Minimum wage, maximum pressure?

The coming week will be an expensive one for the employers of low-paid workers. On April 1st, the adult minimum wage will rise by 6.7 per cent – the seventh-largest rise in 26 years. Rates for younger workers will rise even faster – by 18 per cent for 16-17-year-olds and 16.3 per cent for 18-20-year-olds, as the Government pursues its policy of convergence with adult rates.
Five days later, employer National Insurance Contributions (NICs) will rise substantially – and fastest on low-paid jobs. The big cut in the earnings threshold above which employers pay NICs – from £9,100 to £5,000 on annual earnings – hits lower-paid workers hardest, outweighing the top-heavy impact of the increase in the rate – from 13.8 to 15 per cent. For a part-time minimum-wage worker on annual earnings of £10,000, for example, employers’ NICs will rise from £124 to £750, giving an increase in labour costs of 6.2 per cent. For higher earners, the increase in NICs is bigger in absolute terms, but smaller in proportion to earnings – just 2.0 per cent.

The combined impact of NICs and the minimum wage is significant: the overall increase in labour costs for employing a part-time adult minimum wage earner in April will be 14.2 per cent, the largest since the minimum wage began, in 1999.

Most workers will end up absorbing much of the higher NICs in the form of lower pay. But pay cannot fall for workers at or near the minimum wage, so labour cost increases and job losses will be concentrated at the bottom of the labour market – worth perhaps as much as 0.7 per cent of hours worked in the bottom decile of the weekly pay distribution, although these estimates are very uncertain. As in previous episodes, a small part of the cost could be absorbed by greater efficiency and capital investment in firms, a reallocation of workers toward more productive employers, and/or a reduction in aspects of job quality. The increase in Employment Allowance, whereby employers are exempted their first £10,500 in NICs liabilities, up from £5,000, will help very small employers, but only 8 per cent of low-paid workers (with bottom-fifth hourly wages) work for employers where the changes to the Employment Allowance fully offset the increase in employer NICs, so its overall mitigating effect will be limited.

Overall, we judge that the combined of NICs and the minimum wage increase will reduce total employment by 80,000. This effect is somewhat larger than the impact of the NICs change alone assessed by the OBR in Autumn 2024, but our numbers are not directly comparable – the OBR did not provide an estimate of the minimum wage impact, and for low earners our assumptions about employment responses are different to the OBR’s (we assume a lower demand elasticity for this group, in keeping with the minimum wage literature).

Looking ahead to the future of the minimum wage, we make four recommendations to the Government and the Low Pay Commission (LPC). First, tax policy should go with the grain of minimum wage policy, not against it. The LPC should make its recommendations with knowledge of the relevant tax policy changes; this likely means its recommendations should follow rather than precede the autumn budget. Second, the bite of the minimum wage should continue to rise, but slowly and cautiously – by 1 percentage point a year, about half the pace of increase seen from 2016 to 2024.The Government should also plan to commission a new review of minimum wage effects in this parliament to help it judge the balance of costs and benefits from further increases. Third, the Government should allow for flexibility in the implementation of this target. This means, for example, that the LPC should adjust to any future data revisions about median wages gradually, rather than suddenly, as was the case this year. It also means maintaining the youth rates (rather than abolishing them as the Government intends) so that appropriate caution can be exercised when raising the minimum wage for young workers.