National Minimum Wage

National Minimum Wage
2.121 If firms are unable to improve productivity or raise prices as a result of increased labour costs
they may be forced to accept a squeeze on profits. We now go on to look at the evidence of
such a squeeze on profits.
Profits
2.122 In Chapter 1 we noted that profits at the aggregate level, measured in various ways, picked
up in 2011. The net rate of return on capital employed fell over the recession from 12.9 per
cent in the first quarter of 2008 to 9.4 per cent in the first quarter of 2010, but picked up to
11.1 cent in the third quarter of 2011. Having fallen from 11.8 per cent to 5.5 per cent
between the first quarter of 2008 and the first quarter of 2010, profits in manufacturing
recovered to 11.6 per cent in the fourth quarter of 2010, but have since fallen once again and
were 5.0 per cent in the third quarter of 2011. Profits in services fell by less during the
recession (from 17.4 per cent in the first quarter of 2008 to 12.8 per cent in the third quarter
of 2009), but have since picked up and stood at 15.9 per cent in the third quarter of 2011.
However, we should note that it is difficult to get information on profits at a more
disaggregated level. Our anecdotal evidence suggests that profitability has varied
considerably by sector and by size of firm. Small firms and certain low-paying sectors (such
as non-food retail) appear to have faced far smaller profit margins than large firms and food
retailers for example.
Research on Profits
2.123 Several studies have investigated the impact of the minimum wage on profits over the years.
Draca, Machin and Van Reenen (2011) built on earlier work that we had commissioned. They
used FAME data and concluded that the minimum wage had significantly reduced profit
margins, especially in those industries with less competition and therefore higher margins. In
their previous research Draca, Machin and Van Reenen (2005) had also used FAME and had
found some significant and robust evidence that increases in the minimum wage had
reduced profits in low-paying sectors and in the care home sector, although Georgiadis (2006)
found no such relationship in a follow-up study of care homes.
2.124 Examining the impact of the minimum wage on the rate of return to capital employed Forth,
Harris, Rincon-Aznar and Robinson (2009) found a significant negative impact of the minimum
wage on the rate of return on capital employed in those sectors with the highest proportions
of workers affected by the minimum wage. When investigating price-cost margins, they also
found a negative effect of the minimum wage, but it was neither statistically significant nor
robust. They concluded that the minimum wage may have reduced profits in those sectors
most exposed to the NMW and which were unable to pass on costs in other ways. Experian
(2007) found no statistically significant effect on profits for any industries, when looking at
the 2003 and 2004 minimum wage upratings.
2.125 In general, the research has found evidence that profits have been squeezed, especially
when firms have been unable to adjust in other ways, but that this squeeze has been
insufficient to lead to business failure. We turn next to investigate the impact of the minimum
wage on business start-ups and failures.
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