Will Labor’s minimum wage boost “flow back into the tills of small business”? It’s complicated

“When we boost the spending power of working people the money flows back into the tills of small business.”

That is what Opposition Leader Bill Shorten said to voters in his budget reply speech last month.

“The next election will be a referendum on wages,” Shorten said.

He was, of course, referring to Labor’s living wage policy, which aims to give more than one million of Australia’s lowest paid workers a pay rise by changing the rules guiding the Fair Work Commission (FWC).

Every year the commission determines the minimum wage in all modern awards, but Labor, concerned many workers are being left in poverty, wants the safety net to become a “living wage”.

Throughout the campaign, Labor has employed some form of the argument that a wage increase would deliver a much-needed revenue boost for small businesses.

Indeed, it’s certainly been a tough few years for the retail sector. The semi-regular stream of prominent business collapses makes that much clear.

Shorten’s rationale implies businesses have nothing to worry about, but given the prospect of a material increase in payroll costs, the claim deserves a bit of scrutiny.

Why does Labor want wages to increase? In short, the opposition doesn’t think workers on the minimum wage are being paid enough.

Australia’s minimum wage is currently $18.93 an hour, or $719.20 a week, but real (inflation-adjusted) wage growth has been “anemic” for some time, increasing just 1.1% last year.

But the key question for small-business voters is whether Shorten is right when he says the extra wages impost will “flow back into the tills”.

After all, while the justification for Labor’s wage plan extends beyond the welfare of small business, its likely effects are nevertheless important for employers casting their own votes on Saturday.

Will Labor’s wage plan flow back into the tills of small business?

Professor Mark Wooden, an economist at the University of Melbourne and fellow at the Melbourne Institute of Applied Economic and Social Research, argues small businesses will be worse off.

“The spending will flow back, but in no way will it counteract the higher costs they’ll have to pay if they have minimum wage workers,” Wooden tells SmartCompany.

“The little guy who is already operating on no margin at all is going to adjust, either by ignoring the rules and taking the risk … or they’re going to do things like reducing the number of hours their employees work for,” he says.

The broad macroeconomic argument is fairly basic: higher wages, minus the savings rate, delivers higher consumer spending.

But as Wooden notes, plenty of that extra spending could be eaten up by large businesses and international online retailers, particularly if small businesses at home are forced to crank up their prices to maintain margins.

“It’s not going to be a one-for-one replacement. A lot of those extra wages will go offshore, to people buying stuff online or through big businesses,” he says.

It speaks to a common concern being raised by small-business owners SmartCompany has spoken with recently — that it will be small, local firms paying the price for others getting a revenue bump.

Small business stuck in the middle?

Simon Peterson, owner of Pepper Cafe in Flemington Victoria, says Labor’s wage plan has him worried.

“It always comes back to wages,” Peterson tells SmartCompany.

Petersen says large businesses will escape an increase in costs with enterprise agreements, while the prevalence of wage theft means it will be harder for him to compete with small businesses breaking the law.

“Labor talks about increased wages, but there’s no regulation of the industry, so what happens for the little cafe down the road paying someone cash?” he asks.

Measuring black market activity is notoriously difficult, so Australia’s wage theft problem is hard to quantify, however, the Fair Work Ombudsman and others tasked with understanding the issue generally agree it is a sizeable problem.

Figures from 2017 put together by Laurie Berg and Bassina Farbenblum at UNSW found almost a third of more than 4,322 temporary migrant workers surveyed were being paid as little as $12 an hour.

Wooden says our current understanding of Australia’s wage theft problem is probably “the tip of the iceberg”.

Earlier this week Labor unveiled a plan to crack down on wage theft by making it easier for workers to recover stolen wages, while the Coalition has suggested jail time for offenders.

“Evidence not universal”

Andreas Ortmann, an economist at UNSW who has penned a piece for The Conversation in support of Labor’s living wage policy, says the spending implications are “complicated”.

“The English evidence is that it is mostly firms [who pay] but again the evidence is not universal,” Ortmann tells SmartCompany.

“My intuition is that indeed those at the low end of the income distribution will strengthen aggregate demand by increasing their spending. 

“But, as I tried to point out in my Conversation piece, it is really not just about labour as a factor of production like any other one.”

Ortmann says Labor’s model, letting the FWC determine what increase is appropriate in consultation with stakeholders, is reasonable.

“It leaves the size of any such increase to experts rather than politicking,” he says.

Labor pledges support for businesses

Labor also plans to give businesses with less than $10 million in annual revenue a 30% tax break on the wages of employees below the age of 25, older than 55, or who are carers or parents returning to the workforce.

Limited to five employees per business for the first year and capped at $50,000 thereafter, the policy would support some small businesses dealing with wage increases.

The Greens think Labor could do one better though, and will lobby whoever wins government for a $3 billion tax break, valued at 110% of the small-business wage bill.

Referencing academic work on the efficacy of minimum wage increases, Ortmann says there’s a need to distinguish minimum wage earners from low-income households.

That is to say, some low-wage workers belong to high-income families, while all low-income families are affected by businesses passing on price increases.

This is important, not least because low-income households are generally considered to be more likely to spend in response to an expansion of their budget constraints.

It is, however, difficult to predict what effect a minimum wage increase would have on spending without knowing how big the pay bump decided by the FWC would be under Labor.

Aggregate demand is non-linear, which means modelling how workers would respond to a wage increase is difficult.

Ortmann does argue the “traditional Econ 101” understanding isn’t necessarily useful for understanding the macroeconomic effects of minimum wage policy, pointing to evidence that giving low-paid workers a pay rise doesn’t necessarily lead to adverse employment effects.

Labor also wants to reverse Sunday penalty rate cuts for some 700,000 workers, some of who will also be affected by its living wage policy.