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The Minimum Wage System in Japan: In Light of Circumstances in the United States and Europe Isao Ohashi Chuo University This paper aims to provide an overview of the history of the minimum wage system
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The Minimum Wage System in Japan: In Light of Circumstances in the United States and Europe Isao Ohashi Chuo University This paper aims to provide an overview of the history of the minimum wage system in Japan and to explore why it is in its current state and how it should change in the future, in light of the state of minimum wages in the United States and Europe and the relevant debates that are ongoing in those areas. Specifically, I will make a cross-country comparison of the mechanisms whereby the minimum wage is set, explain how the differences in these mechanisms affect the level and trends of minimum wages, and shed light on the weaknesses of the foundations of theoretical models designed to verify the positive effects of a minimum wage increase on employment. This research is intended to help achieve a better understanding of the significance to Japan s labor market of the government initiative to considerably raise the minimum wage following the amendment of the Minimum Wages Act, and to examine how the minimum wage system in Japan should develop in the future, while taking account of the state of minimum wage systems in the United States and Europe. I. Introduction In campaigning for the House of Representatives elections in 2009, the Democratic Party of Japan, which was an opposition party at the time but which emerged as the biggest force of the ruling coalition as a result of the general election, pledged, in its election manifesto, to set the national minimum wage, applicable to workers across Japan, at 800 per hour, and to raise the national average of region-specific minimum wages to 1,000 per hour. As is indicated by this campaign pledge, there are several problems with the minimum wage system in Japan. First, although there is a growing public awareness of the existence of serious poverty as exemplified by the working poor, and although this awareness is making the reduction of income inequality an urgent issue, the level of the minimum wage is not sufficient to support the lives of the poor. Second, in many cases, people working for minimum wage earn less than they would receive from welfare benefits, even if they work 40 hours a week, the maximum regular working hours under the Labor Standards Act. Third, as wages for foreign workers tend to be set at a level close to the minimum wage regardless of their job skills or performance, there is likely to be distortion in the mechanism for the distribution of labor resources. This paper aims to explore why the minimum wage in Japan is in its current state and how it should change in the future in light of the history of the minimum wage in Japan, the present state of minimum wages in the United States and European countries, and the relevant debates that are ongoing in these regions. The paper is structured as follows. 4 The Minimum Wage System in Japan Section II presents a cross-country overview of the purposes of minimum wages and the minimum wage-setting mechanism, and examines how differences in this mechanism affect the levels and trends of minimum wages. Section III discusses differences in the effects produced by the minimum wage system in different labor markets in light of the state of minimum wages in the United States and European countries and relevant debates that are ongoing in these regions. Section IV provides a theoretical analysis of the effects of the minimum wage on employment. In particular, it sheds light on the weaknesses of the foundations of theoretical models designed to verify the positive effects of a minimum wage increase on employment. Section V presents an overview of the history of the minimum wage in Japan, and examines why it is in its current state and how it should change in the future. II. Purpose of the Minimum Wage and Minimum Wage-Setting Mechanisms Article 1 of the Minimum Wages Act states, The purpose of this Act is to help to secure stability in the lives of workers, improvement in the quality of labor, and fair business competition, and also to contribute to the sound development of the national economy, by improving the terms of employment for low-paid workers through the assurance of a minimum wage. The ILO convention on minimum wages (Convention 26) also stresses the need to apply minimum rates of wages and ensure fair competition, and the purpose of the minimum wage as stipulated in the above-mentioned Japanese law is common to most of the countries that have ratified the ILO convention. However, even though the primary purpose of the minimum wage is common, the minimum wage-setting mechanism varies significantly from country to country. Although there are, generally speaking, four mechanisms, the current paper looks at three of them, those other than the mechanism under which a labor court or a similar entity has the decision-making power. 1 It should be kept in mind that two or more mechanisms may be in place in a single country due to differences by industry, sector or region, for example. (i) Council-set minimum wage: A deliberative council comprised of equal numbers of representatives from both the labor union and employer sides, as well as independent members, sets the minimum wage level. In some countries, the wage council has both formal and effective decision-making power while in others, it acts as a consultative body for a formal decision-making entity while maintaining effective decision-making power. The former arrangement is in place in Belgium, and it was also used in the United Kingdom when the 1 For the classification of minimum wage-setting arrangements, see Roudou Chousakai (2009) and Funk and Lesch (2005). Arrangement involving labor courts are used in Australia and New Zealand. Under these arrangements, an agency that mediates between labor and management, such as a labor court or a labor committee, makes deliberations while collecting opinions from both sides before making a judgment or decisions on minimum wages. 5 Japan Labor Review, vol. 8, no. 2, Spring 2011 country had wage councils for certain sectors (this system was abolished in 1993). 2 The latter arrangement is in place in many EU countries, including the United Kingdom, France, and Spain, as well as Japan. The council-set minimum wage will be discussed in detail later in relation to the minimum wage in Japan. (ii) Statutory minimum wage: The minimum wage level is set forth in the law, and revisions require normal legal amendment procedures. In the United States, for example, the federal minimum wage is set through a legislative process including deliberations in the Senate and the House of Representatives, and the minimum wage level is specified under the Fair Labor Standards Act (enacted in 1938). In addition, the minimum wage is also set by each U.S. state under state law. However, in some cases, the council-set minimum wage and the statutory minimum wage co-exist. Some states also differentiate the minimum wage by industry or job type. Generally speaking, the state minimum wage rate is equal to or lower than the federal minimum wage rate. This is because in most states, the state minimum wage is almost universally applicable to all the workers in the state while the federal minimum wage is applicable only to workers that meet certain criteria, such as those engaging in interstate commerce (including transactions, transportation and communications that extend across state borders) and those employed at companies of a certain size or larger. However, as the frequency of revisions to the federal minimum wage has decreased in recent years, some states have adopted the policy of setting their respective minimum wages at a level higher than the federal minimum wage in order to avoid a drop in inflation-adjusted, real minimum wages. 3 (iii) Collectively agreed-upon minimum wage: The minimum wage specified under a labor union-employer agreement concluded through collective bargaining is applied automatically, based on the extension law that authorizes an extension of the agreement, to workers other than members of the labor union that is party to the agreement. However, for the collective agreement to be applicable to external workers, it must be one that originally covers a legally prescribed percentage or more of workers employed in a specific industry or workers engaging in a specific type of job in a specific region. This means that the original coverage rate must be high. Collective bargaining is seen in Germany, Italy, Austria, Denmark, Sweden, and Norway. According to Funk and Lesch (2005), the percentage of work- 2 When a deliberative council comprised solely of representatives from labor and management makes decisions on minimum wages, the deliberation process becomes similar to collective bargaining. Machin and Manning (1997) classified Belgium as a country where minimum wages are set as a result of collective bargaining. In the United Kingdom, the Wages Councils Act was abolished as part of the deregulation initiative promoted by the Thatcher government. However, the Low Pay Commission was later established under the National Minimum Wage Act of Based on recommendations made by this commission, the UK government sets minimum wages. 3 For the historical trend of minimum wages in the United States and relevant empirical research, see Brown (1999) and Neumark and Wascher (2007), for example. 6 The Minimum Wage System in Japan ers covered by collectively agreed-upon, sector-specific minimum wages through the extension procedure is 69% in Germany, 100% in Italy, 98% in Austria, 81-90% in Denmark, and 70% in Norway. 4 In France, the collectively agreed-upon minimum wage, used in specific industries, and the council-set minimum wage (known as SMIC, or salaire minimum interprofessionnel de croissance), universally applied to workers across all industries in the whole of France, co-exist. When the collectively agreed-upon minimum wage is higher than the SMIC in a specific sector, it is under the extension law applied to workers engaging in that sector. In principle, this arrangement is also in place in Spain. Meanwhile, in Germany, a sector-specific statutory minimum wage is starting to be introduced. The minimum wage level is not set by a deliberative council; rather, the government adopts a collectively agreed-upon minimum wage for a specific sector as a statutory minimum wage. A sector-specific statutory minimum wage was introduced first for construction-site jobs, in 1997, and then for such jobs as painting, roofing, and demolition/wrecking, in The German government has proposed to apply such minimum wages to all sectors. This proposal is intended to prevent wage dumping in Germany by introducing minimum wages for foreign workers coming from such countries as Poland and the Czech Republic. In Japan, as well, the extension of collective agreement was legislated, and minimum wages were set for workers engaging in painting in Hiroshima and Shiga Prefectures based on labor-management agreements. However, as a result of the amendment of the Minimum Wages Act in 2007, such local minimum wages were abolished, as they were regarded as not suited to the labor-management relationship in Japan. III. Debates in the United States and Europe In recent years, the unified theory 5 has become a popular object of debate among Western economists. This theory attributes the divergence in economic performance between major continental European countries, such as Germany, France, Italy, and Spain, and Anglo-Saxon countries like the United States and the United Kingdom, to the difference in labor market flexibility as represented by wage rigidity and wage inequality in particular. After the global financial crisis was triggered in 2008 by the subprime mortgage crisis, the unemployment rate rose steeply in the United States, reaching 9.7% in August 2009, and surpassing the 9.5% recorded in the 16-country euro zone (as of July 2009). 6 However, 4 It should be noted that the figure for Germany is for In the case of Italy, the coverage ratio comes to 85% if non-regular workers are included. The arrangement in the Netherlands, whereby the government is supposed to set minimum wages based on the results of collective bargaining, can be classified in effect as collective agreement. 5 For further details, see Blau and Kahn (2002). 6 The source is JETRO Daily (September 18, 2009). 7 Japan Labor Review, vol. 8, no. 2, Spring 2011 previously, the unemployment rate in the United States had remained mostly around 5% from the 1960s through 1990s, except for a brief spike above 7%. In contrast, the unemployment rates in the United Kingdom, pre-unification West Germany, and France, which used to be just around 2 to 3%, started to rise in the 1970s. In the early 2000s, the rate surged to around 8% in France and Germany. What is noteworthy is that the unemployment rate in the United Kingdom took a downturn in the latter half of the 1980s, declining from over 10% to around 5%, similar to the level seen in the United States. The decline presumably reflected the effects of deregulation measures implemented under the Thatcher government in the 1980s. 7 Western economists generally stress the difference between the United States and continental European countries in their responses to various economic shocks that have arisen since the 1960s, including the two oil shocks and the technology innovation that disproportionately favored skilled workers: the United States managed to adapt itself to those shocks through flexible adjustments of real wages, while continental European countries saw wages generally rise, with relative wages for unskilled workers kept at a high level. As a result, they argue, the unemployment rate dropped and wage inequality widened in the United States and the United Kingdom, whereas in Europe, the unemployment rate rose, particularly among younger people, and wage inequality narrowed. According to the OECD Employment Outlook (2004), the earnings dispersion expressed as the percentile ratio of the gross earnings of full-time employees was relatively high in the United States and the United Kingdom, at 4.59% and 3.45%, respectively, while the ratio was 2.87% in Germany and 3.07% in France. Moreover, for more than 20 years, wage inequality has been widening in the United States and the United Kingdom. In short, the unified theory suggests that unemployment and wage inequality are two sides of the same coin. What is the situation in Japan? The unemployment rate in Japan has shown an uptrend, and it surpassed the rate in the United States temporarily as it rose to 5.6% in However, the unemployment rate has generally stayed lower in Japan than in the United States. Meanwhile, wage inequality among full-time employees is almost the same in Japan as it is in France, although larger than in Germany, and it has not widened. However, if non-regular employees are taken into account, wage inequality is probably widening in Japan, too. This is because wage inequality between part-time employees and regular employees is widening and the ratio of part-time workers to the overall labor force is rising. 8 What is wrong with the institutional framework of the labor markets in continental Europe? Four problems are frequently cited. First, whereas the wage-setting process is de- 7 For a brief summary, see Howell (2005). 8 According to the 2006 White Paper on the Labour Economy (Ministry of Health, Labour and Welfare, 2006), inequality in hourly regular salary has narrowed slightly in recent years, after continuing to grow in the 1990s through Meanwhile, the 2008 Annual Report on Health, Labour and Welfare shows that the percentage of non-regular workers has been rising since 1985 in every age group, with a notable rise recorded for workers aged 15 to 24. 8 The Minimum Wage System in Japan centralized in the United States, with wage bargaining held on a company-by-company basis, the process is centralized in continental Europe, with negotiations conducted on an industry-by-industry basis or on a nationwide basis. Although company-by-company bargaining makes it possible to set wages in light of the circumstances of individual companies, the centralized negotiation process is disposed to lead to a uniform level of wages. Moreover, in many continental European countries, collectively agreed-upon wages are applied to non-unionized workers under a law authorizing an extension of collective agreements, thereby narrowing the wage distribution. Second, social security systems in continental Europe are generous. For example, the average substitution rate of unemployment benefits (unemployment benefits in the first year of unemployment as a percentage of the former salary) is 59% in Germany and 37% in France, while the rate is much lower in the United States and the United Kingdom, at 29% and at 17%, respectively. Moreover, unemployment benefits are provided for a longer period of time in continental Europe. These generous terms are said to be blunting the incentive to work. 9 Third, the rigidity of job protection systems in continental Europe is often raised as a problem. If the system is too rigid, it makes the labor market less flexible, leading to a higher unemployment rate. As the benchmark to measure the rigidity of job protection, it is designed to comprehensively take account of such factors as the period of notice of dismissal, the level of severance pay, and the duration of fixed-term employment. But it has drawn criticism for allegedly including arbitrary elements. 10 The fourth problem is the mechanism whereby the minimum wage is set. First, we provide a concise comparison of the council-set minimum wage, the statutory minimum wage and the collectively agreed minimum wage in relation to the levels and trends of minimum wages in individual countries. According to Table 1, which shows the levels of minimum wages in selected EU countries, the United States, and Japan (expressed in yen), the statutory minimum wages 11 in EU countries other than Spain and Portugal are higher than 170,000 and far above the 115,000 in Japan and the 89,000 in the United States. However, a comparison of nominal wages alone is not sufficient. The Eurostat (news release: July 13, 2006) issued a report on minimum wages adjusted for the purchasing power parity for private consumer goods (as of December 2005). According to that report, Ireland, which was ranked top in terms of unadjusted minimum wage, drops to fifth place in terms 9 See Howell (2005). According to Pellizzari (2006), the ongoing social security reforms in Europe are aimed primarily at reducing the amount and duration of social security benefits. A concise summary is also provided by Ohashi (2007). 10 For an overview, see Nickell and Layard (1999) and Kuroda (2002). 11 Different countries apply different minimum wages according to not only the worker s age, gender, job type, number of years of service, and length of weekly working hours but also other factors. For further country-by-country details, see Ragas (2004). According to the data cited here, the minimum wages in EU countries are those applied to full-time adult workers. For the source of the data, see Sources of Table 1. 9 Japan Labor Review, vol. 8, no. 2, Spring 2011 Table 1. Cross-Country Comparison of Minimum Wages EU Germany Minimum Change Application Kaitz Index Kaitz wage (yen) (%) rate (%) (decimal) Index (%) Collectively agreed-upon wage 0.55 France 170, Italy Collectively agreed-upon wage 0.71 Spain 88, Netherlands 178, Portugal 61, Belgium 172, n.a Austria Sweden Finland Collectively agreed-upon wage Collectively agreed-upon wage Collectively agreed-upon wage Ireland 181, United Kingdom Non-EU Switzerland Norway United States 177, Collectively agreed-upon wage Collectively agreed-upon wage , Japan 115, * 29 Sources: The Kaitz indexes for 1991 to 1993 were cited from Dolado et al. (1996) and those for 2005 are from the European Foundation for the Improveme
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