Minimum wages and unemployment: What can be learned from Russian data

Minimum wages and unemployment:

What can be learned from Russian data?

Alexander Muravyev[1] and Alexey Oshchepkov[2]

Minimum wages have long remained one of the most controversial issues in labour economics, economic policy, and politics. Introducing minimum wages, usually with the goal of promoting income equity and reducing poverty, has been criticized for its potential adverse effects on the labour market. Much of the criticism has been based on the standard labor supply and demand model, which suggests that introducing minimum wages raises unemployment, especially among low skilled workers. Opponents to this point of view emphasize that the standard perfect competition model may not adequately describe the labour market. The most prominent argument is based on the monopsony theory, which has found substantial empirical support (Ashenfelter et al., 2010). Introducing minimum wages in the monopsonistic labour market may not only increase wages of low-skilled workers, but also increase employment (see e. g., Boal and Ransom, 1997). Recent theoretical work, however, attacks the monopsony argument for using minimum wages (Cahuc and Laroque, 2009; Danziger, 2010).

Ambiguous theoretical predictions concerning effects of minimum wages have given raise to a large body of empirical literature. The vast majority of empirical works have been done using US data which is facilitated by the fact that minimum wages in US are regulated both at the federal and state levels. This generates considerable variation across space and over time, while allowing the researcher to remain within the same general institutional setting (see review by Neumark and Wascher, 2006). Evidence from other countries is scarcer, but rapidly expanding.

A brief description of the influence of minimum wages on labour markets would be not complete without saying that the introduction of minimum wages may lead to crowding out of low wage workers not only to unemployment, but also to informal employment (Maloney and Nunez, 2001; Saget, 2001). This issue is also of high importance, because informal employment is usually associated with “bad” jobs not covered by employment protection legislation.

In this paper we provide new evidence concerning effects of minimum wages on the labour market by taking advantage of recent changes in minimum wages in Russia. Importantly, these changes implied not only a considerable increase in the minimum wage relative to the average wage, but also decentralization of minimum wage setting in 2007 which gave Russian regions the right to set their own minimum wages above the federal level (this setup is quite similar to that in the US). Besides this, we also take advantage of country’s substantial regional variation in the level of unemployment, informal employment and the distribution of earnings. We believe that Russia provides the researcher with a particularly interesting testing ground for thorough examination of the effect of minimum wages on the performance of labour markets.

It is then amazing that there are virtually no papers, which analyze this issue in Russia. The only paper we know is Kobzar (2009). This study first explicitly formulated and thoroughly discussed the issue of minimum wage setting in Russia and its possible effects on the regional labour markets. All empirical findings of the paper should be treated with caution because of several methodological limitations. Perhaps, the most important of them was the use of yearly regional data which hides adjustment of regional labour markets to minimum wage hikes.

Our study is based on quarterly regional data. Data on regional quarterly unemployment and informal employment are calculated using Russian LFS (ONPZ) data. We have also calculated unemployment among specific groups, such as youth, but at the level of regions such data may have a pretty large sampling error.

We distinguish two periods - before and after September 2007. Before September 2007, minimum wage was set on the federal level; all Russian regions had the same minimum wage level. However, in the presence of huge interregional differences in wage and unemployment levels, and other parameters of labour markets, we may expect that the same minimum wage level has different impacts on regional labour markets. It is important to note that some variation in minimum wage across regions existed even before 2007 due to the system of the so-called Northern wage coefficients.

Starting from September 2007, the regions (or subjects of Russian Federation) got the right to set their minimum wages above the federal minimum, resulting in substantial differentiation of min wages across space already in 2008. This change in minimum wage setting introduced a new important source of regional variation of minimum wage levels and its effects.

For the period before September 2007, it is easy to construct a dataset of regional minimum wages. They are all equal to the federal minimum wage adjusted for Northern wage coefficients. The magnitude of this coefficient varies from 1.15 (most of the Republic of Karelia) to 2 (e. g., Chukotka) with several regions having small districts in which wage coefficients differ. In such cases we construct wage coefficients for whole regions as a weighted average of district coefficients weighted by respective population shares.

Constructing the dataset on regional minimum wage levels after September 2007 is a more difficult task. For this purpose we have carefully studied legislation on minimum wages starting from September 2007 for each subject of federation. Here, we have also controlled for that minimum wage in a region may be applied not for all enterprises, but rather for some of them, e. g., only for non-budget ones.

We are using two alternative approaches to reveal and estimate the effects of minimum wage increases on regional labour market parameters - “time-series” (TS) and “difference-in-difference” (DID) approaches.

In the TS approach we relate unemployment rate at time t (UR_t) to min wage at time t divided by the lagged average wage, at t-1. UR_t=f(MinWage_t/AvWage_t-1). Here one adds all possible controls such as seasons (quarters), years, and regional dummies (fixed effects). Lagged AvWage is necessary as the introduction of new min wages imposes changes in average wages.

In the DID approach we pick up one single change in min wages and look at this specific change. We split the sample of regions into 2 groups - a) regions heavily affected (regions with low average wages) and b) regions loosely affected by a min wage change.

Both approaches work well when the shape of the wage distribution is similar across the regions. Then, the average wage seems to be sufficient statistics for characterizing the wage distribution and the effect of min wage increases. If the wage distributions are different across regions, it may make sense to look at the lagged (with respect to the date of min wage change) distribution and identify the share of workers who are (presumably) affected by the change. For this purpose we use information on distribution of wages which is available from annual surveys of wages held by Rosstat in April each year.

Our preliminary results show that minimum wage hikes in Russia had significant effects on the performance of its labour market. In particular, we have found that minimum wage hikes affect not only unemployment rates among low-skilled groups of workers, such as youth aged 15-25, but also overall unemployment rates. We thus believe that our paper can have important implications for economic policy in the field of labor market regulation.

[1] Institute for the Study of Labor (IZA, Bonn) and St. Petersburg University Graduate School of Management. E-mail: *****@***org

[2] Center of Labour Market Studies, Higher School of Economics, Moscow, Slavyanskaya ploshad’ 4/1, office 111. E-mail: *****@***ru