The Impact of the National Minimum Wage on Small and Medium Sized Enterprises (CBR project)

Overview

Aims and objectives

The CBR was commissioned by the Low Pay Commission to explore the impact of the National Minimum Wage on small and medium sized businesses in 1999 and again in 2000. There has been a heated debate around the employment and other effects of the National Minimum Wage (NMW). Standard economic theory predicted a decline in employment, hours worked or possibly both from the introduction of the NMW. Negative employment effects might also result from the substitution of labour by machinery and equipment and/or because the costs to the firms of the NMW are increased by the restoration of wage differentials disturbed by the NMW. It is also a possibility that the employment of NMW workers might fall if workers with reduced, or without, NMW entitlement are used as substitutes. This possibility exists in Britain because only workers older than 21 are entitled to the full NMW. Workers aged 18 to 21 are entitled to a reduced NMW rate, and those below 18 are outside the scope of a legal minimum.

But theory also predicts that in some circumstances employment may rise when legislation raises wages. The NMW may, for example attract more workers or reduce labour turnover by providing workers with more information about wage levels when deciding whether or not to accept jobs. This would reduce the number of unfilled vacancies, allowing firms to operate at a higher level of employment. Firms could also counter any adverse cost effects by increasing training to raise labour productivity, by increasing efficiency and cutting costs, and by adopting product market strategies to increase revenue.

First survey

To explore the possible effects of the introduction of the NMW in 1999 the CBR augmented in two ways its regular survey of small and medium sized enterprises. First the industry coverage of the sample was extended from manufacturing and business services (advertising, management, technical and professional consultancy and telecom services) to include the cleaning and security services. These latter sectors have high concentrations of low paid workers in which the Low Pay Commission was particularly interested. In addition to extending the survey’s coverage, three questions inquiring specifically about the effect of the NMW were added to the questionnaire. The first of these questions asked the firms what proportion of their workforce was paid at the National Minimum Wage. The second question asked about the effects of the NMW on the employment of different categories of workers; hours worked; labour turnover; training; capital/labour substitution; wage differentials; and cost control (both labour and non-labour). The third question asked about the impact of the introduction of the minimum wage on the price and non-price ways by which firms competed in their main product markets.

Second survey

A second CBR survey for the Low Pay Commission was carried out between November 2000 and January 2001. It was confined to the cleaning and security sectors and targeted primarily at small and medium sized firms (i.e. below 500 employees). However, a sample of larger firms was included for the purpose of comparison. As before, the questionnaire was designed to trace the impact of the NMW on firm employment and business practices.

Prior to the conduct of the second survey an extended analysis of the data from the 1999 survey was undertaken. This was designed to investigate how the introduction of a legal floor to wages might relate to the broad range of business characteristics regularly investigated by the CBR. This analysis served as a pilot exercise in question selection for the second survey. In addition to replicating questions from the 1999 survey new ones on the effect of the NMW were added at the request of the Low Pay Commission. Other questions explored the nature of the respondents’ businesses and workforces, the competitive situations they face, and their business objectives, access to finance and use of business advice.

Results and dissemination

The findings of the first and second surveys are mutually supportive. Overall, for most of the firms surveyed the NMW had little or no effect on how they conducted their business. Only small minorities experienced employment effect, and for many of these employment increased. Few firms changed hours with a greater tendency to reduce than increase them. Similarly, small numbers of firms experienced changed labour turnover with increases predominating over reductions. More firms raised wages to restore differentials narrowed by the NMW. An increased efficiency response to the introduction of the NMW was also confined to a minority of firms. Some firms increased training and more substituted capital for labour. The NMW also induced a minority of firms to put greater emphasis on such non-price product market strategies as personal attention to the needs of clients, the quality of the services, flair and creativity, marketing and promotion, and product and service design. Generally, where the NMW impacted on the ways firms conducted their business, its positive effects on business performance predominated over its negative effect on employment. However, many small and medium sized firms reported significant limitations on their ability to respond positively. This should not be construed as an argument against the NMW, rather that an emphasis on improving the capabilities of firms to manage and compete effectively may be an essential complement to improving the terms and conditions of the people they employ.

Project leader

• Frank Wilkinson

Other principal investigators

• Anna Bullock
• Alan Hughes