Understanding how the minimum wage affects behaviour

Each year, thousands of young Australians enter the workforce with a sense of excitement and trepidation. More than half will work in sectors typically associated with lower pay, such as hospitality, construction and retail, and many will be new migrants facing challenges adapting to a new life and country. 

Ensuring that new workers know their rights and are protected against unduly low pay is not only part of a fair and equitable society, but also can help them progress their careers and build a stronger economy.

An online experiment to study wage bargaining

A recent study by BehaviourWorks Australia (BWA) at the Monash Sustainable Development Institute provides some insights into the complex behavioural factors at play in wage negotiations.

The study focused on the behavioural effects of including the minimum wage on a workplace information statement, which all employers must provide to new employees before they start.

In the absence of any award or enterprise agreements, the Australian national minimum wage is currently $19.49 per hour for full and part-time adult employees, and $24.36 for casual adult employees. 

In particular, the team examined whether minimum wage information had an anchoring effect on wage-setting. Anchoring is a cognitive bias or tendency for us rely too heavily on the first piece of information we receive when making estimates or judgements, and has been known to impact negotiation outcomes.

The study involved a series of online experiments with 1500 participants, half of whom were employed in industries typically associated with minimum pay rates.

Participants were asked to complete a simulated wage bargaining task, where they were randomly assigned to the role of manager or worker. There were three versions of the task: 

• Where there was no minimum wage information
• Where participants viewed a relatively low minimum wage 
• Where participants viewed a relatively high minimum wage.

Behavioural consequences of the minimum wage

As expected, minimum wage information was effective in shifting wages to fair levels. Consistent with the anchoring effect, providing the minimum wage influenced the wages that managers set and that workers accepted. However, this effect was stronger for a high minimum wage.

What’s more, introducing a high minimum wage also resulted in a higher employment rate. This is because minimum wage information helped coordinate wage-setting so that managers offered a higher wage than what workers were asking for.

A further interesting finding is that the minimum wage not only dictated the wages that people set, but also the wages that people thought were “fair”. 

“Typically, we think of fairness as a fixed concept, but when we asked people to indicate what a fair wage should be, we found that this was also anchored by the specific minimum wage information they had been exposed to,” explains lead researcher Dr Kun Zhao. 

The exercise also revealed some biases in managers’ wage setting, with managers tending to believe that they offered higher wages than everyone else – an example of the better-than-average or over-confidence effect.

Constraints on fair wage bargaining

The findings suggest that minimum wage information has an important function, not only for coordinating wage-setting and improving efficiency in the labour market, but also for providing a benchmark of fair standards overall. “However, we wanted to know how it might be affected by other influences in the labour market,” adds Dr Zhao.

To examine this, the team had participants complete the task under a new set of conditions. While workers and managers previously had equal bargaining power (that is, neither would see the job go ahead if workers asked for a higher wage than managers), they also looked at what happened when workers had relatively less bargaining power (that is, managers could hire another worker at a lower wage if their initial offer was rejected by their original worker). 

“This slight tweak to the experiment changed our findings considerably,” says Dr Zhao. 

“With low worker power, the effect of the minimum wage was weakened. Both workers and managers were now less sensitive to minimum wage information.”

While 79 per cent of managers were compliant with the high minimum wage when there was balanced power, this dropped to 53 per cent when workers had less power.

“Furthermore, the introduction of low worker power led to a divergence between what wages people thought were fair and what wages they actually set. When workers had low power, both workers and managers set a wage below what they considered fair.”

The findings highlight that initiatives to improve people’s awareness of the minimum wage, as well as education of workplace rights and obligations, must be accompanied by strategies to empower workers and to protect vulnerable workers in priority sectors. 

“Without these, providing even the best set of resources on the minimum wage will only have a limited effect,” said Dr Zhao.