Minimum Wage Increase for Farmers in India: Simple Model Implications

In an article from EconomicTimes.com, describes a new minimum wage policy pushed by the Bandaru Dattatreya-led labor ministry. This proposal was to increase in the minimum wage, that would nearly double the minimum wage available in India.

The wages paid will be paid by town category and skill of worker, as shown in Table 1. A class towns are larger towns including metropolitan cities. B class towns are the remaining towns not covered by A. C class towns are areas where the 1948 minimum wage act is still in effect. Before the increase, the wages started at 160 Rupees for unskilled farmers in class C towns.

Table 1. Minimum Wage Entitlements

Type of worker Minimum Wage Entitlement (in Rupees)
by Town Category
A B C
Unskilled agriculture laborer 333 303 300
Semi-skilled workers 364 335 307
Skilled 395 364 334
Highly skilled 438 407 364

 

These wage rates include workers being paid for a contracted day of rest as well. These wage increases may be different because the standard of living in cities is higher than in rural parts of the country. Minimum wages would be welfare improving if the lowest rate available could cover at least $1.90 a day. The current exchange rate for Dollars to Rupees is 64.44 according to Google’s exchange calculator. Which at 300 rupees a day would be around $4.65 per day. In the most recent data I could find from tradingeconomics.com, 300 rupees per day is an increase from the 2014 average daily wage rate of 272 rupees. This wage increase may not increase unemployment. The unemployment rate in India was decreasing, while the average wage was increasing from 2008 to 2014. I used 2008 as a marker because that was the year of the financial crisis.

Micro economic model

The graph provided by edgewortheconomics.com shows the conservative, neo-classical rationale against a minimum wage increase. Increasing the minimum wage above market equilibrium is called a binding minimum wage. If a wage is binding then the number of jobs wanted may be higher than the jobs available. Ultimately, this could lead to higher unemployment. Higher unemployment of the poorest could lead to increasing in the depth of poverty in India’s poorest regions.

Increasing the minimum wage may raise the standard of living for Agricultural workers. This is a more liberal rationale. It is likely that this may have no effect on an employer’s ability to contract work. This could be true if the minimum wage was both above the country’s poverty line and the wage is not binding. This could possibly decrease the depth of poverty in India.

There are simple economic models available to explore how an increase in the minimum wage would affect these workers. The assumptions made by the models may not be practical for the more general real-world case. Although it provides important insight on how farmers and landowners respond to policy changes under basic conditions.

In agriculture, there are three economic models that describe different wage contracts for farmers and landlords. There are fixed rent contracts where the landlord charges a predetermined rent, and the client keeps the full amount of the crop. There are share cropping contracts where the farmer is given a percent share of the crop, and the land lord keeps a share of by a predetermined rule. There are fixed wage contracts where the landlord keeps the full share of the crop, and the farmer is paid a wage.

For the purposes of this explanation we will assume that farmers are risk averse in their behavior. This is because a farmer’s payout really matters because of volatility that farmers could experience. We will also assume that a landlord can’t actively observe the amount of effort that a client puts into his/her work. This monitoring would probably come at a cost to the landlord. We will also assume that farmers putting effort into their work is better for farmers and landowners than not putting in effort. If this weren’t true then there would be no real incentive for farmers to work the land because effort is costly to the farmer. We will assume that the fixed wage, the sharecropping, and the fixed rent contract all pay the same amount to the landlord/farmer. Otherwise there would be no point in offering three contracts because the farmer/landlord would want the best one. We will also assume, for simplicity, that the farmer can only pick between these three contracts and can’t choose any other kind of work. Finally we will assume markets are perfectly competitive.

Increasing the minimum wage would be like an increase for the fixed wage contract. This would incentivize farmers to want the fixed wage contract. However, for landowners offering fixed rent contracts and sharecropping contracts, they would have to adjust their rates to farmers to stay competitive. This would decrease the rent for the fixed rent contracts. The share of output that farmers would keep in sharecropping contracts would increase in expectation.

Land owners would not like these changes very much. A higher minimum wage would decrease his/her profits for a fixed wage contract because the amount they would have to pay the farmer would go up. For fixed rent, the amount of rent would decrease. This would mean less money for the landowner. The sharecropping contract would give a larger share of the crop to the farmer. This would make the share of the crop that the landowner would get smaller. These results are intuitive and tie in nicely with the general neo-classical model.

As the price of the minimum wage increases, the cost to the landowner increases. This is also true in the neo-classical model of supply and demand of labor. The result could be a wage that is above $1.90 and is not binding, that may result in better welfare for farmers. Another possibility is a binding minimum wage that may result in unemployment for farmers.

Citations

Sharma, Yogima Seth. “Government hikes minimum wage for agriculture labourer.” The Economic Times. February 28, 2017. Accessed April 24, 2017. http://economictimes.indiatimes.com/news/economy/policy/government-hikes-minimum-wage-for-agriculture-labourer/articleshow/57408252.cms.

“Global Extreme Poverty.” Our World In Data. Accessed April 24, 2017. https://ourworldindata.org/extreme-poverty/.

Google. Accessed April 24, 2017. https://www.google.com/webhp?sourceid=chrome-instant&ion=1&espv=2&ie=UTF-8#safe=off&q=dollars to rupees.

“India Average Daily Wage Rate  1965-2017 | Data | Chart | Calendar.” India Average Daily Wage Rate | 1965-2017 | Data | Chart | Calendar. Accessed April 24, 2017. http://www.tradingeconomics.com/india/wages.

“A $9 Minimum Wage And A Lesson In Price Floors.” Edgeworth Economics, L.L.C. Accessed April 24, 2017. https://edgewortheconomics.com/experience-and-news/edgewords-blogs/edgewords/article:02-28-2013-a-9-minimum-wage-and-a-lesson-in-price-floors/.

“Poverty estimates for 2004-2005.” http://www.planningcommission.gov.in. http://www.planningcommission.gov.in/news/prmar07.pdf.

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1 thought on “Minimum Wage Increase for Farmers in India: Simple Model Implications”

  1. You bring up some interesting points about the impact of an increase in minimum wages on the allocation of contracts in the labor market. I wonder if this new policy would also change the effort levels of an individual. We might expect that the minimum wage change forces an increase in the opportunity cost for a worker on fixed wage contract (i.e. the farmer can earn a higher wage at the minimum rate elsewhere without exerting effort). This would thus increase the level of the participation constraint and perhaps even cause the tenant to shift their preference toward the no effort opportunity.

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