ifo Viewpoint No. 206: EU-wide Minimum Wage Is no Recipe for Prosperity Differences

Minimum Wages in the EU Are widely Different

Currently, 22 of the 28 EU member states have a statutory minimum wage, but these are set at wildly different levels, ranging from EUR 286 per month in Bulgaria to EUR 2,071 in Luxembourg. Germany’s minimum wage is equal to EUR 1,557. Adjusting for differences in purchasing power reduces that to values from EUR 577 (Bulgaria) to EUR 1,646 (Luxembourg). The Scandinavian countries, Austria, Italy, and Cyprus have no minimum wage. However, especially in Scandinavia and Austria, the collective bargaining agreements and social transfers in place ensure effective minimum wage limits. The EU currently does not regulate national minimum wages. 

Against this backdrop, what would be the consequences of a regulation mandating that all EU states introduce a minimum wage of at least 60 percent of their median wage? The median denotes the value that statistically stands in the middle of two equally sized halves – but existing minimum wages are in some cases significantly lower. In Germany, for instance, the minimum wage would have to rise by around 25 percent; in Spain, Estonia, and the Czech Republic, it would have to rise by some 50 percent. Only France and Portugal would not have to make adjustments.

Pros and Cons of Minimum Wages

 From an economic point of view, minimum wages make sense if companies have a strong position of power on the labor market and there is little if any competition between them for labor. That way they can increase their profits if they deliberately keep hiring at a low level in order to squeeze wages. Situations of this kind certainly occur, although they are certainly not the rule. 

Even if minimum wages are desirable for this reason, it does not follow that the EU should intervene in national minimum wage policies. Only if national governments tend to systematically set minimum wages too low would this be justified. Such misguided incentives would exist if minimum wage increases in one country had positive effects on the rest of Europe and these positive externalities were not taken into account at the national level. 

The argument that there is undesirable wage dumping competition among member states points in this direction. Individual countries could keep their minimum wages low in order to give their companies a cost advantage over their foreign competitors. One objection to this is that minimum wages are of particular relevance to the service sector, in which there is little if any international competition. Industry usually pays higher wages. However, industrial enterprises do purchase services from local suppliers, and wages in different sectors are not independent of each other. In this respect, minimum wages do have an indirect effect on the international competitiveness of domestic companies. 

A European minimum wage regime to curb competition on wage costs would nevertheless be the wrong way to go. First, labor costs include not only wages but also non-wage labor costs. If national governments really do consider the competitiveness of their companies to be so important, they could respond to EU minimum wage regulation simply by reducing employers’ social security contributions and increasing workers’ contributions. But even if it were possible to restrict competition on labor costs through minimum wages, this does not mean that it is a sensible course of action. Since the euro crisis, countries such as Spain and Portugal have gone to great lengths to restore the competitiveness of their economies through wage moderation. An EU minimum wage of 60 percent of the median wage would undo this. It would force these countries to raise their minimum wages to a much greater extent than would be the case for Germany or France. 

EU-wide Minimum Wages Could Widen Prosperity Gaps

Supporters of the EU minimum wage also argue that implementing it is necessary in order to reduce prosperity disparities in Europe – but if it were that simple, the national governments of poorer countries would have increased their minimum wages a long time ago. They have a strong interest in their countries catching up economically. The main problem is that imposing a minimum wage increase from the outside doesn’t guarantee that jobs will be offered at those wages. Setting minimum wages too high could lead to job losses, meaning the prosperity gap would widen instead of narrow. 

There are undoubtedly many policy areas in which joint action at the European level is desirable; minimum wage policy is not one of them.

Clemens Fuest
Professor of Public Economics and Finance
President of the ifo Institute

Published under the title: "Das macht den Süden noch ärmer", WirtschaftsWoche, 2. August 2019, p. 41.