Minimum Wage Policy and

Its Implications: Case of

United States and Pakistan
Labor Economics: Term Paper

Submitted To: Dr. Shumaila Nawaz

Submitted By: Adnan Ikram

Ayesha Imran Malik
Aymen Ahmad
Sania Haider Shikoh
Malik Zarbakht Khan

12/19/2014

Contents
1.

Introduction ............................................................................................................................. 2

2.

The Case of the United States.................................................................................................. 3

2.1.

The structure of minimum wage in the US ...................................................................... 3

2.2.

Effects of Minimum Wage Legislation on Employment ................................................. 3

2.3.

Effect on prices................................................................................................................. 6

2.4.

Effect on profits ................................................................................................................ 7

2.5.

An Alternative Policy-EITC............................................................................................. 8

3.

The Case of Pakistan ............................................................................................................. 11

4.

Conclusion ............................................................................................................................. 14

Works Cited .................................................................................................................................. 15

1. Introduction

Minimum wage is the designation of a price floor set in the labor market; that is, it is the lowest
hourly/daily/monthly wage rate that an employer is bound by law to pay to their workers.
The prelude to minimum wage legislation can be found in the history of medieval England. In
1348, the pandemic of the Black Plague swept across the country, exterminating most of the
population. The King and the lords owned masses of land and were reliant upon serfs to work on
them. They were now faced with a critical shortage of workers, which drove up wages. Hence,
the King imposed a wage ceiling. Payment of wage above the set rate was penalized, by the
ordinance of the Statute of Laborers. Eventually, a living wage was set and the Statute of
Laborers was amended to peg the wage to food prices.
During the early 19th century, the practice of setting minimum wages was repealed as England
adopted more capitalistic values, which disfavored the regulation of wages. Later on, however,
there was labor unrest, as workers engaged in collective bargaining through the newly
legitimized trade unions, removing the possibility of a consistent minimum wage (Mihm, 2013).
In the 1890s, in New Zealand and Australia, the first instances of the formal and legal regulation
of minimum wage occurred. These were actually initiated by the movement towards restraining
the expansion of sweatshop labor in manufacturing industries. Most of the labor was constituted
by women and the youth and it was believed that their employers exploited them by paying
inadequate wages. Therefore, the drive for minimum wage was originally intended to be a
vehicle to bring the sweatshop workers justice (Nordlund, 1997).
The theoretical effects of such legislation have implications in many aspects of the economy,
such as employment, prices and profits.
The outline of this paper is as follows, section 2 discusses the empirical evidence of the impact
of minimum wage law on the aforementioned aspects is examined, with special focus on the
United States. Furthermore, alternatives to the legislation are examined. Section 3 documents the
history and implications of minimum wage law in Pakistan. Concluding remarks are presented in
section 4 of the paper.

2. The Case of the United States

As there is insufficient data and information to carry out a meaningful analysis about the far
reaching implications of minimum wage legislation in Pakistan, the focus of this paper is that the
case of the United States, where minimum wage is fully established and implemented.

2.1.

The structure of minimum wage in the US

In the United States, the federal minimum wage was first implemented in 1938, set at
$0.25/hour. For the subsequent years, the Congress does not factor in inflation when increasing
the minimum wage level. Since 2009, the federal level is $7.25/hour. However, several states
have deviated from this level. As of 2014, the highest state minimum wage is $9.32/hour, as
implemented in Washington D.C.
Minimum wage coverage is defined as the proportion of the labor force that earns at or below the
minimum wage. As of 2012, the coverage was reported to be at 5% of the population (Oregon,
2014).

2.2.

Effects of Minimum Wage Legislation on Employment

The debate among economists and politicians over the effectiveness of minimum wage laws has
been a contentious one with both opposing sides presenting strong social and economic
arguments in their favor. The lack of empirical evidence that higher minimum wages increase
unemployment has compelled some economists to advocate minimum wage laws ignoring its
unemployment effects (Neumark & Wascher, 2007). It is obvious that minimum wage laws are
proposed solely for the purpose of protecting the income of low wage earners. The objective of
raising minimum wage is to reduce the income inequality; whether this objective is being met or
not depends which one of the two parts of the effect dominates. In accordance with the
traditional economic model of supply and demand, the effect of minimum wage laws can be
dissected into:
1. Increase in the family Income
Increasing the minimum wage floor would ensure that the low wage earners earn enough to
support themselves and their families.
2. Decreased Employment Opportunities
Some jobs for low wage earners will be eliminated and the share of low wage earners employed
in the economy will fall substantially so an increase in the minimum wage might actually reduce
the total market income received by low-wage workers.
3

Effect of Minimum Wage on Labor Market for Occupations Paying Below the Minimum Wage

Extensive research has been carried out to find which one of the two effects dominates. The
voluminous literature on minimum wages offers little consensus on the extent to which a wage
floor impacts employment. It is no disputing the fact that minimum wage law does decrease
inequality for those who get to keep their jobs. It is argued that firms cannot pay a worker more
than the value the worker brings to the firm but it opens doors for exploitation of the low skilled
workers. While the numbers of jobs lost due to minimum wage floor is trivial in the aggregate.
Little support for the classical labor market theory can be found in empirical studies.
Surveys of labor economists have found a sharp split on the minimum wage. Fuchs et al. (1998)
polled labor economists at the top 40 research universities in the United States on a variety of
questions in the summer of 1996. (Fuchs, Krueger, & Poterba, 1998)
In Favor of Minimum Wage Law
Joseph Stiglitz, Nobel winning economist argues that at low wage levels, households are
financially insecure and would therefore be willing to supply more labor to hedge themselves
against economic shocks (Stiglitz, 2001). This is called the added labor effect. At low wages,
this effect may be so high that it might contribute to unemployment rates as people struggle to
find more jobs than the economy has to offer. Curbing unemployment, therefore, requires
mitigating households risk exposure by offering higher minimum wages.

An older paper by George StiglerThe Economics of Minimum Wage Legislation, published in

1946has a less radical take on the unemployment-wage link but reaches a similar policy
recommendation regarding minimum wages. Stigler grants that a higher minimum wage will
lead to a reduction in job creation but goes on to argue that the society will still be better off with
the regulation because of productivity gains.
Brozen (1962) notes that minimum wages invariably do not cover all sectors of the economy,
and that some individuals displaced from the covered sectors take jobs in uncovered sectors at a
reduced wage rate (Brozen, 1962). The opportunity to find work in occupations that aren't
covered by the minimum wage lessens the adverse impact of the law on overall levels of
employment. Some of the effects of the minimum wage are, however, spread from the covered to
the uncovered sectors as workers in the latter sectors suffer declines in their real wages. In
addition, since the marginal product of labour is higher in the covered than the uncovered
sectors, the value of output could be increased by transferring labour back to the covered sectors.
Some of the efficiency costs of the minimum wage will therefore take the form of an inefficient
allocation of labour across the different sectors of the economy.
Individuals priced out of the labour market by the minimum wage may also start their own
businesses, or set themselves up as independent contractors. This may also lessen some of the
costs of a minimum wage.
These workers decide to become entrepreneurs, however, only after the minimum wage is
imposed. It is likely, therefore, that the expected benefits of starting their own businesses are less
than the expected returns from remaining employed at the wages that prevailed before the
minimum was imposed.
Against Minimum Wage Laws
In principle, for the neoclassical paradigm minimum wages have negative employment effects.
This iron law of neoclassical thinking came under discussion after negative employment effects
of minimum wage increases in empirical studies were difficult to find (Milka Kazandziska,
2009). The current controversy arises because the new economics of theminimum wage is at
odds with neoclassical price theory, which predicts disemployment, and with a generation of
time-series econometric research, which consistently finds evidence of disemployment effects.
Disemployment is a logically necessary result if one assumes that firms maximize profits and the
low-skilled labor market is competitive, that is, that firms have no monopsony power (Kennan,
1995).

Ever since Card (1992a, 1992b), Card and Krueger (1994) and Katz and Krueger (1994)
published their empirical findings which cast doubt on the presumed negative relationship
between binding minimum wages and employment, debate has raged as to the implications of
their research for orthodox (neo-classical) labour market theory.
A survey by Brown, Gilroy and Kohen (1982, p.524) concluded that a consensus view is that "a
10 per cent increase in the minimum wage reduces teenage employment by one to three percent"
- a conclusion which is confirmed in a review by Brown (1988).
If the government requires that certain workers be paid higher wages, then businesses make
adjustments to pay for the added costs, such as reducing hiring, cutting employee work hours,
reducing benefits, and charging higher prices. In a generally competitive labor market,
employers bid for the most productive workers and the resulting wage distribution reflects the
productivity of those workers. If the government imposes a minimum wage on the labor market,
those workers whose productivity falls below the minimum wage will find few, if any,
employment opportunities (Wilson, 2012).
Economists have increasingly recognized that raising the minimum wage does not automatically
mean that employment will fall. Increased labor costs can be absorbed through a variety of other
channels, including savings from reduced worker turnover and improved efficiency, higher
prices, and lower profits. Modern economics therefore regards the employment effect of a
minimum wage increase as a question that is not decided by theory, but by empirical testing
(Michael Reich, 2014).

2.3.

Effect on prices

Theoretically, when faced with a minimum wage increase, employers may react by setting higher
prices in order to pass on the incremental costs to the consumers.
Most studies relating to the effect of minimum wage on prices in the U.S. conclude that a 10%
increase in minimum wage causes food prices to rise by, at the most, 4% and the general price
level by 0.4% or less (Lemos, 2004).
Lemos literature review mentions four studies reviewed by Brigitte Sellekaerts (1981) which
used a Phillips curve relation expressed as a function of minimum wage. The effect a 10%
minimum-wage increase ranged from 0.15-0.76% in the studies. She transformed the wage
equation using time series data of the U.S. from the 1970s. The resulting evidence suggested that
a 10% minimum wage increase translates into a 0.2% increase in price level.

Lemos also reviews the use of difference-in-difference models in examining this effect.
Assuming that minimum wage has a larger effect on prices in lower wage regions, such studies
contrast high and low wage regions, in order to remove the effect of common factors that impact
wages in all regions. The change in relative prices therefore denotes the impact of changes in
minimum wages on prices, conditional on the fact that remaining factors affecting prices are
distributed randomly over the regions. She mentions Wessels (1980) study, which found that the
1966-1967 minimum-wage increase resulted in an increase of 2.71% in the services sector price
level.
In the case of major retail corporations, such as Walmart, it is unlikely that following a minimum
wage increase, a corporation would pass the entirety of the additional costs onto the consumers.
It was found that if minimum wage increased to $12/hour and if Walmart passed all the
additional costs to consumers, the resulting price increase would be 1.1% (Jacobs, GrahamSquire, & Luce, 2011).
Minimum wages are observed to affect restaurant industry price levels the most. Aaronson
(2001) reported that a 10% increase in minimum wage leads to a 0.7% increase in restaurant
prices. Benner and Jayaraman (2012) examined the impacts on price levels over various
industries of an increase of $10.10 in the minimum wage. With the assumption that all of the
incremental cost was passed onto consumers through prices, they estimated that over the course
of three years, restaurant prices would see an increase of 2.5%, retail food prices would increase
by 1%, warehouse, storage and accommodation prices would increase by 0.7% and the prices of
administrative and support services would increase by 0.9%. Significant price impacts were not
observed in other sectors (Reich, Jacobs, & Bernhardt, 2014).

2.4.

Effect on profits

As a potential adjustment path, employers may internalize the additional costs resulting from a
minimum-wage increase by taking on lower profits. However, studies examining the impact of
minimum wage on the profitability of firms in the US are scarce (Schmitt, 2013).
On the other hand, it has been observed that the profits of top low wage employing corporations
are rising exponentially. By late 2011, total corporate profits in the US had reached a record
breaking $1.97 trillion1, which suggests that major corporations have recovered from the
financial crisis of 2008 are earning even higher profits than before the recession. While it is
argued that raising the minimum wage above the stagnant $7.15/hour rate will discourage
corporations from hiring workers, evidence shows that the major firms are financially strong

David Reilly, U.S. Tax Haul Trails Profit Surge, Wall Street
http://www.wsj.com/articles/SB10001424052970204368104577138891310893150

Journal,

Jan.

4,

2012,

enough to accept the extra cost of a minimum wage increase, which will not threaten their profits
in the least (NELP, 2012).
NELP further elaborates this by pointing out that 66% of low-wage workers are employed by
large firms2 as opposed to small corporations. These large low wage employers have also paid
huge dividends to shareholders. For example, the average compensation given to the highest paid
executive at these corporations in 2012 was $9.4 million, while most employees were paid the
minimum wage (approximately $15,000/year).
There is some empirical evidence suggesting that increase in minimum wages can actually
increase profits. After the minimum wage hike of 1992, some companies, such as the Dollar
General Corporation, stated that due to the higher wages, employee productivity increased, hence
firm profits also increased. Consequently, the increase in profits offset the increase in firm costs
(Card & Krueger, 1995).
Card & Krueger (1995) also conducted event studies in order to gauge the impact of increasing
minimum wage on investor expectations and thus the value of firms. They took two samples of
publicly traded firms that hired a relatively large number of minimum wage workers and then
identified 23 minimum wage related news events that could affect investors expectations about
minimum wage. Hence, they tracked stock price movements in tandem with these events, while
controlling for all other market factors. However, the results provide indefinite evidence. In the
sample of events that formed the basis of their study, news about a minimum wage increase
coincided with an increase of no more than 1-2% in shareholders wealth.

2.5.

An Alternative Policy-EITC

After examining the various economic effects of the minimum wage policy, it is imperative to
evaluate an alternative policy to compare the effectiveness ofe poverty alleviation and income
redistribution goals of minimum wage policy.
One such widely practiced welfare program created in 1975 is the Earned Income Tax credit-a
refundable cash transfer boosting wages in form of negative tax that depends on each
households earnings and family structure. The Center on Budget and Policy Priorities reports
that according to 2014 statistics, working families with children that have annual incomes below
about $37,900 to $51,600 and working-poor people without children that have incomes below
about $14,300 ($19,700 for a married couple) can receive a very small EITC. It is important to
note that, minimum wage law is indirectly imposed while those of the benefits of EITC are
accrued directly. (CBPP, 2014)
2

With number of employees exceeding 100.

We start with recent empirical studies to evaluate the better vehicle for fighting poverty.
A slightly modified and expanded form of EITC, Expanded Earnings Supplement is being
implemented in the Wisconsin State, as a poverty reducing policy, along with the minimum wage
policy. An extensive report by Community Advocates Public Policy Institute, has empirically
tested the poverty reducing effectiveness of both the minimum wage increase and the increase in
expanded earnings supplement. The findings suggested that a $1.5 increase in the minimum
wage is estimated to lead to only a 0.2 percent decline in the poverty rates prevailing in
Wisconsin, through estimating the employment and spillover effects.1 (Giannarelli, Lippold, &
Martinez, 2012)

On the other hand, the same study reported that an increase in the amount of expanded earnings
supplement by $1,000 will lead to an increase in the labor supply by 3.6 percent. The effect on
poverty rates for Wisconsin initiated through this policy will lead to decrease in poverty by 1.6
percent, much greater than effect of minimum wage increase by $1.5. (Giannarelli, Lippold, &
Martinez, 2012)

Spillover effects reflect the tendency of employers with employees earning amounts near the new
minimum wage to also raise wages for those employeeseven though it is not legally required).

In another similar study, carried out by The Urban Institute using TRIM3 Stimulation Model, the
increase in minimum wage is estimated to lift about 1.7 million people out of poverty, while the
expansion of EITC program lifts 2.2 million individuals out of poverty. (Giannarelli, Morton, &
Wheaton, Estimating the Anti-poverty Effects of Changes in Taxes and Benefits with the TRIM3
Microstimulation Model, 2007)
The difference in poverty reduction of the minimum wage and EITC in the above two studies
arise due to following reasons:
The EITC provides work incentives to enter in the labor force, thereby unemployed would find it
optimal to enter in the labor market and work to receive the tax benefits associated with EITC.
(CBO, The Effects of a Minimum Wage Increase on Employment and Family Income, 2014)
Also, analyzing the budgetary and economic effects of the two welfare programs vis--vis the
cost of its implementation also enables us to compare them precisely. A report by
Congregational Budget Office, Washington found out that for a similar increase in income of
poor households, the cost of increasing the minimum wage to the employers is more than the
cost to the federal government of expanding the EITC. (CBO, 2007)
The discrepancy arises due to the difference in identities of beneficiaries of each program. It is
assumed that low hourly wage is correlated with being a poor household. This assumption was
first challenged by Nobel laureate George Stigler who asserted the weak connection between
hourly wages and amount of household income by observing the composition of income of wage

10

earners. He pointed out that household in low income relies on more than one income streams.
(CBO, 2014)
In essence, low-wage earners would find their income increased by an increase in minimum
wage, but the low-wage earners may not necessarily be those that lie below poverty line. In this
way minimum wage cannot be relied upon as an effective poverty reduction tool. While, only the
lower income group will be the one entirely benefitting from an increase in the EITC, with a
minimum leakage.
One may wonder, if EITC is proven a better alternative due to the multi-fold benefits in the form
of cost effective transfer of resources, increases in labor supply and proper targeting, then why
the minimum wage policy is kept intact and also increased from time to time in the United States
and worldwide. The debate has been around for more than two decades;
Proponents of minimum wage law dictate that EITC can only be increased by putting strains on
federal budget and maintain that minimum wage increase will be a transfer from employers to
the workers. What they fail to account for is the true economic costs in term of ineffectiveness in
terms of targeting the majority of poor. EITC accurately does that and that too while creating
incentives for work.
The capping of the federal budget makes it difficult for policy makers to increase the scope of
EITC and in turn lead to emphasis on the inferior alternative-minimum wage. (Barro, 2013)

3. The Case of Pakistan

The minimum wages in Pakistan are set as per the following two ordinances:
Pakistan Minimum Wages Ordinance 1961
West Pakistan Minimum Wages Ordinance for Unskilled Workers, 1969. This law was
amended on 1st August, 2001 and the word West was omitted leaving only Pakistan.
Workers included in the two ordinances
The Minimum Wages Ordinance of 1961 includes all industrial establishment employees
whether skilled, unskilled, technical staff, intellectual workers, apprentices and even domestic
workers. It excludes the employees of Federal and Provincial government, coalmine employees
and agricultural workers. For the coalmine workers, there is Coal Mines Ordinance of 1960.
11

Provincial Governments issue minimum wage notifications for these coal miners. (Government
of Punjab, 1961)
The West Pakistan Minimum Wages for Unskilled Workers Ordinance of 1969 as the name tells,
includes only unskilled workers. Unskilled workers are those who dont require any special skills
or training. This ordinance is applicable to every industrial and commercial establishment but it
does not include the workers in the service of Pakistan, defense services, postal services, fire
fighters, electricity workers, water supply, gas and hospital workers. (Provincial Assembly of
Punjab, 1969)
Why are certain groups of workers excluded?
The 1961 Wage Ordinance excludes employees of federal and Provincial Govt., coalmine
employees and agricultural workers. The wages of coalmine workers are determined through the
Coal Mine Ordinance of 1960. As for the agricultural workers, they should be included in the
Minimum Wages Ordinance but the fact is that they are not included. They are the most
exploited workers in Pakistan.
Workers Exploitation
Many agricultural are exploited badly in the society. Powerful landlords treat the agricultural
workers as slaves and pay them wages in kind. They are unable to organize themselves because
of being fully dependent on landlords and feudal masters. Agriculture workers get employed for
less than six months in a year and often migrate and get employed in other areas such as
construction and similar other occupations during the off-season. Due to harsh conditions, many
workers are forced to lend money time-to-time from private source. Ministry of Labor and
Manpower has prepared a draft of Employment and Service Conditions Act 2009. But even in
this draft there is no reference for the extension of the said legislation to agricultural workers.
Half of the agricultural workers are immigrants who move from one district to other and from
one province to another. They work 12 hours per day with no rest at all and are hardly provided
any housing facility and their wages are delayed for no reason. (Ghani, 2012)
Brick-kiln workers especially have to suffer extremely harsh conditions throughout their life.
The intensity of bondage labors in brick-kiln is very high. A 2004 survey of brick kilns in Punjab
by the Federal Bureau of Statistics found that almost 90 % of workers took advances from their
kiln-owner. The workers tell that the time period of their loan repayment is infinite. Many
workers are illiterate and do not know how much loan needs to be repaid. Surveys tell that there
are still 3.2 million brick kiln workers in the country despite the fact that the Supreme Court
abolished bonded labor two decades back. But governments are not ready to enforce the law. A
12

person becomes a bonded worker when their work is demanded as a technique of repayment for
a loan. The person is then tricked or maybe trapped into being employed by very no pay, often
for 1 week a week. Debt bondage has become defined by the United Nations as a form of
"modern day slavery which is prohibited by intercontinental law.
Worst of all that these workers are not even listed as citizens. They normally move from spot to
place and have no identity cards, societal security cards, medical benefits or every other benefits
enjoyed through permanent government staff., (Triple Bottom Line, 2012)
Punishment of violating the Ordinance
1961 Ordinance: Any business who repudiates the procurements of this segment should be
culpable with detainment for a term which may stretch out to six months or with fine which may
stretch out to five hundred rupees or with both, and if the court attempting such contradiction by
request so guides, might likewise pay to the specialist concerned such whole as may be defined
in the request to speak to the distinction between the sum really paid to such laborer and the sum
which would have been paid to him had there been no such contradiction.
1969 Ordinance: Any employer who contradicts any procurements of this Ordinance should be
culpable with straightforward detainment for a term which may reach out to six months, or with
fine which may stretch out to two thousand rupees, or with both.
Is the minimum wage law being followed in Pakistan?
As per the most recent enactment in 2014, the govt. has set the lowest pay permitted by law for
incompetent specialists at Rs.12000 every month. The inquiry is, do individuals truly win that
much in our nation? According to the Labor Force Survey 2012-13, 60pc of utilized individuals
win short of Rs.10000 every month (20pc gain up to Rs.5000 and 40pc between Rs.500010,000). Only 22pc lucky workers procure more than Rs.15000 every month. Everybody has
data about the base wages for incompetent laborers. Anyway even work pioneers are not able to
get least wages for gifted and semi-talented specialists. The unskilled workers constitute about
70 % of our economy-accordingly bringing down the impacts of the lowest pay permitted by law
arrangement. Govt. should entirely uphold the law with the goal that the remaining 30 % formal
segment has the capacity advantage from the positive impacts of the lowest pay permitted by
laws. (The Wage indicator, 2011)

13

4. Conclusion
The paper presented deals with an important policy implemented and followed in almost all the
countries of the world-the minimum wage legislation. As an imperative technique to lift the
wages of the low income earners, minimum wage law has a large debate around its wide ranging
implications and effects on the economy.
Starting with the origin and history of minimum wage law, we inquired into the effects of the
policy in the context of United States. Empirical studies have shown that the effect of minimum
wage law on employment i.e. employment effect is weak in contrast to that proposed by the
neoclassical theory of labor. Also, the effects on prices of the products produced by firms
covered by the law are meager, meaning that firms do not entirely pass the increase in their costs
on customers. On the other hand, some studies showing the effect of policy on the profits of the
firms indicate increase rather than a decrease in profits of the firms due to increase in
productivity of employees. The debate around the effectiveness of minimum wage law regarding
poverty alleviation led economists in U.S to detail out an alternative-the EITC. Empirical
research providing comparison of both the policies deduced unanimously that EITC is a superior
policy due to accurate targeting of the low income households and consequently less leakage in
economy. In summary, our assessment of the research evidence indicates that minimum wage
mandates raise the incomes of low-wage workers and their families, and that the costs to
businesses are absorbed largely by reduced turnover costs and by small price increases.
After analyzing the case of the U.S for the policy, we also researched into the trend of minimum
wage law and its compliance in our own country-Pakistan. The documents were insufficient to
present a case for the effects of minimum wage policy in Pakistan therefore, the paper shifted its
focus to the Wage Ordinances that govern the minimum wage policy. In the end, a critical
analysis of the implementation of the Ordinance reveals that exclusion of agriculture and coal
mine workers have led to their massive exploitation. Henceforth, the problem lies in in the
implementation of the Ordinance that was carved for the protection of low wage workers. The
policy must be renewed to include the bonded laborers.

14

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