Optimal Minimum Wage in a Competitive Economy: an Alternative Modelling Approach

Miren Arantzazu Gorostiaga Alonso and Juan F Rubio-Ramirez

No 1988-088X, DFAEII Working Papers from University of the Basque Country - Department of Foundations of Economic Analysis II

Abstract: This paper analyzes whether a minimum wage can be an optimal redistribution policy when distorting taxes and lump-sum transfers are also available in a competitive economy. We build a static general equilibrium model with a Ramsey planner making decisions on taxes, transfers, and minimum wage levels. Workers are assumed to differ only in their productivity. We find that optimal redistribution may imply the use of a minimum wage. The key factor driving our results is the reaction of the demand for low skilled labor to the minimum wage law. Hence, an optimal minimum wage appears to be most likely when low skilled households are scarce, the complementarity between the two types of workers is large or the difference in productivity is small. The main contribution of the paper is a modelling approach that allows us to adopt analysis and solution techniques widely used in recent public finance research. Moreover, this modelling strategy is flexible enough to allow for potential extensions to include dynamics into the model.

Keywords: redistribution policy; minimum wage; Ramsey Problem (search for similar items in EconPapers)
Date: 2004
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Journal Article: Optimal minimum wage in a competitive economy: An alternative modelling approach (2007)
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Dpto. de Fundamentos del Análisis Económico II, = Facultad de CC. Económicas y Empresariales, Universidad del País Vasco, Avda. Lehendakari Aguirre 83, 48015 Bilbao, Spain

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