Institutions Matter: Lessons from the States

May 12, 2014
By Oren M. Levin-Waldman, Ph.D.

The two hot button issues right now are income inequality and the minimum wage. Although seemingly separate issues, the minimum wage certainly has the potential to reduce the rise in income inequality. Income inequality, however, is not the same as wage inequality.

A comparison of top wage incomes to say bottom income would show a lower ratio of inequality than a comparison of the top wages to bottom wages. The obvious reason for this may be that wages at the bottom are supplemented. If so, this might suggest the obvious remedy of redistributing from the top to the bottom through taxation. But this would also be out of step with historical trends.

Historically wage inequality appears to be less in those states where union density has been higher than the national union density. This was clearly the case during the 1980s when unionism was much stronger than it is today.  Even with declining union membership, wage inequality was still less in states with high union density than in those states with low union density.  During the 2000s this appears to have changed. Between 1992 and 2002, union membership fell 15.6 percent from 16 percent to 13.5 percent. Then between 2002 and 2012, union membership fell an additional 16.3 percent. This means that an institution that was there to bolster wages had sufficiently diminished in strength.

Meanwhile, more states were busy attempting to pass right-to-work legislation in order to make union organizing more difficult, if not altogether impossible. Again, through the 1990s, states with right-to-work laws, despite lower overall wage structures, appeared to have higher wage inequality than did non-right-to-work states. This also changed during the 2000s. It isn’t so much that right-to-work laws suppress wages as institutions like unions and minimum wage laws serve to bolster wages. With declining unions and stagnation of the minimum wage, wage inequality only increased in those states where wage inequality tended to be less.

Institutions clearly matter, and nowhere is this more evident than with spate of states that decided to either adopt their own minimum wages or to increase existing ones to above the level of the federal minimum wage. Again during the 1980s and 1990s states with higher minimum wage laws than the federal minimum wage tended to have lower rates of wage inequality. During the 2000s this too was no longer true until 2008. In 2007 and 2008 many states, like Arizona and Florida, that had never had minimum wage laws enacted them. And those that had them simply raised them despite the fact that the federal minimum wage was increasing due to legislation in early 2007. In 2008 states with minimum wages higher than the federal minimum wage had less wage inequality than did those states with either lower minimum wages or no minimum wages at all.

In 2009 and 2010 the rates of wage inequality between these two groups of states were the same and was less in the minimum wage states in 2011. But by 2013, wage inequality was higher in minimum wage states than in non-minimum wage states, thus returning to the pattern that existed from 2000 until 2008 when the value of the minimum wage declined. Moreover, many of the states than enacted their own minimum wages in 2007 did not follow up and raise them again; so they now had minimum wages lower than the federal minimum wage. And Hawaii which had long had a higher minimum wage than the federal minimum wage, was no longer maintaining it.

As Congress cannot get its act together to raise the minimum wage, we find that increasingly more states, and even local governments, are not sitting around waiting. For policymakers who truly want to reduce the rise in wage inequality, but don’t want to resort to confiscatory taxation that might address the increase in income inequality, they should take to heart these lessons from the states. Moreover, they should stop looking to legislation, like right-to-work laws, that only hasten the demise of labor market institutions that truly make a difference. Contrary to the reigning orthodoxy in conservative economic circles, wage setting is not a natural process. Institutions matter. They serve to maintain the middle class, and when that happens the gap between the top and the bottom is similarly reduced.

May 9, 2014

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