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The National Minimum Wage

The UK's national minimum wage sets the minimum hourly wage rate that is acceptable in
law. A national minimum wage has been law in the UK since 1999, when the adult hourly rate
was set at 3.60.

The aims of a national minimum wage

The long-term aim of a minimum wage is to remove the problem of poverty pay, which exists
when the earnings from paid work do not result in a living wage and fail to push people out of
Low pay can result from a number of labour market failures, including:
Lack of access to the labour market, as a result of barriers to entry including
Lack of bargaining power by individuals in uncompetitive labour markets, such as
where there is one employer, a monopsonist. In this case the employer can adopt a
'take it or leave it' attitude.
Lack of skills leading to very elastic demand for labour, so that a 'higher' wage
would reduce demand, hence workers have to accept this wage, or remainunemployed.
Inward migration from low-pay countries, where workers are prepared to accept
extremely low wages, for often short periods of time, which this drives down the wages
for indigenous employees.
By 2009, the adult rate had risen to 5.80p per hour and the rate for 18-21 year olds to 4.77p.
In 2004, following a recommendation by the Low Pay Commission, a minimum wage of 3.00
per hour was introduced for 16-17 year olds, and by 2008 this rate had risen to 3.53.

The adult National Minimum Wage, 1998 - 2012

What are the effects of a National Minimum Wage?
If the NMW is higher than market clearing wage for a particular job, then demand will contract
and supply extend.The contraction of demand is the result of a combined income and
substitution effect in response to the higher wage rate. In other words, at a higher wage rate
the firm's income, its profits, will, ceteris paribus, fall and the firm will reduce demand, hence
the income effect. The substitution effect implies that at a high wage rate firms will look to
substitute workers when they can, for other workers or with capital. One reason the minimum
wage is fixed for all workers is to reduce the substitution effect, and make demand for labour
more inelastic.

On the supply side the higher wage will encourage existing employees to supply more labour,
or it will encourage workers out ofvoluntary unemployment. The effect can be demonstrated
in the following diagram.

For example, a minimum wage of 5.00 would create a contraction in demand to Q1, but
supply would extent to Q2 as more low skilled workers are encouraged to look for work,
creating unemployment of Q1 Q2.

The advantages of a national minimum wage:
Greater equity will be achieved, and the distribution of income between the
high paid and the low pay may be narrowed.
Poverty may be reduced as the low paid gain more income and the unemployed
may be encouraged to join the labour market. In this case the higher wage is
an incentive for individuals to supply their labour.
Less worker exploitation by labour market monopsonists, who are single
employers is able to pay below the market equilibrium.
The disadvantages of a national minimum wage:
A high minimum wage can cause price inflation as firms pass on the higher
wages in higher prices.
Falling employment, as demand contracts, and rising unemployment as supply

The competitiveness of UK goods abroad can suffer compared with low wage
economies, such as China and India.
Inward investment may be deterred, as foreign investors will look to avoid high
wage economies.
The labour market may become inflexible in response to changes in the rest of
the economy.
Workers and employers may be driven into the unofficial labour market.
The full impact depends upon:

The level of the minimum wage, and;

The elasticity of demand for and supply of labour