economics of the business environment assignment
Critically evaluate the impact of imposing a minimum wage on the UAE's economy
I would like to thank Dr. Paulson, my course leader for Economics for his continuing interest, encouragement, and support in helping me complete this assignment.
We are all influenced by the thoughts and ideas of other people which tend to drift into the subconscious and are not always distinguished clearly from one’s own. I have attempted to give references for sources of work by other writers but apologise to any concerned if acknowledgement has inadvertently not been recorded.
2. List of Figures
5. Minimum Wages
6. Demand Curve for Labour
7. Supply Curve of Labour
8. Determination of Wages
9. Government intervention in the Labour Market
10.Arguments against a National Minimum wage
11.Arguments for a National Minimum wage
Soon after its emergence in the year 1971, UAE started a series of programmes aimed at achieving a rapid economic development in a very short period. The economic boom was, however, not without the heavy dependence on imported labour. With the majority of the population comprising of the expatriate community and more people continuously entering the country to seek better prospects, the labour market soon became highly in favour of the employers. Today an employer in the UAE can dictate his terms and can easily exploit the ignorance of the poor workers. The introduction of a minimum wage, though not without any ill- effects, can be effectively utilised by the government in combination with other legislative acts to check the deteriorating situation and to regularise the local labour market. Helping it achieve various social benefits as well, the imposition of a national minimum wage on the whole will have positive implications on the economy both in the short run as well as in the long run.
The emergence of the UAE in December 1971 was a major landmark on the path of economic, social, political and cultural development, in addition to being a pioneer federal experiment in the modern history of the Arab world. A major phenomenon of the demographic structure of the UAE is the rapid growth during a very short period. This reversed the demographic balance in favour of expatriates who constitute a major percentage in this structure. “The availability of huge financial potentials achieved from the high oil prices starting from 1974, and the UAE’s successful ambition to overpass the backwardness phase as soon as possible was not without seeking the assistance of the foreign experience and labour force.” (Al Tijarah, October 1996). Moreover various resolutions have been taken recently regarding the recruitment of expatriates and local employees and organising the labour market in the long run.
A minimum wage is one which is fixed by the government and is the lowest amount which may legally be paid to a worker for a standard number of hours at work. Before critically evaluating the impact of imposing a minimum wage on the UAE’s economy, it is essential to understand the nature of demand for and supply of labour in the UAE. The UAE’s labour market is characterised by the following features:
· Large number of buyers (employers ) and sellers (labourers).
· Both the employers and labourers possess perfect information regarding the current wage rate in the market.
· Labourers are not organised in the form of any trade unions, that is, labourers bargain with the employers individually.
· Both the buyers and sellers of labour are free to enter or leave the market.
Demand Curve for Labour
“ The demand for labour is affected by three main factors:
1. The level of wages
2. Labour productivity, and
3. The demand for the goods or services which the labour is used to produce.” (D., Johnson and S., Stacey, 1997, p 60).
“Marginal Revenue Product (MRP) is the increment in the total value product caused by employing an additional unit of a factor, the expenditure on the factor remaining unchanged. In other words MRP is the marginal physical product of the factor multiplied by the marginal revenue.” (H. L. Ahuja, 1992, p 290). Employers try to maximise their profitability by employing labour to a point where its MRP equals its wage rate.
Supply Curve of Labour
As regards the supply of labour is concerned, it may be pointed out that supply of labour in the economy is affected by the number of people qualified to do the job, the number of hours worked, the intensity of work, the skill of the workers, willingness to work and various other non-economic and non-monetary factors. The supply of labour also depends on the substitution and income effects of a wage increase. “ The substitution effect tends to increase the number of hours worked while the income effect tends to reduce the number of hours worked.” (Economic Systems and Micro Economic Theory, 1995, p14). If at any stage income effect becomes stronger than the substitution effect , the supply curve will slope backwards . However, normally the labour supply curve will be upward rising as shown below
Determination of Wages
The wage rate of labour in the economy is determined by the intersection of the demand and supply curves of labour.
Only at wage rate, quantity demanded of labour is equal to the quantity supplied. The wage rate cannot be established below or above the equilibrium wage rate as market forces will force the wage rate to move to its original position. However it should be remembered that though the wage rate is determined by demand for and supply of labour, it is equal to the Value of Marginal Product (VMP) of labour. This is because the firms will equalise the wage rate with the VMP of labour in order to maximise their profits.
Government intervention in the Labour Market
One of the most effective tools by which the government can intervene in the labour market, is through a legislative fixing of factor prices in the form of a Minimum Wages Act. Before analysing the various standpoints by considering the case for and against a national minimum wage, it should be remembered that a minimum wage below the equilibrium wage in the economy will have no impact on the labour market as in such a situation the market forces will dominate.
Arguments against a National Minimum Wage
· The first and the foremost argument, that strikes the mind, against the imposition of a minimum wage on the UAE’s economy is the very fact that the government interference in a free market economy is an undesirable thing. Government intervention can cause market distortions and a loss of efficiency in the functioning of the economy. Moreover workers who feel their wages are low are not forced to remain there, they can move in search of higher remuneration elsewhere.
· Imposition of a minimum wage will lead to unemployment in the economy. Moreover unskilled and young people will suffer the most as they will find it extremely difficult to enter the labour market at the fixed minimum wage.
· Unemployment might be further increased due to the increased mechanisation arising as a result of the firm’s decision to implement labour saving devices and substitution of capital for labour.
· A minimum wage could also lead to increase in business costs. This in turn would lead to the increase in the prices of the business’ final product. As all the firms in the country would be affected by the imposition of the minimum wages, the prices of various goods and services would show an upward trend and this would create an inflationary trend in the country. With inflation in the UAE already ranging between 3% and 4% (1997) and total exports and re-exports valued at 123.33 billion dirhams in the year 1996, minimum wages could have a detrimental impact on the economy’s competitive position in the international market. The UAE’s goal to achieve a major boost in its non-oil manufacturing sector could also receive a severe setback.
· A minimum wage would prevent improvements in the real income for consumers of the goods whose prices have risen, as they have to pay more for the same quantity of the goods or services.
· In order to avoid the effects of the minimum wage and to maintain the higher profit margins, firms might be tempted to circumvent the minimum wage legislation by employing more workers on a part-time or casual basis or by employing them through the unofficial, black economy without maintaining any labour contract or other official records.
Arguments for a National Minimum wage
· The basis of the case for a national statutory minimum wage is that all workers being human beings have a fundamental right to receive an increase which would guarantee them an acceptable minimum standard of living. With the per capita income of the UAE being $ 18,640 (1997), the living standards which are considered minimum are also high, thus further supporting the case for a national minimum wage.
· The argument that if workers feel they are exploited they can shift their jobs overlooks the fact that workers face innumerable problems in shifting their jobs. Apart from the difficulty in finding jobs at times of unemployment, people also tend to be occupationally and geographically immobile due to the UAE’s labour laws. People having an employment visa of one emirate are prohibited from working in any other emirate on the same visa. A ban of minimum six months is applied whenever a person terminates his labour contract and wishes to enter into a new contract with a new employer. Such legal obstacles, combined with other social difficulties greatly restrict the flow of people from one job to another.
· Majority of the UAE’s labour force, which stood at 1,050,000 in 1996, comes from Asia, mainly from South Asia. Most of them are ignorant about the labour laws and are subject to vast exploitation at the hands of the labour contractors and the employers. Though the labour laws clearly state the levels of payment of gratuity corresponding to certain number of years of work, in practice the rule is widely ignored and violated by the employers especially in the case of semi-skilled and unskilled workers employed in the textile and construction sectors.
· Raising the level of payments of the workers can generate a number of positive economic advantages. As the poor tend to have a high marginal propensity to consume, a higher level of demand in the economy would be created which might stimulate investment and economic growth. An initial dose of investment would lead to the multiplier effect which would result in an increase in the level of income which would be more than the initial investment. This would also stimulate economic growth and reduce the level of unemployment in the economy.
· The absence of trade unions or any other effective regulatory body in the UAE labour market has given the employers a freedom to employ workers adopting a “Hire and Fire” policy and no advance notices or retrenchment compensations are required to be given in case of pre- contractual termination. In other words, there is wide spread exploitation of workers . Even the security of job that a person can expect in his work is highly limited and compensation through an increased minimum wage can, at least monetarily, reduce the ill-effects of an insecure job.
· The inflow of a large number of expatriate labour in the UAE has led to the appearance of non-equalised competition between the locals and the expatriates in the labour market. This is because the private sector firms prefer to employ the expatriates because of their low wages. At the same time the highly qualified locals prefer to work for public departments tempted by higher pay and job stability. Such negative developments can be reduced with the introduction of minimum wages as private firms will start employing locals and the locals too can seek employment on a ‘level-playing’ field. This would also serve the government’s long term goal of achieving increased ‘Emiratisation’(the employment of locals) in the economy.
· As a national minimum wage would apply to all workers, it would be wrong to assume that the relative competition of the firms within the economy will be greatly affected. The adverse effects of higher wage costs on employment and prices and the general competitiveness of the economy in the international arena may be greatly mitigated by productivity gains. When the wage increase is achieved through a successful minimum wage program, the marginal productivity curve may not remain the same, but may shift above due to the rise in the efficiency of workers brought about by the higher wage. Workers getting more wages will be more motivated to work better. Increased monetary incentives act as a stimulant to the workers to perform better and the resulting output is also of a better quality.
· Increase in wages may force the employers to improve the efficiency of the production process and any under-utilised capacity may be easily identified, and hence the productivity of the firm as a whole may also increase.
· With increased wage payments the purchasing power in the hands of the labourers to consume products will also increase. Any initial unemployment as a result of increased wages will be reduced with increase in consumption expenditure.
· It should be noted that though minimum wages may create unemployment due to the producer’s decision to mechanise their operations and use capital intensive technology (Backward effect of employment), the growth process generates new employment opportunities. For example, the increased use of computers by the insurance companies in the UAE will lead to labour displacement. However it shall result in increased employment in computer and other allied industries. (Spread effect of employment).
· Introduction of minimum wages can also be effectively used by the government to control the traditional differences in the level of income in the society, and to reduce the level of poverty prevailing among the masses. Such measures can also check the rate of growth of population, which is 4% in the UAE, in the country as people start preferring smaller but wealthier families. Introduction of minimum wages is widely welcomed by the working community and creates a favourable impression about the government in the minds of the public assuring continued public support and political stability.
Thus we can see that there are strong arguments both for and against the imposition of minimum wages in the UAE. Though it can be said that a minimum wage is desirable and is a must for the UAE’s economy, it would be wrong to overlook the negative repercussions that a minimum wage could have. Inorder to make the minimum wage most effective adequate labour laws assuring the security of the jobs should be introduced. The UAE government has already introduced laws making it obligatory for employers to recruit workers through the official market , non-compliance of which results in a fine of AED 10,000 or even imprisonment of upto three years. The expulsion of nearly 200,000 illegal immigrants from the UAE in October 1996 was with a view to regularise the labour market.
Moreover it is not only the monetary value of wages, but also a number of additional factors, which should be considered before fixing the minimum wage. Fixation of minimum wages should be in relation to the purchasing power of money. Likewise the nature of the job, the risks involved, pleasantness and social standing of an occupation should be considered in fixation of minimum wages. The minimum wage should be fixed accordingly for different categories of workers, clerical staff, managers etc. and should be based on the number of employees in a firm, sales turnover, capital outlay or other variables. Within a category of workers too ‘equalising differences’ in wages may arise. A minimum wage may clearly and accurately establish wages between categories showing substantial degree of homogeneity of labour, and geographical wage differences may not pose a serious problem in UAE as the country is relatively small. However the minimum wage should also include clauses whereby apart from the assured minimum returns workers are rewarded adequately for their personal competencies. Thus to conclude it can be said that minimum wages are really a must in the UAE and while considering the fixation of the minimum wages, real wages too should be taken into account as they are a better index of the economic position of a worker and as Adam Smith rightly put it “The labourer is rich or poor, is well or ill-rewarded, in proportion to the real, not to the nominal value of his wages.” (I. C. Dhingra and V. K. Garg, 1991, p 286 ).
1. Debra Johnson and Sue Stacey, (1997): “ Economics of the Business Environment Study Guide”: ULH Publications.
2. “Economic Systems and Micro Economic Theory” Study Material - 8, (1995): Famous Offset.
3. H. L., Ahuja, (1992): “An Introduction to Economic Theory”: S. Chand and Company Ltd.
4. I. C. Dhingra and V. K. Garg: (1991): “ Introductory Economic Theory” : Sultan Chand and Sons.
5. Sharjah Chamber of Commerce and Industry, “ Al Tijarah” , Issue No: 10 October 1997.
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