Does the Minimum Wage Affect Welfare Caseloads?

The degree to which minimum wages affect employment has been of interest to economists and policy makers for many years. This interest has stemmed largely from a potential inconsistency between the intent of minimum wage laws and their theoretical effects: the goal of minimum wages is to improve individuals' abilities to support their families and avoid welfare but the textbook model of supply and demand predicts that such wage gains come at the expense of lower employment levels. In order for minimum wages to improve the well-being of families overall, the demand curve for low-skilled workers must be relatively inelastic. Most of the empirical research on minimum wages has focused on the relationship between minimum wage increases and employment rates, especially among teenagers. To date there have been no studies that estimate the impact of minimum wage legislation on potential welfare recipients, but recent passage of the Personal Responsibility and Work Opportunity Reconciliation Act of 1996 (PRWORA) intensifies the need to understand the relationship between work and welfare. In this study, we use variation in minimum wages across states and over time to identify their effect on the size of the state welfare caseload. Our empirical results indicate that, once state trends and a variety of other factors are accounted for, the elasticity of the welfare caseload with respect to the minimum wage is between 0.1 and 0.2. In other words, a 35 percent increase in the minimum wage like that recently implemented in California could lead to a 3 to 7 percent increase in the size of the welfare caseload, holding all else equal. These results are remarkably stable to the inclusion of other variables that influence the evolution of caseloads over time, such as state-specific welfare reforms and changing political preferences. Our estimates suggest that minimum wages are not an efficient means of improving the financial independence of low-skilled single mothers, since the wage gains experienced by those who keep their jobs are counteracted by an increase in the welfare rolls. Policies like the Earned Income Tax Credit, which increases wages through the tax code without depressing the demand for low-skill labor, are likely to be more effective in facilitating the transition from welfare to work. This policy conclusion comes with a number of caveats. First, if minimum wages are increased in response to rising caseloads or poor economic conditions, then our policy variable will be endogenous and our estimates biased upward. We have tried to eliminate potential omitted variables bias by including as many control variables as possible, but if these controls are not complete then our study will be subject to the same criticism as the studies of minimum wage effects on teenage employment. Second, it is important to remember that research on the impact of minimum wages on teenage employment are all over the map, and that these estimates vary according to the data years analyzed, the source of the identifying variation, and the empirical strategies used to eliminate fixed effects. We have considered a number of alternative specifications in our analysis, but as in the employment literature, an alternative approach may yield different results.