Chapter 1: Introduction

In our terms of reference we were asked to monitor, evaluate and review the impact of the minimum wage and to consider its effect on business, especially on small firms and firms in low-paying sectors. We were also asked to consider the impact on different groups of workers. To help meet our remit we commissioned two research reports and carried out three in-house research projects. We also visited a number of organisations throughout the UK to listen to local people affected by the minimum wage. In addition, we received over sixty written submissions from a variety of organisations and individuals and we heard oral evidence over a two day period.

Chapter 2: The Impact of the National Minimum Wage

Since the introduction of the National Minimum Wage we have carefully monitored its impact on the economy in general and the labour market in particular. We have done so again this year and focused on those sectors most likely to be affected by the minimum wage. We looked particularly at the impact of the minimum wage on earnings and for any sign that it had affected employment. In addition, we looked for an impact on other economic variables such as profits, prices, productivity, investment and business creation.

We estimate that the rise of the minimum wage to £5.35 in October 2006 covered around 5.0 per cent of jobs held by adults (up to 1.2 million jobs). It led to an increase in the proportion of jobs paid at the minimum wage, and the rise was most evident in the low-paying sectors. As a result, there was an increase in the ‘bite’ of the minimum wage – defined as its relative level when expressed as a proportion of the average hourly wage. The ‘bite’ of the minimum wage rose to 51.1 per cent of medium hourly earnings in April 2007. We also found some evidence that the uprating of the minimum wage in October 2006 may have squeezed differentials.

The subsequent 3.2 per cent increase in the minimum wage to £5.52 on 1 October 2007 was, as anticipated, in line with pay settlements and below average earnings growth but, contrary to expectations, it was also below the increase in the Retail Price Index. We estimate that the 2007 uplift covered about 4 per cent of jobs held by adults (about a million jobs). It is, however, too early to assess properly the impact of the October 2007 upratings.

The UK economy performed better during 2007 than had been anticipated at the time of our last report, with generally positive developments on employment and hours. Employment in the UK reached record levels in 2007, and unemployment fell. Jobs in the low-paying sectors increased slightly faster than jobs in the economy overall. The number of hours worked increased, as did vacancies, although there was also a small rise in redundancies. Our commissioned research found few effects from the minimum wage on employment or hours.

Other business variables – such as profits, productivity, investment and the net number of businesses created – performed positively during 2007 and we could find little evidence of negative impact that might be ascribed to the minimum wage. There was some research evidence that firms may have passed part of the higher costs of the minimum wage onto customers.

Employers and trade unions provided differing perspectives on the impact of the minimum wage. Employers tended to stress that the minimum wage was affecting more sectors, employers and workers than before. The impact on small businesses was of particular concern for some, as were the costs associated with the Government’s enhancement of holiday entitlement for others. Affordability and the erosion of pay differentials were some of the other issues which some employers believed stemmed from minimum wage increases, affecting their ability to reward staff and maintain staff incentives. It was argued that these developments had a negative effect on jobs, hours worked, and future business decisions, such as whether to invest or recruit more staff. Some also maintained that the erosion of differentials was having a negative impact on staff’s willingness to undergo training.

On the other hand, unions argued that, to date, employers had been able to manage increases in the minimum wage with little difficulty and pointed to the continued increase in jobs in affected sectors. They maintained that businesses should be able to fund a further increase in the minimum wage given the generally robust levels of profitability. Unions also pointed out that the rate of business start-ups was greater in the low-paying sectors than in the economy as a whole. Moreover, they argued that the forthcoming increase in annual leave would impact on only half of the year in which the present recommendations would have effect and they contended that paying low wages raised business costs by increasing staff turnover and the need to retrain.

The quality of the official data which is available to us is crucial to our decision-making process. We were concerned that changes made by the Office for National Statistics to some of their surveys affected the quality of the data we use, particularly on earnings at detailed industry level. Changes to the availability of data on employee jobs also restricted our analyses of employment in the low-paying sectors. We have therefore recommended that the Government take steps to address this erosion of the quality of the key national data.

Chapter 3: Groups of Workers

We were asked in our terms of reference to consider the impact of the minimum wage on different groups of workers, including different age groups, people with disabilities, workers from ethnic minority groups, women and migrant workers. Paying particular attention to these groups of workers is important as they are disproportionately represented in the low-paying sectors and occupations and therefore more likely to be affected by the minimum wage.

Women, ethnic minority groups and people with work-limiting disabilities have become more involved in the labour market over the last ten years and there is no evidence of an adverse impact on their employment due to the minimum wage. The closing of the gender pay gap has been particularly pronounced at the very bottom of the distribution since 1999, which suggests that the minimum wage has had a positive impact on women’s pay.

By definition, people with work-limiting disabilities are less likely to participate in the labour market, but their employment rate has slowly increased over the last ten years and, since 2004, it has increased slightly more rapidly than for other groups.

The impact of the minimum wage on people from ethnic minority groups has varied markedly between the different ethnic groups. In recent years the employment rate of ethnic minority groups as a whole has increased more than the employment rate of white workers. However, recently they have also experienced a small increase in unemployment. Evidence suggests that the minimum wage has improved the earnings of ethnic minority workers at the lower end of the distribution.

Since its introduction, we have carefully considered the impact of the minimum wage on young people to ensure that there is no detrimental impact on their participation in education or on their labour market prospects. This year the long-term increase in inactivity and unemployment rates of 16–17 year olds not in full-time education showed signs of reversing. However, the employment rate of the 18 to 20 year old age group has been in continuous decline since 2000, accompanied by a steady increase in inactivity and, since 2004, a sharp rise in unemployment. It is the labour market position of 18 year olds, and to a lesser extent that of 19 year olds, that has deteriorated the most. It is difficult to explain why young people have not fared better in the workplace, but it may in part be due to the arrival of large numbers of predominantly young migrant workers and the increase in the number of people of pension age becoming or remaining economically active.

The Government has consistently rejected our previous recommendations that 21 year olds should be entitled to the adult rate of the National Minimum Wage. We have again weighed the evidence and concluded unanimously that lowering the entitlement to the adult rate to the age of 21 would not have a detrimental impact on their employment prospects. Most employers already pay 21 year olds at least the adult rate. We therefore again recommend that 21 year olds should be entitled to the adult rate of the National Minimum Wage. Should the Government maintain its opposition to this proposal, we are asking for an explanation of the nature of their disagreement and for a description of the changes that would be required for the Government to agree to our proposal.

We welcome the Prime Minister’s announcement that we will be asked to undertake a review of apprenticeships and we look forward to carrying this out in the coming year.

In recent years there has been a substantial increase in the number of migrant workers in the UK and we have monitored the impact of this influx on unemployment and wage inflation at the lower end of the labour market. On the evidence available, it appears that migrant workers are contributing to the success of the UK economy by filling gaps in the labour market and that, in general, they have not displaced UK nationals in the workplace. The effect of migrant workers on wage inflation is less clear, but most indications are that any impact has been minimal.

For this report, we again received some evidence of non-compliance with the minimum wage in respect of work experience placements. We believe that more effective guidance and enforcement is the answer. Similarly, we consider that the confusion which has arisen about the application of the minimum wage when a worker is required to sleep at their place of work (known as ‘sleepovers’) should be addressed by a review of the existing guidance. We recommend that the Government should review the official guidance on both these issues.

We also received evidence that many homeworkers and those paid through fair piece rates continue to face difficulties in enforcing their right to be paid at least the minimum wage. Although the fair piece rates system has been in place for around three years, evidence about how it works in practice remains scarce. The information we have received suggests that awareness and proper use of the new arrangements may be low. We therefore recommend that the Government takes stock and evaluates whether the current fair piece rates arrangement is meeting its objectives.

Chapter 4: Compliance and Enforcement

The evidence we have received over a number of years leads us to believe that the vast majority of employers support and comply with minimum wage legislation. It is difficult to determine the extent of non-compliance but we do know that there are still workers being underpaid, and there is anecdotal evidence that the level of non-compliance might be rising, in particular as a result of the arrival of significant numbers of migrant workers, many of whom are unfamiliar with the English language and British institutions.

We appreciate that in many cases where underpayment arises it is through genuine error and, when brought to an employer’s attention, it is put right. We believe that such problems could largely be resolved through greater awareness of the minimum wage rates, as well as the availability of clear, practical and up-to-date guidance on those operational aspects of the minimum wage that are known to cause confusion. However, swift and firm action needs to be taken against those employers who intentionally flout their minimum wage responsibilities.

We recognise and welcome the significant steps that the Government has taken, and the new measures that are in train, to strengthen the minimum wage enforcement regime. We are particularly pleased that additional resources have been allocated to enforcement. This should have a tangible impact. We will monitor developments with interest. We also welcome the Government’s decision to act on our recommendations to introduce fair arrears and penalties for all non-compliant employers. These steps, taken together, should send a strong clear message to employers who might be tempted to underpay their workers.

This year we have decided not to make any recommendations on minimum wage enforcement. We believe that it is more appropriate to allow time for the initiatives already under way to be developed, and for those in the pipeline to be implemented. In our view, the coming year should be regarded as a period of consolidation in respect of enforcement, with an emphasis on raising awareness, co-ordination of the different strands of the work in progress and on ensuring that appropriate means to evaluate the outcomes are in place.

Chapter 5: Setting the Rates

We have examined the impact of the minimum wage, considered the position of those workers most affected and reviewed compliance and enforcement. We now turn to the macroeconomic picture and the prospects for the economy in 2008 before addressing the issue of the appropriate minimum wage rates for October 2008.

Although the world economy has grown strongly in recent years, it was clear, when we met in January 2008 to agree our recommendations, that the financial crisis and credit concerns in the US had led to severe problems in financial markets across the world and most forecasters were suggesting that global growth would slow in 2008. Moreover, it was also clear that, although UK output had grown at or above trend during 2006 and 2007, the UK would not be immune from the general economic upheaval. By the end of 2007 consumer spending showed signs of slowing, business investment had tailed off and growth in Government spending had weakened.

We also considered the implications of the Government’s decision to increase the statutory entitlement to annual leave, the second phase of which will be introduced from April 2009. The majority of firms will be unaffected but, for those where all workers will be entitled to the full four day increase, we estimated that the direct cost was likely to be equivalent to about 1.6 per cent on the wage bill. However, we were conscious that our calculations were based on estimates derived from uncertain data.

Our formal consultation revealed views about the appropriate level of the minimum wage for 2008 that largely followed the pattern of previous years. The majority of unions supported a substantial increase, while most employers called for restraint. The CBI thought that the minimum wage had reached an appropriate level. It described the overall economic outlook for the UK as uncertain and warned against an above average increase in a slowing economy. The TUC, on the other hand, did not agree that the minimum wage had reached its highest sustainable level. It maintained that the fundamentals of the UK economy were sound and could support a minimum wage of more than £6 an hour (an increase of 8.7 per cent) by October 2008.

In last year’s report we said that, subject to developments in the economy and in the labour market, the increase we were likely to recommend for 2008 would be around the predicted rise in average earnings. Independent forecasts predict that average earnings growth will be about 4 per cent in 2008. Retail price inflation is forecast to fall to 2.6 per cent. Employment is expected to continue to grow, albeit more slowly.

Against this background, we weighed the evidence and agreed that, on balance, the uncertain economic outlook made a degree of caution advisable despite the generally encouraging labour market data. We therefore recommend that the adult rate of the minimum wage should be increased from £5.52 to £5.73 an hour in October 2008. This is slightly below the predicted increase in average earnings. We see this recommendation as balancing the generally positive messages in the data with the need for caution implied by the uncertain economic outlook.

In reaching this decision we have, as our remit required, taken account of the forthcoming increase in annual leave entitlement. However, as the available evidence is imperfect and as it should be possible to get a clearer indication of the actual impact in the next few months, we intend to keep the matter under review during the coming year.

In line with our approach to the adult rate, we recommend that in October 2008 the Youth Development Rate should increase from £4.60 to £4.77 an hour and the 16–17 year old rate should increase from £3.40 to £3.53 an hour.

As the recommended minimum wage rates for October 2008 are slightly below the forecast increase in average earnings, we estimate that, if the Government accepts our recommendations, the new rates would achieve a level of coverage a little below that of the 2007 uprating. The direct impact of our recommendations on the average wage bill is likely to be modest. There will be little impact on the public sector wage bill, but the Exchequer is likely to benefit from reduced benefits and increased tax receipts as the minimum wage increases.

Our long-term aim is to create and maintain a minimum wage that helps as many low-paid workers as possible without significant adverse impact on employment or the economy. Looking forward, we expect the increases we recommend for October 2009 to be particularly influenced by three factors: the nature of the broad economic environment; the findings of the research programme we have instigated to assess the impact of the series of increases in the minimum wage implemented from 2003 onwards; and developments in the low-paying sectors. We expect that the rates we will recommend next year for October 2009 will be broadly around the predicted increase in average earnings, but our decision will ultimately depend on the evidence.