The minimum wage is to rise from $12.00 to $12.50 an hour from April 1.
Prime Minister John Key said the rise was in line with inflation of 4.2 per cent.
The youth training and new entrant wage would also increase from $9.60 to $10.00 an hour.
Between 94,000 and 123,000 workers would benefit from the increases of $20 hours a week to $500 a week before tax.
Mr Key said the increase struck the right balance between protecting the spending power of the lowest income earners and protecting jobs.
Official advice was that the increase would have a negligible effect on employment.
Mr Key said the increase was consistent with that last year in Australia of 4.1 per cent to $14.31.
"We considered a range of issues when considering this issue, obviously we were concerned that if the wage was to rise too much there would be an implication on employment," Mr Key said.
"Similarly no raise at all in the minimum wage would have left the lowest paid, most vulnerable workers with no increase to offset costs."
Mr Key said ministers had been offered three options by Labour Department officials:
*A nil increase;
*An increase from $12.00 to $12.50; and
*An increase from $12.00 to $12.65.
Mr Key said he believed no rise would have been unfair.
"I accept there is pressure on employers at the moment, the economy is not strong and that's an added cost, but equally we are dealing with the most vulnerable workers who have got cost increases themselves they have to offset,"
Mr Key said if workers and employers took an objective view they would see the decision was balanced and a larger rise would have cost jobs.
Before the announcement Labour leader Phil Goff called for the wage to increase to $13.
Green employment spokeswoman Sue Bradford said the increase was better than nothing, but they would not buy much as costs continued to rise
Ms Bradford and a number of unions called for increases over time to take the minimum wage to two-thirds of the average wage.
This would be around $16 an hour currently.
Council of Trade Unions President Helen Kelly said the increase would be welcomed but it was the lowest increase in the statutory minimum wage for many years.
A larger increase would have helped stimulate the economy by boosting spend, Ms Kelly said.
The Government had also committed to closing the gap on Australian wages, but the minimum wage would have to reach $18 to equate to that, she said.
The Unite Union, which covered many lowly paid workers, said the lift was barely enough to cover the cost of living increase.