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How does playing with the minimum wage end?

25 Sept 2019 15:23|Marcin Lipka

"Mass redundancies of trade workers, protests by both employees and employers, and attempts to circumvent the requirements of an increasingly fast-growing minimum wage. This is how the South Korean President's experiment with a radical increase in the lowest wages ends", writes Marcin Lipka, Conotoxia Senior Analyst.

Minimum wage

There is no better example of world economic success than South Korea. Uninterrupted GDP growth over the last 20 years is linked to low public debt and the persistently high current account surplus for more than a decade. Moreover, Seoul can be proud of having global champions in the automotive and consumer electronics industries, as well as incredibly high research and development expenditure, which significantly increases the chances of long-term prosperity.

However, even such a well-managed and robust economy is not immune to disastrous political decisions. One of them was a campaign promise to raise the minimum wage. President Moon Jae-in, who was running for office, assured that the lowest salary would increase by about 55% in just three years. The ruling party in Poland promises similar growth.

Everyone is to earn a minimum of 10,000

After the impeachment and sentencing the former president of Korea, Park Geun-hye in 2017, Moon had a wide-open door to the Blue House. Unfortunately, the left-wing candidate made a fundamental mistake and, contrary to common sense and even a cold political calculation, promised to make the impossible. He wanted to raise the hourly wage from 6,470 to 10,000 won per hour by 2020, i.e. to the equivalent of nearly 9 USD (a level much higher than in the USA).

According to estimates including the expected wage growth in the entire economy, the minimum salary would be about 70% of the median and 60% of the average wages, which is the highest in the OECD. The protests of the Korea Federation of SMEs (small and medium enterprises), whose 92 % of the surveyed participants in mid-2017 opposed such a radical increase in wages, were of no use. However, the voices of reason and good sense came not only from the home country but also from abroad.

The IMF, OECD and the state think-tank warned about the destructive politics

Shortly after the decision to raise the lowest wages by 16% for 2018, the International Monetary Fund intervened. In November 2017, the head of the IMF mission for Korea, Tarhan Feyzioglu, said that the government should significantly slow the growth pace, as it may affect the country's competitiveness and employment.

In the following months, the OECD also spoke negatively about Moon's decision, suggesting that too high minimum wage could harm employment if higher labour costs are not linked to productivity developments.

Even the public think-tank KDI (Korean Development Institute) prepared a paper entitled "Employment effect of Minimum Wage Increase", in which it criticised the rapid growth of wages. It indicated that maintaining the pace of minimum wage increase will result in the loss of 96,000 payrolls in 2019, and 144,000 in 2020.

Moon, however, was insensitive to all these voices and continued his controversial economic practice which stimulated development by, i.a., higher wages. Nevertheless, the clash with reality came very quickly.

Instead of salary increases, redundancies occurred

In mid-2017, overall year-on-year employment in South Korea was growing by 1.5%. After a few months, the employment growth pace slowed down to less than 1%, and at the end of 2018, it decelerated to 0.1%.

Employees who received minimum wages or salaries that approximated this value (trade, restaurants and hotels) were most severely affected. Between October 2017 and October 2018, the employment in these industries dropped from 6.1 million to 5.91 million, i.e. almost 200,000 people (Statistics Korea data).

Reuters wrote in the analysis "Moonwalking: South Korea's wage, hours policies backfire for jobless, low income workers" that instead of causing wage growth, the economic strategy of the government resulted in lower income (shorter working week) and the inability to earn money overtime (reducing the costs of companies). Such negative changes in the labour market could not be ignored. What did President Moon do?

"Apologies" and the lowest growth in a decade

As a result of the mass reductions, the pace of growth of the minimum wage was decreased, but the 2019 wage was still raised by almost 11 percent to 8350 won. However, at the time of announcing that decision (second half of 2018), it was already clear that the economic situation would not allow raising the lowest salary to 10,000 won in 2020.

President apologised, promising that 10,000 will be "achieved in the shortest possible time". However, that promise will not be fulfilled quickly (certainly not during the current Moon's term of office). It is now widely known that next year's minimum wage growth will be only 2.9%, i.e. it will be the slowest in the past decade and the third weakest in the last 30 years.

The experiment failed. Will Poland repeat it?

The events in South Korea clearly show that too rapid and unrelated to the improvement of workers' qualifications raise of the minimum wage is only problematic. It results in redundancies and protests, first by small business owners and then by disappointed workers (tens of thousands of people demonstrated in South Korea in 2018 and 2019), but in no way contributes to economic growth. However, in the past, other countries have also experimented with a rapid increase in the lowest wages: France in 1997-2005 or Hungary in 2000-2002. And in no case was it the right decision.

The campaign's promises in Poland also assume a rapid increase in the minimum wage, with percentage growth and relation to the median or average salary similar to those promised by Moon. The effects for Poland may be even worse than for the fundamentally strong South Korea. Why?

In Poland, over 20% of the employed (the largest number in the EU) do not earn more than 110% of the minimum wage (Eurofound data "Minimum wages in 2019: annual review"). Focus on salaries close to the lowest level means drastic increases for a large group of people. These increases are not related to higher qualifications of those people, differences in the cost of living between regions or age.

The lack of productivity and skill dependency in wages mean that reductions will be necessary. The temptation to circumvent the regulations, as in South Korea, will also strengthen. Relatively high wages may also cause a growth in the passivity of young people because employers, due to high labour costs, will also require high qualifications from the candidates. Therefore, Poland is exposed to more severe consequences created by too rapid increase in the minimum wage than in South Korea.

25 Sept 2019 15:23|Marcin Lipka

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