Policies to alleviate poverty and redistribute income: national minimum wage (NMW)

Economic Development – Poverty & National Minimum Wage (NMW)

0. Foundations – The Basic Economic Problem (Syllabus 1)

• Scarcity: Resources (land, labour, capital, entrepreneurship) are limited, so choices must be made.
• Opportunity cost: The value of the next best alternative foregone. Example: If a government spends £1 billion on road building, the opportunity cost could be the £1 billion of health services that are not provided.
• Factors of production & rewards:
  • Land – rent
  • Labour – wages
  • Capital – interest
  • Entrepreneurship – profit
• Production Possibility Curve (PPC) – shows the maximum combinations of two goods that an economy can produce with its resources.

  

1. What Is Poverty?

Poverty is the condition in which individuals or households lack the resources to achieve a minimum acceptable standard of living.

• Absolute poverty: A fixed monetary threshold (e.g., $1.90 a day) below which basic needs such as food, shelter and clothing cannot be met.
• Relative poverty: Measured as a proportion of the average or median income of a society (commonly 60 % of median household income). It shows how far a household falls below the typical standard of living in that country.

2. Measuring Poverty (Syllabus 5.1)

• Absolute poverty line – a set monetary amount.
• Relative poverty line – a percentage of median (or average) household income.
• Multidimensional Poverty Index (MPI) – combines health, education and living‑standard indicators.

For a simple income‑based measure the average income per person is:

\[ \bar{y}= \frac{1}{N}\sum_{i=1}^{N} y_i \] where \(y_i\) is the income of individual \(i\) and \(N\) is the total population.

3. Causes of Poverty (Syllabus 5.2)

• Unemployment or under‑employment.
• Low wages (including insecure or part‑time work).
• Illness, disability or lack of access to health services.
• Age – children and the elderly who are not in paid work.
• Environmental factors – natural disasters, poor housing, lack of clean water.

4. Why Reduce Poverty? (Syllabus 5.3)

1. Improves health, education and overall quality of life.
2. Raises labour productivity and supports sustainable economic growth.
3. Reduces social unrest, crime and inequality.
4. Creates a fairer distribution of national income.

5. Policy Approaches to Alleviate Poverty & Redistribute Income (Syllabus 5.4)

Governments combine direct and indirect measures. The following are the key policies the syllabus expects you to know:

• Cash transfers and other social‑safety‑net programmes (e.g., child benefit, unemployment benefit).
• Progressive taxation – higher rates on higher incomes to fund redistribution.
• Improved healthcare provision – free or subsidised NHS‑type services.
• More generous state benefits – pension credits, disability allowances, housing subsidies.
• Subsidised public services (education, transport, utilities).
• Employment‑oriented measures – public works, vocational training, job‑creation schemes.
• National Minimum Wage (NMW) – a legally‑mandated floor on hourly pay.

6. Market‑Mechanism Box (Syllabus 2 – Allocation of Resources)

Demand and supply for low‑skill labour

• Demand curve (D): Downward‑sloping – firms hire workers up to the point where the wage equals the marginal product of labour.
• Supply curve (S): Upward‑sloping – workers are willing to supply more labour as the wage rises.
• Equilibrium wage (W_e) is where D = S. Quantity of labour employed = Q_e.

Minimum‑wage as a price floor

• If the statutory wage (W_min) is set above W_e, a surplus of labour (unemployment) appears: Q_s > Q_d.
• The size of the surplus depends on the price‑elasticity of supply (PES) and demand (PED). A highly elastic supply of labour means a small rise in the wage creates a large increase in the number of people willing to work, widening the surplus.

Market‑failure justification

• Labour markets can exhibit information asymmetry (workers cannot assess job quality) and externalities (e.g., low wages may increase reliance on welfare, costing taxpayers).
• Because of these failures, a mixed‑economy government may intervene with a minimum wage to ensure a fairer distribution of income.

7. National Minimum Wage (NMW) – Detailed Overview

7.1 Objectives (Syllabus 5.4)

• Raise the real income of the lowest‑paid workers.
• Reduce the gap between low and median wages.
• Encourage work rather than reliance on means‑tested benefits.
• Promote a fairer distribution of national income.

7.2 How It Works

Employers must pay at least the statutory hourly rate to all eligible workers. The rate is reviewed annually and may be indexed to inflation, average earnings or a combination of both. Coverage usually includes full‑time, part‑time and young workers, but some categories (e.g., apprentices below a certain age) may have a lower rate.

7.3 Wage Determination – Demand, Supply and the NMW

In a competitive labour market the equilibrium wage (W_e) is set where the demand for labour (derived from firms’ marginal product of labour) meets the supply of labour (workers’ willingness to work at a given wage). A minimum wage set above W_e creates a price floor:

• At the higher wage (W_min) the quantity of labour supplied exceeds the quantity demanded, producing a surplus of labour – i.e. unemployment.
• If W_min is only slightly above W_e the unemployment effect is small, while earnings of low‑paid workers rise.

Trade unions can also influence wages through collective bargaining, but the NMW provides a universal floor that applies even where unions are weak or absent.

7.4 Arguments in Favor of an NMW

• Poverty reduction: Directly raises earnings of the poorest workers.
• Increased consumer demand: Higher disposable income stimulates household spending.
• Reduced welfare dependency: Fewer workers need means‑tested benefits.
• Social justice: Guarantees a minimum standard of living for all workers.
• Potential productivity gains: Better‑paid workers may be more motivated and experience lower turnover.

7.5 Arguments Against an NMW

• Unemployment risk: Higher labour costs may lead firms to cut jobs, reduce hours or automate.
• Informal‑sector growth: Employers may move workers out of the regulated formal market to avoid the wage floor.
• Cost pass‑through: Firms may raise prices, eroding the real gain in workers’ wages.
• Regional disparities: A uniform national rate can be too high for low‑productivity regions, discouraging investment.
• Impact on small businesses: Small firms with thin profit margins may struggle to absorb higher wage bills.

7.6 Conditions for Effectiveness (Syllabus 5.4)

1. Appropriate level: Set above the prevailing low wage but below the productivity threshold of most low‑skill jobs.
2. Strong enforcement: Regular labour‑inspection, clear penalties and an accessible complaints system.
3. Complementary policies: Active labour‑market programmes (training, apprenticeships), support for small‑enterprise, and targeted tax credits for low‑income households.
4. Gradual implementation: Phased increases give firms time to adjust production techniques or pricing.
5. Coverage monitoring: Ensure the majority of low‑paid workers (including part‑time and young workers) are actually covered.

7.7 Example: United Kingdom (2024) – Recent NMW Rates

Year	National Minimum Wage (per hour)	Real change* (vs. previous year)
2022	£9.50	+2.5 %
2023	£10.42	+9.7 %
2024	£11.00	+5.6 %

*Real change accounts for inflation measured by the Consumer Price Index.

7.8 Evaluation – Does the NMW Reduce Poverty?

Empirical evidence is mixed and varies with the structure of the economy.

• High‑income, low‑informal economies (e.g., UK, Germany): Studies show modest increases in earnings for low‑paid workers with little or no measurable rise in unemployment.
• Countries with large informal sectors (e.g., many developing nations): The NMW may have limited impact because employers can shift work out of the formal market, reducing coverage.
• Magnitude of the wage rise: If the increase is large relative to the cost of living, real income improves; if it is small, the poverty‑reduction effect is limited.
• Interaction with other policies: When combined with tax credits or reduced welfare benefits, the net effect on household disposable income can be greater.
• Long‑run effects: Higher wages can encourage skill acquisition and productivity, but persistent price rises or reduced employment opportunities could offset gains.

8. Reasons for Wage Differences (Syllabus 3.3.2)

• Skill level and education – higher skills command higher pay.
• Sector of employment – private‑sector jobs often pay more than comparable public‑sector roles; high‑technology sectors pay more than low‑skill manufacturing.
• Discrimination – differences based on gender, ethnicity or age can affect earnings.
• Public vs. private provision – public‑sector wages may be set by collective agreements or legislation, while private wages are determined by market forces.

The NMW mainly targets low‑skill, private‑sector workers, thereby narrowing the wage gap in that segment of the labour market.

9. Mobility of Labour (Syllabus 4.4)

• Geographic mobility: Higher wages in a region may attract workers from lower‑wage areas, reducing local unemployment but potentially raising it elsewhere.
• Occupational mobility: If low‑skill jobs become more expensive, workers may retrain for higher‑skill occupations, increasing occupational mobility.
• Barriers: Housing costs, family ties or lack of transport can limit movement and exacerbate regional unemployment.

10. Link to Economic Growth (Syllabus 4.5)

Short‑term and long‑term effects of a higher NMW on growth:

• Short term: Higher disposable income raises household consumption, providing a boost to aggregate demand.
• Long term:
  • Potential productivity gains from a more motivated, healthier workforce.
  • Cost pressures on firms could reduce investment or encourage automation.
  • If the policy is paired with training and technology upgrades, the net effect can be positive for growth.

11. Microeconomic Decision‑Makers (Syllabus 3)

• Households: Choose how much to work (labour supply) and what to consume; affected by wages, taxes and benefits.
• Workers (as part of households): Supply labour; respond to wage changes, working conditions and job security.
• Firms: Demand labour; decide how much to produce, what technology to use and whether to absorb higher wages or adjust prices.
• Government: Sets the NMW, taxes, and welfare programmes; intervenes to correct market failures.
• Money & Banking (brief): Provides the financial system that enables firms to invest and households to smooth consumption; not directly involved in the NMW but influences overall macro‑economic stability.

12. Summary

The national minimum wage is a direct policy tool aimed at raising the income of the lowest‑paid workers and reducing in‑work poverty. Its effectiveness hinges on:

1. Setting an appropriate level (above the prevailing low wage but below productivity thresholds).
2. Ensuring strong enforcement and wide coverage.
3. Pairing the wage floor with complementary measures – training, tax credits, robust social‑security provision and support for small businesses.
4. Monitoring regional and sectoral impacts to avoid unintended unemployment.

When combined with other poverty‑reduction policies—cash transfers, progressive taxation, improved healthcare and generous state benefits—the NMW can form a key part of a government’s strategy to achieve a more equitable distribution of income and support sustainable economic development.