A new report published yesterday by the Resolution Foundation presents an analysis of how the new minimum wage premium or “National Living Wage” affects different households. It shows that households in the middle benefit the most from the increase in the minimum wage. Households in the bottom half only gain 45% of the overall gains of the higher minimum wage once tax and benefits are taken into account (although they will see greater increases as a proportion of their overall income). Does that mean that increasing the minimum wage is actually bad for inequality? Well, it depends on how businesses pay for the increase in the minimum wage.

There are a number of ways in which a business could respond to a minimum wage increase which could decrease inequality. They could reduce the amount they pay to their managers and other better paid employees or they could reduce dividend payouts to shareholders.

There are ways which they could pay for the increase which would have a slightly more complicated effect on inequality. If they increase the productivity of their workforce without decreasing its number then, as Resolution Foundation’s analysis predicts, the middle would benefit most, with inequality between the top and middle falling, but increasing between the bottom and middle. Similarly they could raise prices and if this didn’t reduce the number of jobs this would have a similar effect.

However, more worrying is where business responds by reducing the number of jobs. If this were a sufficiently large response then it could actually mean the minimum wage increases inequality. Whilst different businesses and different sectors will respond in different ways, the higher the minimum wage, the greater this problem will become. Some business will be able to adapt by reducing the dividends they are paying out to shareholders, or cutting pay in their top jobs. However, there is a limit to the amount they can reduce pay and dividends. If they already pay less than competitors who have fewer low paid staff, and don’t pay large dividends, then it seems overly optimistic to believe that they can indefinitely increase productivity without decreasing employment. This suggests that eventually, if the minimum wage goes high enough, it will increase inequality.

The evidence suggests that we’re not at that point yet, and there could be a way to go before we get there. However, the government’s current plans for the minimum wage would give us a very high minimum wage relative to that seen in other places. As we enter such uncharted territory, it’s probably best to wait and see for the effects of this new minimum wage, rather than pushing for an ever higher mandatory living wage which could increase inequality.

This caution, however, should stand in stark contrast to the campaign for the voluntary Living Wage. Just as in the past, when civil society through trade unions and other bodies has reduced inequality by fighting for higher wages for those at the bottom, the Living Wage campaign has an important role to play today in reducing inequality. The Living Wage’s voluntary nature means that only businesses that can afford to do so will actually adopt it so it’s highly unlikely that it will have any of these inequality increasing effects. The Living Wage campaign has already had notable successes, not least the backhanded compliment of the Government’s new name for their ‘National Living Wage’. Irrespective of the effects of this higher minimum wage, the Living Wage has shown us that civil society pressure to increase the incomes of those with the least has a vital part to play in decreasing inequality. It is a campaign that we must continue to support.

Tim Stacey, Senior Policy and Research Advisor