Impact of the National Living Wage on businesses
Author: Frontier Economics
Date: November 2020
The introduction of the National Living Wage (NLW) in April 2016 represented an increase in hourly pay of 7.4% compared with the previous year. A research study using secure data has found that the NLW has had little impact on businesses and consumer prices. This research project enabled the NLW to be increased from £8.72 to £8.91 in 2021, giving real time pay rises to millions of workers across the UK.
This project was commissioned by the Low Pay Commission (LPC) to provide evidence on the effects that the NLW has had on employment growth and consumer prices. The LPC produces a report each year and gathers views on the current economic outlook to inform their recommendations on the NLW.
The ASHE is completed annually by employers and contains various measures of pay and hours worked. The survey is based on a 1% random sample of employee jobs taken from Her Majesty’s Revenue and Customs’ Pay as you Earn (PAYE) records.
The BSD is an annual extract taken from the Inter-Departmental Business Register (IDBR), it covers all VAT or PAYE registered firms in the UK.
This project also used three more ONS published datasets:
- Consumer Price Index (CPI)
- Annual Business Survey (ABS)
- Workplace Employment Relations Survey (WERS)
Additional data sources used:
- Low Pay Commission, 2019 report ‘20 years of the National Minimum Wage’
The researchers identified minimum wage firms based on the employee pay data recorded in ASHE and categorised them into two groups: a treatment group and a control group. The treatment group consisted of those paid below the incoming minimum wage increase and the control group was those paid 120% more than the new minimum wage. This enabled the research team to establish which sectors and firms were affected or unaffected by minimum wage labour. Once the sectors had been categorised the researchers analysed firm performance using a difference-in-difference approach to estimate the impact of minimum wages on businesses.
The data available in the BSD made it possible to analyse employment growth as well as business creation and destruction. By linking the administrative microdata from ASHE and BSD the researchers were able to include large and small firms in their research – a novel element, as previous research on NLW has been focused on large companies.
To estimate the impact of minimum wage increases on consumer prices the researchers extracted a total of 1,100 “items” between January 2005 to January 2020 from the CPI basket, creating a consistent database of prices. This enabled the project to employ a panel regression approach – a modeling method which uses longitudinal data enabling prices to be analysed over time, to test whether monthly inflation is higher in months during which the minimum wage was increased.
The results of this project show that after controlling for compositional differences, average employment growth from 2015 to 2018 was between 2 to 3 percentage points lower for the treatment group (firms that paid below the incoming minimum wage increase). This effect is noted among larger firms but is most obvious within small firms, and in the retail and food manufacturing sectors. The graph below shows the raw differences between the treatment and control groups, showing that in the majority of sectors, firms in the control group (those paying 120% above the incoming minimum wage increase) grew faster in 2015 than firms in the treatment group.
However, by repeating the difference-in-difference analysis for earlier years back to 2004, the researchers found that firms were reducing labour costs over a longer period (for example, by shops introducing self-service checkouts and firms moving services online). The researchers found that in general minimum wage firms had lower employment growth, lower growth in turnover per employee and higher survival prior to the introduction of the NLW, suggesting that these effects are not specific to the NLW.
Change in employment growth prior to the introduction of the NLW and three years later (2015 – 2018)
Since the introduction of the NLW in 2016, the project found that inflation was 0.02% higher during months when the minimum wage was increased. This effect was seen within sectors that employed a larger proportion of minimum wage labour, such as cleaning services and care providers. However, the effect is small compared to the average increase in minimum wage of 5.22%.
The project found that a 10% increase in the minimum wage could be expected to increase prices of affected goods and services by 1.1%. However, because this only applies to a small subset of items, minimum wages have a negligible impact on inflation.
This project provided evidence to the LPC that previous increases in the NLW have not had significant adverse outcomes. This research was one of six projects that helped to inform the recommendations found in the LPC’s 2020 Annual Report. Together, this evidence enabled the LPC to recommend that the NLW should be increased to £8.91 from £8.72 (representing a 2.2%/19p increase) with effect from 1 April 2021. This research project will continue to have an impact on policy as the report on consumer prices will form part of the LPC’s evidence base in 2022.
The LPC is sponsored by the Department for Business, Energy & Industrial Strategy (BEIS) who are responsible for the National Minimum Wage Policy. Ministers at BEIS and the Chancellor accepted the increases recommended by the LPC and the Government passed legislation to enact the change. This was accompanied by an impact analysis carried out by BEIS analysts, who used Frontier Economics papers as part of their evidence. The passing of this legislation made it a legal requirement for employers to pay the new NLW rate which gave real time pay rises to millions of workers across the UK.
Publications and reports
- Frontier Economics study, November 2020: Impact of National Living Wage on Businesses
- Frontier Economics study, September 2020: Estimating the Impact of Minimum Wages on Prices
Blogs, news posts, and videos
- Frontier Economics blog, December 2020: The Low Pay Commission (LPC) has published its recommendations for the National Living Wage (NLW) for next year. The headline figure is to increase by 19p to £8.91
- Low Pay Commission blog, January 2021: What does the NLW have to do with the price of fish?
- Economics Observatory news article, May 2021: How might increases in the UK minimum wage affect jobs, work and pay?
- Low Pay Commission blog, February 2022: Does a higher minimum wage affect hiring behaviour?
Presentations and awards
- LPC Research Conference, April 2019 and 2020: The Annual Research Workshop
- LPC Research Conference, September 2019 and 2020: Research Symposium
About the ONS Secure Research Service
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