The economic consequences of labour market regulations

A recent working paper from the Penn Institute for Economic Research reviews the empirical evidence on the effects of a minimum wage on employment. And yes, they are still negative.

The paper is "The Economic Consequences of Labor Market Regulations"  (pdf) by Jesus Fernandez-Villaverde. The abstract reads,

What do we know about the economic consequences of labor market regulations? Few economic policy questions are as contentious as labor market regulations. The effects of minimum wages, collective bargaining provisions, and hiring/firing restrictions generate heated debates in the U.S. and other advanced economies. And yet, establishing empirical lessons about the consequences of these regulations is surprisingly difficult. In this paper, I explain some of the reasons why this is the case, and I critically review the recent findings regarding the effects of minimum wages on employment. Contrary to often asserted statements, the preponderance of the evidence still points toward a negative impact of permanently high minimum wages (Emphasis added).

The traditional view among economists of the effect of minimum wages is simple: if the minimum wage is set above the equilibrium wage you get unemployment. This core understanding of how the labour market functions has been attacked, most famously, by the publication of Card and Krueger (1994) and, three years later, by a companion book, Myth and Measurement (Card and Krueger, 1997). Card and Kruger looked a the case of an increase in the minimum wage that took place in New Jersey but not in the neighbouring state of Pennsylvania. On April 1, 1992, New Jersey increased the minimum hourly wage from $4.25 to $5.05. Pennsylvania, in contrast, kept the minimum wage at $4.25.

To most economists’ surprise, Card and Krueger documented a relative increase in employment in New Jersey of 2.75 full-time equivalent (FTE) employees per restaurant. In fact, there was even an absolute increase in employment in New Jersey and a drop in Pennsylvania (Card and Krueger, 1997, Table 2.2, p. 34). While, employment at the restaurants Card and Krueger surveyed in New Jersey went from 20.44 FTE employees per restaurant to 21.03, in Pennsylvania, it fell from 23.33 to 21.17

But as Fernandez-Villaverde notes the result has not aged well.

Card and Krueger’s results were sensational because they challenged a centuries-old understanding in economics. Also, their findings rationalized a policy intervention that has had strong political backing for almost as long. But sensational results invite close examination, and Card and Krueger’s findings have not held up to that torrent.

Refs.:

• Card, D., and A. B. Krueger (1994): “Minimum Wages and Employment: A Case Study of the Fast-Food Industry in New Jersey and Pennsylvania,” American Economic Review, 84(4), 772–93.
• Card, D., and A. B. Krueger (1997): Myth and Measurement. Princeton University Press.