inefficient service sector in Japan to find ways to boost productivity, then it could eventually be good for profits and for the economy more widely.

A higher minimum wage is bad economics for Germany, but good economics for Japan. What a pity the politics are producing exactly the wrong conclusions.