The U.S. minimum wage improves access to traditional lines of credit

Economists have studied the employment effects of the minimum wage for more than a century. A fair reading of the full body of research suggests that increases in the minimum wage along the lines experienced in the United States over the past five decades have little or no impact on employment, though there are some holdouts among researchers.

The effects of mandated wage floors, however, almost certainly go well beyond any potential impact on jobs. Two Federal Reserve Board economists, Lisa Dettling and Joanne Hsu, have produced the latest piece of research that takes a broader view of the minimum wage. They find that minimum-wage increases appear to have a large and beneficial impact on access to credit for low-income households.

In a working paper released last month, Dettling and Hsu use detailed data on credit card mailing offers, credit reports, and households’ use of “alternative financial services” (such as payday and pawnshop loans) to see how lenders and low-income workers respond to increases over the past decade and a half in the minimum wage across U.S. states and the District of Columbia.

Their statistical analysis suggests that a one-dollar increase in a state’s minimum wage leads to a substantial improvement in the credit situation facing workers in low-income households. Specifically, they find:

• Credit card offers increase by 7 percent
• Borrowing limits on credit card offers increase by between 5 percent and 10 percent
• Interest rate terms improve
• The number of credit cards held increases by 0.8 percent
• Delinquency rates fall by 7.2 percent (9 percent for borrowers with new cards)
• Use of “alternative financial services” falls by between 40 percent and 45 percent

These striking findings have at least two important implications for the policy debate around the minimum wage.

First, cost-benefit analysis of the minimum wage should factor in the impact of the minimum wage outside of its consequences on the labor market. Some research has looked at the way higher wages at the bottom might boost employment by increasing consumer demand, but little research has looked at ways in which the minimum wage might affect credit markets. (An important exception is some earlier research by another group of economists at the Fed.)  As Dettling and Hsu note: “our results hint that minimum wage policy could have persistent positive ripple effects on household welfare and financial health through…credit markets.”

Second, increases in the minimum wage may be a more effective tool in the fight against predatory forms of credit, including payday loans, rent-to-own plans, and pawn shops. Dettling and Hsu’s findings suggest that even relatively modest increases in the minimum wage may have a bigger impact on reducing demand for far more costly alternative financial services than other legislative approaches that are more directly aimed at restricting the supply of these same services.