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Ikea and the Business Case for a Living Wage

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This week, the Swedish furniture giant Ikea announced that it plans to start paying its retail workers a living wage. The new hourly minimum will be based on regional estimates derived from the MIT Living Wage Calculator. Beginning next year, the average minimum wage of Ikea workers will increase by 17 percent, to $10.76 an hour.

Ikea’s new policy may be a sign that retailers are, at last, starting to have second thoughts about the low-wage, race-to-the-bottom business strategy that has dominated the retail sector for decades. Earlier this year, Gap announced that it would raise its minimum pay to $10 an hour, and it’s seen job applications increase by 10 percent as a result. Even the most infamous low-wage employer in America, Walmart, said recently that it would not oppose a minimum wage increase, marking a reversal of long-standing policy (if true).

Ikea, the Gap, and other retailers aren’t paying higher wages out of the kindness of their hearts. Cherished B-school myths to the contrary, there’s a solid business case for compensating ordinary workers decently. It hardly seems an accident that in recent years, the labor-hostile Walmart has been posting declining profits and sales (according to The Motley Fool’s Travis Hoium, Walmart is “falling apart before our eyes”), while its labor-friendly counterpart, Costco, is thriving (since 2009, Costco’s sales have grown by 39 percent and its stock price has doubled).

Zeynep Ton book

It seems likely that Ikea’s policy has been influenced by the research of Zeynep Ton, MIT professor and author of the recent book The Good Jobs Strategy. Ton noticed something important: through supposedly efficiency-enhancing practices like just-in-time scheduling and cutting labor practices to the bone, stores like Borders and Home Depot were screwing themselves out of potential profits. Instead of floors staffed with knowledgeable employees who could answer your questions and help make a sale, staff was poorly trained and hard to get ahold of. This had a negative impact on these retailers’ bottom lines.

On the other hand, one well-known study by the Wharton School of Business showed that, for every $1 payroll increase, a store could see a monthly sales increase of $4 to $28. So Ton decided to look at four retailers that not only have excellent labor records but also boast “the lowest prices in their industries, solid financial performance, and better customer service than their competitors”: Costco, Trader Joe’s, QuikTrip (an American convenience store chain), and Mercadona (a Spanish supermarket).

What she found that with these retailers, there is a sort of “virtuous circle” in effect. A generous labor budget leads to adequate staffing levels and high-performing employees, which in turn leads to effective operational execution, resulting in strong sales and healthy profits. By contrast, retailers like Walmart are stuck in a vicious cycle, where stingy labor budgets result in badly trained, poorly motivated, understaffed workforces, which then lead to ineffective operational execution—all too predictably resulting in weak sales and razor-thin profit margins.

Yes, that all sounds rather pat. But as Ton shows, when American retailers under-invest in labor, it costs them. Paying employees more is important, of course, but so is granting them some stability and autonomy in their working lives. Cross-training retail employees so that they can keep busy performing other duties during slow periods alleviates the need for lay-offs or cutbacks in hours—a chronic problem in the retail sector. Letting employees make small decisions, such as how much of an item to order, not only boosts morale but also makes good business sense (because local knowledge is often best). Investing in employees tends to lower turnover, which reduces recruiting and training costs.

Compared to these other retailers, Ikea is not a huge employer in the United States—it only has thirty-eight stores here—but to the extent it is moving toward a “good jobs” model, its actions this week were significant. As a recently released report by the think tank Demos pointed out, retail is one of the largest low-wage sectors in the economy, and one that is projected to grow substantially over the next decade. Retail is a predominantly female sector, and the Demos report says that if retailers raised wages to $25,000 a year for full-time workers, the gender pay gap could be narrowed significantly. The report also argues that higher wages in the retail sector would benefit the overall economy, because employees’ increased income would act like a fiscal stimulus.

As for the impact they will have on the individual Ikea staff member, the virtues of Ikea’s new policy should not be exaggerated. Ikea’s new average hourly minimum wage of $10.76 is a distinct improvement over $7.25 (the federal minimum), but it’s still a pretty terrible wage. Also, as Demos senior policy analyst Amy Traub has pointed out, even though many retail workers support families, Ikea’s cost of living calculations are based on the expenses of a single, childless adult. Public policies such as minimum wage and living wage laws, strong labor unions, and macroeconomic policies that encourage full employment are more powerful and more reliable ways of improving workers’ earnings than depending on the benevolence of enlightened capitalists will ever be.

But it’s undeniable that the actions of retailers like Ikea are important. In recent decades, Walmart, America’s largest private sector employer, remade the retail sector in its own bottom-feeding image. Now, it seems, the retail sector may be slowly moving towards a different model. If this new model takes, perhaps even that infamous yellow smiley face will follow.