13.11.2024 | News

Study: Subminimum wages for young workers did not boost employment

Only a small fraction of retail trade companies opted to pay newly hired workers under the age of 25 subminimum wages, after policy change. This finding suggests that prevailing wage norms significantly influence firms’ wage setting.

A subminimum wage experiment was conducted in the Finnish retail sector from 1993 to 1998. The experiment allowed employers to pay new hires under the age of 25 a subminimum wage set at 80% of the standard minimum wage. The policy was intended to improve employment opportunities for young, inexperienced workers.

Researchers from the VATT Institute for Economic Research, Labour Institute for Economic Research LABORE, Centre of Excellence in Tax Research FIT, and the Universities of Jyväskylä and Tampere compared wage and employment developments in the retail trade sector to similar industries during the policy experiment. According to the results, the experiment only had a minimal impact on wages and employment.

In the early 1990’s, Finland was experiencing a severe economic crisis and youth unemployment was high. There were strong incentives for companies to save costs. Nevertheless, only a few companies chose to adopt the subminimum wage, which highlights the role of prevailing wage norms on firms’ wage setting practices,” says senior researcher Toni Juuti from Labore.

Few companies adopted the subminimum wage

The subminimum wage experiment had only little impact on the wages of young newly hired employees in the retail sector. On average, the wages of new retail employees under 25 decreased by only 5% during the experiment, instead of the possible 20% reduction. This indicates that only a fraction of retail firms opted to pay young workers a subminimum wage. Furthermore, 59% of the firms that tried the subminimum wage reverted to paying the standard minimum wage for subsequent hires.

The experiment’s impact on employment was also limited. During the recession, the number of new young hires dropped sharply across all sectors and has not returned to pre-recession levels. Despite the subminimum wage experiment, there are no significant differences in employment between the retail trade sector and other industries.

Only a fraction of firms utilized the subminimum wage, hence the experiment had no meaningful effect on wage costs or youth employment within the retail sector. This shows that subminimum wages are not an effective instrument to boost employment when wage norms are strong,” Toni Juuti concludes.

Prevailing wage norms seem to influence the effectiveness of subminimum wage policies

Paying standard minimum wages to eligible young workers does not appear to be due to their higher productivity. The researchers compared both the subminimum wage earners and the standard minimum wage earners, who were eligible for the subminimum wage policy, by examining their wages before employment and over an 18-year period afterward, finding no significant differences between the groups.

The study also shows that most firms seem to have preferred to adhere to the prevailing wage norm, despite potential cost savings. Firms with a wider wage distribution before the policy experiment—those already paying different wages for employees in similar tasks—were more likely to adopt the subminimum wages. Firm size, productivity, or financial status did not affect the take up of subminimum wages.

The results show that deviating from wage norms may entail indirect costs for firms. In firms with wider wage distributions, the indirect costs associated with adopting subminimum wages can be lower, because employees are less likely to perceive the change as unfair,” says Toni Juuti.

Credible research design

The study utilized a quasi-experimental design, comparing wage developments in the retail trade sector with similar industries unaffected by the subminimum wage policy. This research design allowed researchers to assess the experiment’s effects on wages and employment separately from other influencing factors. Nationwide employer-employee data provided a detailed information on wage setting within firms at the individual level.

Contribution to wage policy research

This research contributes to the literature on minimum wage policies by providing new insights into why subminimum wages are only rarely adopted in practice. Previous studies have produced inconclusive results on the impact of subminimum wages, but this study finds clear evidence of the impact of prevailing wage norms on firms’ wage setting practices in Finland. The findings suggest that subminimum wages may be less effective in settings where wage norms have a strong role, highlighting the need to take labour market norms and practices into account when designing policies to boost employment.

This research has been funded by Palkansaajasäätiö and Research Council of Finland.