Minimum wages and financial constraints in firms

Abstract

This paper studies how firms are affected by minimum wages when they face financial constraints. We introduce financial frictions into a search and matching model with stochastic job matching, imperfect information, and endogenous effort. The model replicates empirical evidence on the effect of minimum wages on hiring and separation as well as within-firm wage inequality and delivers predictions on output per worker and employment. If firms use external finance for hiring (training) costs, financial constraints intensify the reduction in hiring and firing, employment stock, and the increase in output per worker, but diminish the reduction in the extesnive margin of wage inequality after an increase in the minimum wage. If firms use external finance to pay for the wage bill, financial constraints intensify the reduction in employment stock, hiring, and wage dispersion, while the effect output per worker and firing is theoretically ambiguous. Our results highlight one potential channel behind distributional implications of uniform minimum wage policies.

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