Effects of the Minimum Wage on Employment Dynamics

Theory provides a basis for believing that the minimum wage may not reduce the level of employment in a discrete manner. If this is indeed the case, traditional approaches used in the literature are prone to misstating its true effects. A common statistical practice, the inclusion of state-specific time trends as control variables, will attenuate estimates of how the minimum wage affects the employment level.

If the minimum wage is to be evaluated alongside alternative policy instruments for increasing the standard of living of low-income households, a more conclusive understanding of its effects is necessary. The primary implication is that the minimum wage does affect employment through a particular mechanism. This is important for normative analysis in theoretical models and for policymakers weighing the tradeoffs between the increased wage for minimum wage earners and the potential reduction in hiring and employment. Moreover, the tension between the expected theoretical effect of the minimum wage and the estimated null effect found by some researchers can be reconciled. Because minimum wages reduce employment levels through dynamic effects on employment growth, research designs incorporating state-specific time trends are prone to erroneously estimated null effects on employment.

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