Minimum Wage Increases and the Business Failure Rate

By Waltman, Jerold; McBride, Allan et al. | Journal of Economic Issues, March 1998 | Go to article overview
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Minimum Wage Increases and the Business Failure Rate

Waltman, Jerold, McBride, Allan, Camhout, Nicole, Journal of Economic Issues

One of the staple arguments that business groups, especially those representing small businesses, use against minimum wage increases is that they will drive a number of firms out of business entirely. The logic is simple and straightforward. Since business firms are presumably employing resources at maximum efficiency, rising labor costs must be absorbed somewhere. One alternative is price increases; but some industries will encounter an inelastic demand for their products, and consumers will spend elsewhere. Falling revenues for that industry will result in some firms being pushed into bankruptcy. Alternatively, companies may reduce the number of workers, but then fewer customers can be served, and again the less efficient firms go under. Finally, firms may substitute technology for workers; this requires capital investment, which some firms cannot afford. The less heavily capitalized will consequently exit the market. Have higher minimum wage rates, though, been associated with actual increases in the rate of business failures?

Dunn and Bradstreet [1985] has published data on rates of business failures from 1926 to 1983.(1) To shed some empirical light on the alleged relationship between minimum wages and business failures, we conducted three exercises utilizing the failure rates from 1949 (the year of adoption of the first postwar increase in the minimum wage) to 1983. First, we asked whether the failure rate during the years when the minimum wage rose was higher than the longer-term average. Second, we asked the same question for each of the years following immediately after a minimum wage hike went into effect (referred to hereafter as the "lag years"). Third, we examined the effect of the magnitude of the increase in the minimum wage on the failure rate.

Figure 1 presents the actual rate of business failures, with the years of minimum wage increases noted, while Figure 2 does the same for the lag years. The overall mean failure rate is 47.5 per 10,000 concerns.

Comparing the years when there was an increase in the minimum wage with other years, the rate was 43.2 in the former and 50.0 in the latter. Shifting to the lag years, the situation is only marginally different. The means are 48.4 for the year following a hike in the minimum wage and 47.6 in the remaining years.

Table 1. Business Failure Rates in Selected Years

                                             Mean Number of Failures
                                             (Per 10,000 Concerns)

Years with minimum wage increases                    43.2

Years with no increase in the minimum wage           50.0

Years immediately after those in which
minimum wage increases took effect                   48.4

Years other than the years immediately
after those in which minimum wage
increases took effect                                47.6

Perhaps even more interesting is the result of regressing the magnitude of the minimum wage increase on the failure rates for both the year of the increase and the lag year. If the position of business spokespersons is correct, then larger increases in the minimum wage should lead to more failures than smaller ones do. However, what happens is just the opposite.

The regression coefficients are b = -69.

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