Four Reasons Boards Shouldn’t Rate the Minimum Wage Decision Highly in Executive Pay Considerations

This month the Fair Work Commission surprised employers and economists by deciding to lift the minimum wage and award wages by 3.3% on 1 July 2017. The minimum wage prior to the increase was $672.70 per week, equating to $34,980.40 on a full-time basis.

Management might bring this decision to the Board as a supporting argument for higher salaries, especially since award workers will also receive the increase. Yet Boards should consider the four following factors before granting executives an increase to fixed remuneration above average weekly earnings or the CPI.

  1. Social Context

The Fair Work Commission’s increase was not made purely to reflect current economic circumstances, but rather also to correct inequalities and living cost challenges for low paid workers. It also took into account the recent decision to reduce penalty rates for certain workers.

While the CPI has only increased by 2.1% in the year to March 2017, not all Australians are well represented by the basket of goods the ABS considers. Consider the impact on low income workers of recent increases to health insurance, energy (with a major provider recently increasing prices by 20%) and rent.

It is true that such increases will affect all people who consume those products, yet it will have proportionately a higher effect on those on low wages because these bills represent a larger proportion of their take home wage.

To provide a context for how much additional money a minimum wage worker would be receiving given the 3.3% increase we compare it to how valuable the same sum of money would be to higher income earners. The following graph depicts the percentage after tax increase these earners would experience if they received the same dollar increase as a minimum wage earner.

The minimum wage increase in dollars as a percentage of take home pay for different income levels

Benefit of minimum wage increase at various pay levels

A highly paid executive is unlikely to even notice an increase of the amount the minimum wage worker is receiving. The minimum wage worker will.

Although workers on awards can be earning more than the minimum wage, and would therefore receive more money from a 3.3% increase, it’s important to note the average weekly non-managerial award wage as at May 2016 was $802.80, which if annualised sits just under $42,000.

The five industries with the most award workers are retail; accommodation and food services; administrative and support services; education and training; and health care and social assistance. Their average annualised wages released in May 2016 by the Australian Bureau of Statistics were $29,312, $24,892, $37,866, $58,130 and $55,728 respectively, indicating the level of casual and part time workers in the first two sectors.

Another way of considering the situation is to examine the effect the dollar value of the 3.3% increase for varying incomes would have on the minimum wage worker’s take home pay packet.

% Increase in minimum wage worker’s take home pay if their gross pay is increased by the dollar value a higher income earner would have received given a 3.3% wage increase

Value of large salary increases to a minimum wage worker

It is clear that a 3.3% increase provided to an executive, if transferred to a minimum wage worker, would have a significant impact on that worker’s take home remuneration.

  1. Economic context

While the social context is applicable for a minimum wage worker, it is the economic context that is most important for executives.

The 3.3% rise compares to a CPI for the year to March 2017 of 2.1%, wage price index growth for the year to March 2017 of 1.9% seasonally adjusted, growth in annual weekly earnings for full time adult workers of 2.2% and all workers of 1.6%. We also note that there is a significant level of underemployment, such that the current unemployment figure of 5.5% does not paint the full picture. (In addition, some commentators question the 5.5% figure, pointing to a Roy Morgan estimate of 9.8% as closer to the truth.)

The difference in effect on the economy of wage rises at different income levels is also important. Low income earners who receive additional money are likely to spend it, while higher income earners will often save at least a proportion of their salary increase. Consider the effect a 3.3% increase for minimum wages might have on household spending. This is why RBA governor Phillip Lowe has called for workers to stand up for higher wages. In the year to March 2017, GDP rose 1.7% — a far cry from the government’s goal of 3%. A lift in the household spend will help support this aim.

Even if executives receive no annual increase to their fixed remuneration, the likelihood of meeting their incentive targets will be higher in a country experiencing high growth than one experiencing mediocre growth. The percentage increase to aggregate remuneration levels where targets are met rather than not met will in all likelihood be higher than a 3.3% increase to their guaranteed pay.

It is worth also noting Business Council of Australia Grant King’s comments on increasing wages. He states that increasing wages would be nice, but productivity and profit increases must come first before wage increases flow. This principle might be counteracted by a social imperative for low income workers, but for executives it should carry weight.

  1. Cost effectiveness

Low income workers will receive more of their increases in final pay packets than high income workers. (Assuming no special tax arrangements.) This means more of the company’s wages dollar is actually going towards increasing the spending power of the employee. The following graph illustrates the proportion of the increase that would be kept after tax as a function of income, considering income tax, the low income offset and the Medicare levy.

Proportion of the 3.3% increase that would be take home pay for various income levels

Amount of wage increase that is take home pay

Note that as tax concessions are phased out with higher incomes and employees move into higher tax brackets, the percentage of salary increases they keep reduces until they are past the effects of that threshold.

  1. Flow on effect

If we increase a minimum wage worker’s wage by 3.3%, there will be the usual additional costs for related payments such as superannuation. However, it won’t be nearly as expensive as increasing the fixed remuneration of an executive, where not only superannuation payments could be affected, but also bonuses calculated as a percentage of fixed remuneration. This has a multiplying effect on total remuneration costs and must be carefully considered.

This point raises another issue, in that executives, due to the nature of their remuneration, are not only workers, but capital holders.

The labour share of gross domestic product has fallen dramatically in the last two quarters, according to analysis by the Australia Institute. Where the general workforce would feel the full force of this, executives, whose remuneration are often partially delivered in equity in the company, will share in the profit share of GDP.

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