Opinionista Frans Cronje 21 February 2017

New minimum wage may further worsen plight of the poor

The risk of the new minimum wage is that it is going to reduce levels of labour market absorption and participation while raising inflation and undermining entrepreneurship and economic growth.

The government has proposed a national minimum wage of R20 an hour or R3,500 per month. Research conducted in support of the new minimum wage makes the argument that higher wages may spur more economic activity and that this may limit the scale of any job losses or other negative effects on the economy ensuing from the wage. However, there is reason to be sceptical about whether this will be the case.

A first concern is that South Africa’s labour-market absorption and participation rates are extremely low – particularly for less skilled people. The absorption rate is below 50% and both measures are significantly below international norms. The male participation rate is, for example, between 15 and 20 percentage points below that of Botswana, Brazil, India, Egypt, Malaysia, Mozambique, Mexico, Turkey, and Uganda.

Minimum wage increases may have a positive effect in saturated labour markets where demand for new workers is likely to match or exceed supply. In South Africa’s case, demand levels are anaemic. Only 3-million net new jobs have been created over the past 15 years, whereas the economy needs to create nearer a million net new jobs per annum if the unemployment rate is to approach international norms over the next decade. Raising the cost of labour in such a context may put the required levels of job growth quite out of reach.

The second concern is that the number of people employed in primary and secondary industries, such as mining and manufacturing, has been falling steadily over the past 20 years, yet these are the economic sectors most able to absorb less skilled workers. The number of people working in mining has fallen by 29% since 1990. The number of factory workers has fallen by 26% over the same period. Raising the cost of labour against an already established trend of job losses may very well accelerate the losses. This will in turn further cut off access to formal employment for poor people.

The third concern is the inflationary effect of wage increases. Inflation causes great damage to the living standards of poor households by reducing the real value of already meagre incomes. The inflationary effect of the higher minimum wage may cancel out any real improvement in household income levels. Coupled with job losses and reduced formal work opportunities, the new minimum may come to reduce the living standards of poor households.

The fourth concern is that South Africa is introducing this new minimum amid extremely low levels of economic growth and investment. Since 2013, South Africa’s rate of economic growth has diverged from that of the global economy as domestic policy mistakes have reduced the competitiveness of the economy. Increasing the costs of labour at such a juncture is likely to further reduce competitiveness and, therefore, growth and, thus, the living standards of poor households.

A fifth concern is that larger established formal-sector firms may be able to absorb the costs of the new minimum by introducing new efficiencies, investing in mechanisation, cutting workers’ hours, and reducing seasonal workforces. Smaller and emerging firms will find this a lot more difficult to do and the effect of the new minimum may therefore be to advantage large established businesses while stunting entrepreneurial activity in the country. Ironically, the proponents of the new minimum may have introduced a market protection mechanism that will entrench the monopolistic nature of much of South Africa’s formal economy.

A sixth concern is that the new minimum may worsen racial inequality. The black-African absorption rate is 20 percentage points below the white rate. White South Africans are generally better equipped with the skills necessary to avoid the direct negative consequences of the new minimum. Where the new minimum does come to directly harm the employment prospects of South Africans, those South Africans will be almost exclusively black.

The seventh concern is that low levels of absorption in black communities mean that levels of labour dependency are much higher than in white communities. Dependency in this context means the number of people who do not work for every person who works. That rate is 1.3-to-1 for white people but 2.8-to-1 for black African people. A single job lost in a black household therefore affects a far greater number of people than a job lost in a white household. As white households are in addition relatively insulated against the direct negative effects of the new minimum wage, those effects are likely to have a disproportionate effect on black households. At a time when race relations are showing signs of fraying, the consequences for societal cohesion could be very serious.

The risk of the new minimum wage is that it is going to reduce levels of labour market absorption and participation while raising inflation and undermining entrepreneurship and economic growth. Many in the media and civil society have hailed the new minimum as a victory. But they are gambling with the future livelihoods of millions of people – and indirectly, therefore, with the stability of the country.

So, too, is the government, which is already on the political receiving end of South Africa’s high unemployment rates. It does not take state intervention or regulation to improve the circumstances of the poor and the unemployed. What is necessary is much higher levels of skills matched with investment-driven economic growth.

This is not a hypothesis – as so much of the argument in favour of the new minimum wage is. The relationship between skills and employment is well established in South Africa. So, too, is the relationship between investment, economic growth, and new job creation. In further undermining such investment, minimum wage advocates have more likely than not worsened the plight of the poor. DM

Frans Cronje is a scenario planner and CEO of the IRR – a think tank that promotes political and economic freedom. His second book, A Time Traveller’s Guide to South Africa in 2030, will be released in April.


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