Contents
Practice question
Here is a practice question, suitable for students and teachers using the Edexcel Economics A exam board.
The minimum wage increased by 4.1% in April 2026 to £12.71 per hour for workers aged 21 and over. For 18 to 20 year olds, the minimum wage is rising to £10.85 an hour and for 16-17 year olds, the rate is £8.00 an hour.
Evaluate the microeconomic effects of a rising minimum wage. (25 marks)
Below is a model answer on the question.
The model answer is split into subheading for easier reading. However, you do not need to use subheadings in the exam.
Model answer
Analysis paragraph 1
A minimum wage is the lowest wage level which employers, by law, must pay to their workers. It covers employees but the self-employed are mainly excluded. Classical supply and demand suggests an increase in the minimum wage leads to unemployment rising. See the diagram below. This shows the supply of and demand for labour in the supermarket industry, including checkout workers and shelf stackers. A minimum wage must be set above the equilibrium wage w, to have an effect. As of April 2026, the minimum wage in the UK is £12.71 per hour for those aged 21 and over and £10.85 for 18-20 year olds. Suppose the minimum wage increases from w1 to w2, shown by the MW line shifting upwards from MW1 to MW2. The minimum wage rise may increase labour costs if employment stays the same, forcing supermarkets to reduce labour demand. Supermarkets such as Sainsbury’s have stated they may be more cautious in hiring due to the minimum wage rise. Indeed “producer” surplus, which is on the demand side as firms demand labour, falls by the shaded area. So labour demand contracts from q2 to q3. Meanwhile, more workers enter the labour market for supermarket workers or offer to work more hours, attracted by the increase in per hour wage from w1 to w2. This increases labour supply from q1 to q4.The level of unemployment increases from (q1-q2) to (q4-q3), as labour supply now exceeds labour demand by a greater amount. This could increase poverty rates in towns where the supermarket industry is a key employer of labour.
Evaluation paragraph 1
However, this depends on the wage elasticity of demand (WED). Suppose labour demand is wage-inelastic. Then a minimum wage rise does not increase unemployment very much. For example it is difficult to replace workers with machines in some situations, as some supermarket customers may value human interaction and prefer not to participate in automated checkout systems. There may also be a necessity for shopworkers to verify ID and to act as security to comply with government regulation. This means the minimum wage will increase the total pay of workers too, making more workers better off from the minimum wage rise. So the minimum wage rising only leads to unemployment to some extent.
Analysis paragraph 2
The minimum wage rise may increase labour costs for supermarkets. Wages are likely to be a variable cost for supermarkets. So supermarkets’ average cost and marginal cost curves shift upwards, from ATC to ATC1 and from MC to MC1 respectively. This reduces supermarket output from q to q1, assuming the supermarket maximises profits and hence sets output where MR = MC. The price rises from p to p1, reducing consumer surplus and leading to a more expensive basket of goods at the supermarket, contributing to higher inflation. This increase in costs also reduces supernormal profits from area (p-c)q to zero in the diagram below. Supermarkets such as Tesco and Sainsbury’s have predicted that profits in 2025 are unlikely to rise, compared to 2024, due to cost pressures, such as the minimum wage. This could put supermarkets at risk of shutdown in the long run if TC > TR (or equivalently if ATC > AR). Reduced profits for supermarkets leaves firms with less funding to invest in improving the quality of their food offerings, reducing the rate of increase of quality for consumers over time. In other words, supermarkets are less likely to be dynamically efficient following the minimum wage rise. Supermarkets may scale back their customer service offerings, such as loyalty discounts, in-store cafés and customer support helplines.
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Evaluation point 2
However, a minimum wage rise may increase shopworker productivity. The “efficiency wage” theory states that workers are more motivated by higher wages, so they work harder, for instance by stacking shelves more quickly or scanning more checkout items per minute. This increases productivity, reducing firms’ cost per unit and increasing the marginal revenue product of labour. Rewarding workers more also means they are less likely to leave, reducing turnover costs to supermarkets from hiring new workers. Retail sectors tend to see high staff turnover. Hence, average costs may not rise for firms due to the minimum wage rise, as lower turnover costs and higher productivity can offset this. So supermarket profits may not fall and supermarkets may remain dynamically efficient.
Conclusion
Overall, there is a risk of higher unemployment in more competitive labour markets. However this effect depends on the market structure of the labour market. A rise in the minimum wage is likely to benefit some supermarket workers where the supermarket is a dominant employer (monopsony) in the area, for example in a small town near a retail park. A more certain impact is firms are likely to face higher costs in the short run. However in the long run, but may seek to use automation to replace workers, such as self-checkout systems. This could prevent costs from rising over time. This could also lead to labour being replaced with capital, which could increase unemployment. The effect of the minimum wage depends on the proportion of workers in supermarkets paid at or near minimum wage. Over 40% of supermarket workers earn below the real living wage. So the unemployment increase may be larger in supermarkets compared to other industries.
Commentary on the answer on minimum wages
This model answer on minimum wages contains all the features of a top level answer:
- Extended chains of reasoning. This includes the impact of minimum wage rises on unemployment, firms and consumers.
- Use of diagrams, with reference to relevant areas.
- Evaluation points that link back to the question.
- A conclusion that answers the question.
- Relevant real world examples throughout. This includes relevant minimum wage facts and context about the supermarket industry.
As a result, this answer would likely score full marks or close to it.
Other points could be used for this essay. This includes but is not limited to:
- More on the impact on poverty.
- Increase in demand for those on increased incomes.
- How minimum wage rises compare to inflation.
- Extent of firm compliance with minimum wage law.
- Impacts on prices through cost-push inflation.
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