Saturday, 18 June 2016

The (small) effect of immigration on wages

 A few weeks ago, Treasury warned of the impact of historically high immigration on jobs and wages. Here's what the New Zealand Herald reported:
The Treasury warned that record levels of immigration could push New Zealanders out of low-skilled jobs, depress wages and increase housing pressures...
Migrants were increasingly working in low-wage industries where there is no strong evidence of a skills shortage, Treasury noted in a briefing, released under the Official Information Act...
Last week's Budget forecasts show net long term migration peaking at a net 70,700 inflow in the year to June 2016, dropping back to the long term average of 12,000 by 2019.
So, net migration is at an all-time high. It's worth taking a look at how (theoretically) that should affect jobs and wages. Let's start with the basic labour market model (shown in the diagram below). Before the large increase in immigration, the equilibrium wage is W0, and the equilibrium number of jobs is Q0. Immigration increases the supply of labour from S0 to S1 (since there are more people looking for jobs - the same people who would have been looking anyway, plus the new immigrants). This decreases the equilibrium wage to W1 (which means locals receive lower wages, as well as the new immigrants), but increases the number of jobs to Q1. Since wages are lower, at least some employers will be willing to hire more workers, raising overall employment. However, since some of those additional jobs go to the new immigrants, the number of jobs for natives (and previous immigrants) might increase a little, or might decrease.

But wait. If, as per the quote above, new immigrants are increasingly working in low-wage industries, then we need to consider how the minimum wage affects our analysis, since wages can't fall below the minimum wage. Consider instead the diagram below, where the minimum wage (WMIN) is set above the equilibrium wage. This leads to some job rationing (unemployment) because the quantity of labour supplied (essentially the number of people willing to work), QS, is greater than the quantity of labour demanded (essentially the number of available jobs), QD. With the large increase in immigration, the supply curve again increases from S0 to S1. This doesn't affect the wage, but it does increase the quantity of labour supplied (to QS1), and increases unemployment. Employers aren't willing to hire any more people, but there are more people looking for work (new immigrants, plus natives and previous immigrants), leading to higher unemployment.

There's one more thing to consider though. Having more people in the country increases the demand for goods and services. Firms will need to produce more in order to satisfy the increased demand - so at least some employers will need to hire more workers, increasing the demand for labour. So, let's make that adjustment (in the diagram below). In addition to the increase in supply of labour from S0 to S1 (from high immigration), the demand for labour increases from D0 to D1. So, at the minimum wage the quantity of labour supplied increases (from QS to QS1), but so does the quantity of labour demanded (from QD to QD1). The wage is not affected (since the minimum wage is still binding), but the increase in unemployment is much less.

If instead you think about labour markets that are not constrained by the minimum wage (like the first diagram in this post), the decrease in wages from high immigration is likely to be much less than that diagram shows (because of increased demand for labour).

So, that is the theory. What does the evidence say? My colleague Jacques Poot (along with Simonetta Longhi and Peter Nijkamp from Vrije Universiteit Amsterdam) conducted a meta-analysis combining 348 estimates (from 18 different studies) of the percentage change in the wage of a native worker with respect to a 1 percentage point increase in the ratio of immigrants over native workers, which was published in the Journal of Economic Surveys in 2005 (ungated earlier version here). They found that:
Overall, the effect is very small. A 1 percentage point increase in the proportion of immigrants in the labour force lowers wages across the investigated studies by only 0.119%.
The literature remains far from settled on the effect of immigration on labour markets (whether you are looking at jobs or wages). This 2015 NBER Working Paper (ungated version here), by Ethan Lewis and Giovanni Peri, reviews the literature to date (including many more recent studies than the meta-analysis cited above) and asserts that there are positive effects of immigration on native-born workers, acting through increasing productivity. However, given the uncertainty in the literature (between a positive or negative net effect), we can be fairly certain the effect of immigration on the labour market is pretty small (whether positive or negative).

Coming back to the original story, Treasury argues that "at the margin, we believe that there are benefits to making changes to immigration policy". No doubt that is true, but the gains are likely to be very small.

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