Minimum wage increase could lower profits for some but help overall economy

Many industries use low-wage workers to keep costs down and bolster profit margins. While a number of states have raised the minimum wage, the federal minimum wage has been $7.25 per hour since 2009. However, the proposed Fair Minimum Wage Act of 2013 would raise the federal minimum wage to $10.10 per hour by 2015. This increase would roll out in three increments of $.95 during the two-year time period in order to keep wages on pace with the rising cost of living.

Although such an increase would help raise the pay of some low-wage workers, it would likely come at a price for businesses. For example, companies that primarily use minimum-wage workers would be forced to allocate a greater share of revenue to labor expenses. As a result, profit margins for these businesses are expected to take a hit if they cannot raise prices to sufficiently compensate for the rise in costs.

Industries impacted by an increase in wage rates typically share five characteristics: low capital intensity, low technological change, high wages as a share of revenue, low revenue per establishment, and relatively low average wages. IBISWorld has analyzed more than 1,000 industries and identified five industries whose profits may be vulnerable to a potential increase in the federal minimum wage.

Food preparation and serving

The food-service sector is the economy’s largest employer of low-skilled labor, employing 26.1% of all minimum-wage workers. Despite the high number of minimum-wage workers employed by the sector, wages account for a large share of overall costs for most food-service companies. The industry is heavily dependent on direct labor input across all operations, including ordering, food preparation, serving, cleaning, and management. Due to the competitive nature of the industry and relatively slim profit margins, any increase in the minimum wage is expected to hamper single-location full-service restaurants.

Although the Fair Minimum Wage Act of 2013 will negatively impact profit margins for many industries in the food-service sector, larger operators will likely be able to swallow additional wage expenses easier than smaller establishments. Large, multi-location restaurants are able to take advantage of economies of scale to distribute overhead costs across a broader range of stores. Additionally, large enterprises typically have higher profit margins and are expected to better handle increased costs compared with single-location restaurants.

Retail trade

Retailers use a significant number of minimum-wage workers. According to the Bureau of Labor Statistics, retailers employ 25.7% of all minimum-wage workers, meaning this sector is expected to be one of the most heavily impacted by any increase in the minimum wage. With wages accounting for a greater share of revenue, retailers’ profit margins are expected to take a hit. Although many retailing industries are expected to raise prices in order to compensate for higher labor expenses, industries that compete primarily on price are unlikely to do so. For example, operators in the used goods stores industry are not expected to raise prices in the wake of higher minimum wage requirements because the industry tends to focus on price-based competition. If operators in the used goods stores industry were to do so, they would have added competition from retailers that sell new goods.

In contrast, the health stores industry is expected to raise prices if minimum wage requirements increase. Although the health stores industry competes on price, the industry also competes on product quality and range. Additionally, industry operators have the added benefit of being able to charge a premium to consumers because demand for products branded as healthy remains relatively high.

Higher wages hurt industries with low technological change

Industries with low technological change and high wages as a share of revenue are more likely to be affected by an increase in the federal minimum wage, as they are less likely to undergo labor-reducing technological improvements. For example, the parking lots and garages industry is expected to be negatively impacted by a higher minimum wage as it has limited scope to improve profit margins amid increasing wage costs. With wages accounting for an estimated 26.4% of revenue in 2013, industry operators have limited means of reducing their reliance on labor, and thus wages as a share of revenue are expected to remain at high levels. As a result, higher minimum wage costs will likely hamper industry operators’ bottom lines.

On the other hand, although manufacturing industries employ low-wage workers, they are affected less by increases in the minimum wage because of relatively high technological change. Because manufacturing industries use automated machines to lower labor expenses, profit margins for manufacturing industries are not expected to be affected the same way as industries with low technological change.

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Driving force

Advocacy has grown in favor of raising the federal minimum wage. According to a national survey by Hart Research, 80% of U.S. consumers approve of the Fair Minimum Wage Act of 2013. One of the benefits of raising the minimum wage is that it will increase incomes, which will bolster demand for downstream industries. As such, an increase in the minimum wage is expected to increase consumer spending among low-wage workers. In a country that is driven by consumer spending, accounting for an estimated 70% of gross domestic product, this is expected to have a positive effect on the overall economy.

A closer look at the demographics of low-wage workers also reveals a potential benefit to raising the minimum wage. According to the Bureau of Labor Statistics, consumers between the ages of 16 and 24 account for only 19.8% of hourly paid workers, but 55% of minimum wage workers are in this age demographic. Since more than half of minimum wage workers are under 25, consumer spending is expected to be bolstered by this demographic, as they are less likely to save and more likely to spend a greater share of their income. So although low-wage operators will likely see wages account for a greater share of costs with the rise of the minimum wage, demand for many of their products will likely increase.

Benefits of a higher minimum wage

Wages as a share of GDP in the United States have been trending down since the 1970s. Wages currently represent about 43% of GDP, compared with a high of over 50% in the 1970s. This reflects a number of factors, including technological change toward more productive, labor-saving technology, as well as a more competitive labor market due to globalization. Over the same period, corporate profit has increased substantially and currently represents more than 10% of GDP. While not all industries will be affected by an increase in the minimum wage, any rise in wages will likely help bridge the gap between corporate profit growth and wage growth. Because corporate profits are currently at historic highs, this also means many operators will be able to absorb higher labor costs without raising prices.

Although the Fair Minimum Wage Act of 2013 remains only a proposal, a growing number of U.S. consumers are supporting the cause, as it could have positive implications for the overall economy, despite affecting the profit margins of some industries. Fortunately for many industries, corporate profits remain at an all-time high, which bodes well for operators that need to take on the added labor expense. 

Brandon Ruiz is a U.S. industry analyst at IBISWorld.

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