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Minimum Monthly Wage Raise Leads to Growing Informal Employment

Minimum Monthly Wage (MMW) is a bad institution for fighting poverty and inequality. One of the reasons for this is Russia’s high heterogeneity. Raising MMW often leads to the death of companies and a growing shadow labour market, Alexey Oshchepkov concludes this in his study ‘Minimum Wage’s Influence on the Labour Market in Russia’

Unemployment instead of wealth

It is often believed that through raising the minimum monthly wage (MMW), the state improves the standard of living in the country and bridges the gap between rich and the poor, which in turn, fights poverty and inequality, as well as protecting employees from the possibility of the employer lowering their salaries.

The government raises the MMW regularly. The next year’s index will be 6.7%. But debates in the State Duma regarding a higher increase are continuing. For example, in mid-October Andrey Isaev, Head of the Duma Committee for Labour, Social Policy, and Veterans Affairs, called for a raise in the MMW to the level of subsistence rate for the working population, which means a raise of 40%.

At the same time, researchers from all over the world who have been studying the correlation between MMW and the standard of living over many decades still haven’t come to a conclusion on the unconditional usefulness of this regulatory tool on the labour market. Indeed, some of them believe that raising MMW can, in some cases, lead to shrinking employment and growing unemployment.

MMW spoils the labour market

Alexey Oshchepkov, Senior Research Fellow at the HSE Centre for Labour Market Studies, investigated how a rise in MMW influences the labour market in Russia. The results of his research were presented at a seminar for young researchers ‘The Secrets of the Academic Kitchen’ at the HSE.

‘This is the first advanced research in Russia into this subject’, said Vladimir Gimpelson, Director of the Centre for Labour Market Studies, ‘The topic is very complicated, since, first, it involves various actors on the market and their behaviour, and, second, the data for the study is very limited’.

Alexey Oshchepkov’s report presents the results of a series of studies on the influence of MMW on overall and youth employment and unemployment, as well as on informal employment in Russia from 2001 to 2010. The method of analysis is based on the standard approach to evaluating MMW effects on employment, suggested by D. Neumark and W. Wascher (1992), in which various indicators of the labour market are compared to the relative level of MMW on panel regional data. The study covered two periods, from 2001 to 2007, and from 2007 to 2010. This was because in 2007, Russian regions were able to fix the MMW at a higher rate than the federal level.

As a result of this research, it turned out that MMW has a negative impact on the labour market.  A rise in MMW leads to growing youth and overall unemployment, but the most stimulating effect MMW has is on informal employment.

The key variable in the study is the Kaitz index, which represents the correlation between the minimum and average wages. The author used a modified indicator: the denominator value was taken into account with a lag of one to five months. This weakened the underestimation of the MMW’s influence: a higher minimum wage automatically means a higher average wage, Alexey Oshchepkov explained.

In his study the author tried to determine what lag matters, or in other words, when we can expect MMW to have an influence on employment. It turned out that the visible effects can be tracked a quarter after a MMW raise.

It also appears that raising MMW has a low impact on overall and youth employment. Growth of the Kaitz index by 10% leads to an unemployment increase of 0.5%.

At the same time, a growth in the Kaitz index by 10% increases the share of those informally employed by 8%, and the researcher adds that he has grounds to believe that the revealed effect is on the low side: MMW is fixed both on the federal and on the regional levels, and it is very difficult to follow all the regional variations. In 2008, 60% of regions introduced their own MMW, and today their share has decreased to one third. ‘The conclusions we made correlate with the high mobility between the formal and informal sectors’, Oshchepkov said. At the same time, the researcher says, growing MMW leads to increased salaries not among the low-paid, but, on the contrary, highly-paid staff.

Vladimir Gimpelson, Director of the Centre for Labour Market Studies:

The labour market is a very complicated mechanism. While studying it, we primarily study people’s behavior, which is formed under many factors. And simple, straightforward measures may not work here. Four interconnected institutions influence the labour market. They are the MMW, unemployment benefit, the Labour Code, and the system of salary payment. That’s why one goal here can be reached by different means.

As Oshchepkov’s study has showed, MMW is a bad tool for fighting poverty and inequality. One of the reasons for this is Russia’s high heterogeneity. The effect can be two-way: one half of the country won’t survive the raise in MMW – costs will grow and companies will close, and the other half – Moscow and the oil-rich regions – won’t notice it. The fight against inequality and poverty should be conducted by other means, such as through unemployment benefit.

If we set ourselves the goal of changing the labour market and of improving productivity, we should deal with institutions, improve the investment climate and increase competition. All over the world, researchers are considering these issues, there are hundreds and thousands of papers on this topic, and in Russia, Alexey Oshchepkov’s study is the first one.

 

October 23, 2013