Minimum Wages

23.10.16 Publication:

On October 1st, the only government economic policy measure this year that is likely to boost the Japanese economy came into effect. It is positive, but was nevertheless too timid to truly be a game-changer. It is time to start planning for something bigger and more meaningful, phased in predictably and powerfully over the next five years.

What is the policy measure? Not the massive programme of monetary expansion or negative interest rates by the Bank of Japan: this is clearly having no significant impact on economic performance. Nor is it the government’s fiscal spending, useful though that may be, as it is essentially a one-off.

No, the only sustainably positive measure was one announced at the same time as that fiscal stimulus package: the 3% rise in the minimum wage, to a national average of Y823 per hour.

Japan’s principal economic problem is its weak aggregate demand. Household demand is at the core of that weakness, and it is more susceptible to government intervention than is business investment. Low wage growth is combining with low rates of annual productivity growth to keep the economy trapped in what former US Treasury Secretary Larry Summers calls “secular stagnation”.

Monetary policy is unable to affect this secular stagnation. All that the Bank of Japan is doing now is printing money to finance government spending directly, since it is now buying 70% or more of newly issued JGBs. Fiscal policy has little room of manoeuvre too, given the government’s very high levels of public debt, whether measured as gross government debt, at 240% of GDP, or more fairly as net government debt, at 130% of GDP.

Direct intervention in labour markets is the only tool that is available. In the past two decades, bargaining power has shifted sharply away from workers and towards companies. That, combined with the rise of irregular contract workers to 40% of the labour force, explains why household demand is so weak.

Statutory minimum wages are controversial among economists. Many orthodox economists believe that raising minimum wage levels will cause unemployment, as companies will hire fewer workers if their price goes up. However, that depends on the situation in the labour market. And it misses out the beneficial effect for companies of increased consumption by workers whose wages have risen.

Japan now has the perfect situation for rises in minimum wages: a tight labour market, with very low unemployment and a vacancy-to-applicant ratio that is signaling a shortage of workers.

That is why the 3% rise is so welcome, and why it is good that this year’s increase is higher than the 2.3% rise implemented last year. But there is room for much more: a bold government, one that really wanted to raise the rate of growth in a sustained manner, would have brought in a rise of at least 5%.

An even better idea, one that the Abe administration should adopt in 2017, would be to announce a programme of increases every year for the next five years that would, for example, bring the rate to Y1,000 an hour or higher.

This is what several American states are doing, including both New York and California. They are raising their state minimum wage rates to $15 an hour in steps between now and (in California’s case) 2022. At today’s exchange rate, $15 an hour is equivalent to Y1550, which is far higher than Japan’s minimum wage rate today, even in the highest region, Tokyo (Y932).

Naturally, businesses will object, as their costs will rise. But amid a labour shortage, they should be seeking greater efficiency through automation in any event, which would help compensate.

The more serious objections in fact come from government itself. In all countries, among the biggest employers of workers on minimum wage rates are government agencies and local councils, especially in health care and personal care for the elderly. So there is a direct fiscal impact.

Yet this can be absorbed, especially now that the Bank of Japan is simply monetizing government borrowing and sharply reducing the risk of a crisis in the JGB market.

The most important benefit is that workers on low wages typically spend virtually all of any wage rises they receive, as they have so little scope for saving. So money paid out boosts consumption directly.

The legendary Henry Ford, pioneer of mass production of cars a century ago, understood the point. He said that he wanted to pay his workers wages good enough that they would be able to afford to buy his cars, since producers also need consumers. It is the same argument with minimum wages.