ZEW President Franz Speaks Against Minimum Wages - Protectionism

Despite claims to the contrary, whenever competition threatens to become too great, protectionism becomes more popular. In 1996, the German Bundestag passed the "Arbeitnehmer-Entsendegesetz" (law on the posting of workers), in response to claims of unfair competition in the German construction market.

According to this law, construction companies from other EU states are obliged to pay a common local wage to employees temporarily posted in Germany, wherever these wages are declared generally binding. Following the introduction of the law, the Federal Minister for Labour and Social Affairs quickly declared the wages as generally binding.

At that point, the law concerned only the German construction industry. Today, employees of German abattoirs, however, are also complaining - temporary workers from Poland are happy to work at the lower wages of their native country.

Generally binding minimum wages (for Polish butchers) function as an import tax on work. To avoid a situation in which cheaper (Polish) meat products rather than cheaper workers are imported into Germany, the EU would have to consistently implement appropriate import taxes. But why would such taxes only apply to meat products, why only within the EU, and why not for all products in Germany? Is it not a scandal that a Saxony company completing an order in Bavaria is allowed to pay Saxony wages instead of the higher Bavarian standard wages if the company is not bound by a wage agreement? There is no doubt that this "wage dumping" has to be stopped, through the use of import taxes if necessary. In the field of Economic research there is exceptionally broad consensus on the negative effects of minimum wages. This wide consensus is based on various past experiences.

Firstly, the lower wage groups have increased disproportionately in the last few decades, whilst the skill-based wage structure has been compressed. It is not least because of this that low-qualified jobs are more likely to be lost. Secondly, social security and unemployment benefit have functioned as a de-facto minimum wage until recently. Welfare recipients capable of working therefore did not used to accept  lower-paid work within the regular job market, tending rather to work in the black economy. The introduction of reduced long-term unemployment benefit in Germany has been a first step to countering this undesired development. So why introduce a minimum wage now?

Certainly, there is a statutory minimum wage in many other countries. However, in many of these places, the minimum wage substitutes a hardly existing minimum income support. Furthermore, it often applies to only a comparatively small number of companies, or is ignored because of negligible sanctions or a low probability of exposure in the case of failure to pay the legal minimum wage. In some cases, the minimum wage looses its binding effect as it is defined in nominal monetary units, which means that price increases result in factual devaluation of the minimum wage if it is not adjusted. Companies can also avoid it by demanding a higher performance from its staff. Minimum wages having positive effects on employment can only occur in very specific and rather rare markets. In general, numerous empiric studies show that minimum wages tend to have a negative effect on employment. The example of France illustrates that youth unemployment is particularly badly affected.

No matter what perspective is taken here - protectionism does not solve those problems, but creates new ones.

Prof. Dr. Dr. h.c. mult. Wolfgang Franz

President of the Mannheim Centre for European Economic Research (ZEW)