Wednesday, August 3, 2016

UK minimum wage pre and post-Brexit. How has it changed?

There is always a debate about the appropriate level at which the minimum wage should be set (or even if there should be one).

International comparisons are often used to see how other countries approach the use of it as a policy tool.

Here is how the U.K. deals with the issue. They have what is called a "tier" approach---a different minimum wage for different age groups and/or skill levels.

 From UK.gov
Of course the wages are in Sterling Pound, the currency of the UK. We know with "Brexit" the value of the Pound has taken a hit over the course of the last month or so.

For the purposes of understanding how making cross border comparisons can be tricky, let's put the a above numbers in the current exchange rate, exchange rate before Brexit and Purchasing Power Parity (PPP) exchange rate.

Before the effects of Brexit hit the market, the Pound was trading at roughly \$1.45. So if you take the above wage rates and multiply them by \$1.45 that will give you the US dollar value of the minimum wage for that particular age/skill group.

For 25 and over: \$10.44.  For 21-24: \$9.72.  For 18-20: \$7.69. For under 18: \$5.61. Apprentice: \$4.79

Today, the exchange rate is 1 Pound = \$1.33. Again, take the numbers in the chart above and multiply by \$1.33.

For 25 and over: \$9.58.  For 21-24: \$8.91.  For 18-20: \$7.04. For under 18: \$5.15. Apprentice: \$4.39.

Quite a difference!  The only thing that changed is the exchange rate between the Dollar and the Pound in a relatively short period of time.  You can see how using current exchange rates can present a misleading picture when presented in current exchange rates.

Fortunately we have a better, but not necessarily perfect, way to show the differences in currency exchange rates.  It is called Purchasing Power Parity (PPP).  PPP is the economists preferred exchange rate to use when making international comparisons because it takes country specific prices/price level into consideration.

In many cases the PPP exchange rate varies drastically in comparison to market exchange rates.

In the case of the UK, data from the OECD show the PPP rate to be almost identical (1 cent less) to the pre-Brexit market exchange rate: \$.144 (See the data here).  The numbers I calculated above for "pre-Brexit" will only be slightly less given the PPP exchange rate.

The US has minimum wage has some exceptions but for the most part, regardless of age and/or skill level, it is a blanket \$7.25 per hour.  You can see how this falls into the UK policy scheme.

So, when someone quotes a foreign country's minimum wage in dollars it is critical to know (1) if that it is in current dollars how has that currency faired lately in the foreign exchange market and (2) is that in market dollars or in PPP?

Then judge by the look on their face if they are as informed as you or not.  :)

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