Federal Reserve Bank of San Francisco
Publications

FRBSF Economic Letter

1999-31 | October 15, 1999

More Economic Letters

Living Wage Ordinances

Rob Valletta


Living wage ordinances (LWOs) have been adopted by a number of local governments in recent years. Among the newest initiatives is the proposed law under consideration by the City and County of San Francisco. This LWO would establish a wage floor of $11 per hour–well above the $5.75 per hour state minimum wage–for firms that provide services to or lease land from the local government. Support for such laws is based on the view that employees who provide a service to local government should be paid a wage that adequately meets the local cost of living. However, as with broader minimum wage laws, LWOs are likely to involve some important tradeoffs, including the possibility of unintended adverse consequences for low-wage employment and the city budget.

This Economic Letter discusses living wage ordinances in general and some specific aspects of San Francisco’s proposal. The impact of LWOs on the budget, the local labor market, and local business conditions depends on various features of the law and the local economic climate. Estimating the quantitative magnitude of these effects in a specific location is beyond the scope of this piece. Instead, this Economic Letter discusses some key issues that are important for understanding the likely qualitative impacts of LWOs.

Background

Living wage ordinances are laws that have been passed by some cities and counties in the U.S. requiring firms that have a contractual relationship with the local government to pay workers wages that exceed the prevailing federal or state minimum wage. Observers generally mark the 1994 passage of an LWO in Baltimore, Maryland, as the beginning of a living wage movement that has gained steam in recent years. Since the passage of Baltimore’s law, about 30 other U.S. cities or counties throughout the country have passed LWOs, including three major cities in California: Los Angeles in 1997, and San Jose and Oakland in 1998 (within the Twelfth District, several smaller cities in California and two jurisdictions in Oregon also have passed LWOs; see ACORN 1999 for a list of LWOs in effect nationwide).

The definition of covered firms and the level of the wage floor are the key elements of the laws. In most LWOs, coverage applies to firms providing a minimum yearly level of contracted services to the city. Some of the laws stipulate that instead of or in addition to service contractors, coverage applies to firms receiving a subsidy from the city government, such as industrial revenue bonds, tax abatements, or development grants. The wage floors in these laws generally are in the range of $7 to $9 per hour, often with an additional $1.25 per hour added if employers do not provide key benefits (mainly health insurance) in covered jobs. Nationwide, the highest wage floor in an existing law is in San Jose: $9.50 per hour with benefits or $10.75 without.

San Francisco’s law

San Francisco currently is considering a living wage ordinance, which, if passed, would most likely become effective at the start of fiscal year 2001. The proposed ordinance would cover firms providing service contracts that cost the city or county at least $25,000 during a fiscal year. As with most other LWOs, businesses that sell goods to the city would not be subject to its provisions, nor would businesses with five or fewer employees. Unlike some other LWOs (for example, in Los Angeles, Oakland, and San Jose), San Francisco’s law would not extend to firms that receive local government subsidies. On the other hand, an unusual feature of San Francisco’s proposed ordinance is its application to firms that lease property from the city or county. Coverage therefore would extend to retail and other establishments located on port property (including tourist centers along the waterfront), as well as businesses located at San Francisco Airport and other public spaces (Sinton 1999).

The specified wage floor in San Francisco’s proposed LWO is $11 per hour. The law also would require covered firms to pay for workers’ health benefits and provide them with 12 days of paid vacation, sick leave, or personal leave and 10 days of unpaid leave each year. The wage floor would be adjusted annually according to the change in the Consumer Price Index (CPI) for the San Francisco-Oakland-San Jose region.

The wage level in San Francisco’s proposed law is higher in absolute terms than that in any existing LWO. As noted by Reich, et al. (1999), once differences in costs of living are accounted for, San Francisco’s proposed living wage is not substantially higher than mandated living wages in cities outside of California. For example, after adjustment for differences in the cost of living (as of 1995), San Francisco’s proposed living wage is below those in Baltimore and Miami and only a bit above that in Boston. On the other hand, even after adjusting for differences in the cost of living, San Francisco’s proposed living wage exceeds that in other major California cities with LWOs by a substantial margin: it is about 20% above the mandated living wage in San Jose and Oakland and about 33% above that in Los Angeles (based on county cost-of-living estimates for 1996-97 from the California Budget Project in Sacramento).

LWO impacts

Proponents of LWOs argue that living wage laws provide a means of raising the wages paid to some low-wage workers without substantial adverse impacts on the level and quality of public service provision, the city budget, and employment. However, like most government mandates, the gains produced by the LWO are likely to be accompanied by costs, some of which are unintended and may interfere with the goal of increasing income for individuals who earn low wages.

Assuming that an LWO applies to a significant number of workers (i.e., it is not purely symbolic), its first-order effect is clear: by requiring businesses covered by the LWO to raise the wages paid to their lowest wage employees, incomes will increase for low-wage employees at these businesses who retain their jobs. However, two key adverse side effects are possible: the resulting increase in costs may cause an increase in local government expenditures relative to revenues and/or a reduction in the level of local government services provided, and employment of low-wage workers may be reduced as covered employers seek to avoid the higher labor costs associated with the protected class of worker. These two effects should be considered together, because the extent of employment adjustment largely depends on the degree of budgetary accommodation: the greater the degree of absorption of the LWO’s costs into local government expenditures, the smaller the associated employment reduction.

Assume for the moment that the bidding process for local government contracts and property leases is fully competitive, and consider the general case of service contractors first. They are likely to respond to the increase in labor costs by attempting to reduce their usage of low-wage (covered) workers. Even if reduced reliance on low-wage workers is possible, average costs to covered firms probably would rise, which in turn would raise their minimum bids on contracted services. This increases the level of local government expenditures needed to maintain the existing level of service provision; the local government can respond by cutting the level of services provided or supporting the necessary expenditure increase through increased revenues.

San Francisco’s law also would apply to businesses that lease city land. Like service contractors, covered leasers would face higher labor costs for low-wage workers. Although covered retail establishments may be able to absorb these costs in part through higher prices charged to consumers, their ability to do so is limited by the degree of competition in retail sales markets, which typically is quite high (except in relatively protected locations such as the airport). The costs of the LWO to leasers therefore will be passed on to the local government budget. However, in contrast to the expenditure increase associated with covered service providers, most of the increase in leasers’ costs probably would be absorbed through a reduction in their bids for leased property and therefore a reduction in local government revenues. The city would then face the choice of raising additional revenue from other sources (such as taxes) or cutting expenditures on other services.

Although employment losses for low-wage workers also are of concern, several factors are likely to limit the disemployment effects of LWOs in San Francisco and elsewhere. Compared to firms affected by an increase in a state or local minimum wage law that applies to the entire workforce, contractors and many retail firms affected by an LWO are not able to shift production to another location and avoid paying the higher wage while maintaining the same lines of business (Bernstein 1998). Moreover, employers’ ability to reduce their use of covered labor through altering their service delivery methods is limited for services that are largely dependent on low-wage labor, such as retail sales and home visits made by health services workers. The costs of providing such services are likely to rise, with corresponding adverse effects on the local government budget.

Up to this point, the depiction of LWO effects on low-wage employment and the government budget has relied on the assumption of a competitive bidding process for government service contracts and property. However, if these processes are not fully competitive, bids on service contracts are not minimized, leasers receive an implicit subsidy through lease rates that fall below market value, and both types of firms earn above-normal profits. If so, imposition of the LWO may force local government agencies and potential contractors to evaluate bids more closely and squeeze out contracting inefficiencies or implicit subsidies. Under these circumstances, the LWO may have largely neutral budgetary effects. Contractors and leasers earning above-normal profits will absorb some or all of the extra labor costs, thereby reducing their excess profits and perhaps improving efficiency in the supply of city services. Although a noncompetitive bidding and leasing process could be addressed directly by local legislators, passage and enforcement of an LWO might provide an alternative means to realize the associated gains. As such, it may provide a means of transferring income to low-wage workers with little or no efficiency loss for the allocation of government services and property.

Beyond these budgetary and employment issues is the key issue of who receives the wage increase. Covered employers who are unable to reduce their labor usage may nonetheless shift employment away from the lowest productivity workers and instead hire workers whose underlying productivity (hence their alternative opportunities) are in the $11 range. Under these circumstances, adverse employment effects will be most severe for the lowest-wage workers, who can least afford them. A related issue is the interaction of LWO effects on employment and wages with the impact of tax and transfer programs more generally (Bernstein 1998, Williams and Sander 1997). The increased income received by workers who benefit from the LWO will be offset to some degree by their reduced receipt of tax subsidies and government transfers. Although some of the reduction in government subsidies may produce savings for local government, much will come from reduced transfer payments from the state and federal government (for example, through reduced eligibility for the Earned Income Tax Credit). Thus, the increased wage payments made by private-sector employers due to the LWO could be offset to some degree by reduced subsidies from higher levels of government. Although increased private-sector wage payments are at the philosophical core of the living wage movement, in narrow economic terms such offsets may not represent an improvement in the well-being of the local community.

Conclusion

A key concern regarding government labor market mandates is the possibility of unintended side effects that undercut the law’s intent. In the case of living wage ordinances, reduced employment of low-wage workers is one such possibility. However, it appears likely that the costs of San Francisco’s LWO primarily will be passed on to the local government budget, through higher expenditures needed to maintain existing services or through reduced lease payments from firms that lease city land. Such adverse effects are limited mainly by the extent of noncompetitive elements in the government contracting and leasing process. Finally, depending on the exact employment and tax effects, LWOs may not be well targeted at improving the income of workers at the bottom of local pay scales.

Rob Valletta
Senior Economist

References

Association of Community Organizations for Reform Now (ACORN). 1999. “Summary of Living Wage Ordinances on the Books.” http://www.livingwagecampaign.org/ (updated July; accessed October 5).

Bernstein, Jared. 1998. “Living Wage Campaigns: A Step in the Right Direction.” Unpublished manuscript (March). Washington, DC: Economic Policy Institute.

Reich, Michael, Peter Hall, and Fiona Hsu. 1999. “Living Wages and the San Francisco Economy: The Benefits and the Costs.” Unpublished manuscript (June). University of California, Berkeley: Institute of Industrial Relations. http://socrates.berkeley.edu/~iir/ (accessed October 5).

Sinton, Peter. 1999. “‘Living Wage’–Effects on Firms.” San Francisco Chronicle, May 5, p. B3.

Williams, E. Douglass, and Richard H. Sander. 1997. “An Empirical Analysis of the Proposed Los Angeles Living Wage Ordinance.” Report prepared for the City of Los Angeles, January 2.

Opinions expressed in FRBSF Economic Letter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco or of the Board of Governors of the Federal Reserve System. This publication is edited by Sam Zuckerman and Anita Todd. Permission to reprint must be obtained in writing.

Please send editorial comments and requests for reprint permission to
Research Library
Attn: Research publications, MS 1140
Federal Reserve Bank of San Francisco
P.O. Box 7702
San Francisco, CA 94120