Key Points:

About 120,000 workers on New Zealand's lowest wages will get a pay rise of 50c an hour on April 1.

The increase from $12 to $12.50 announced by Prime Minister John Key yesterday is the smallest annual rise in the minimum wage since 2005.

The Unite union, which represents many minimum-wage workers in fast food and other services, chose the same day to lodge a request for a citizens-initiated referendum on whether the minimum should be raised to $15 an hour, and then to two-thirds of the average wage within three years.

But Business New Zealand chief executive Phil O'Reilly said even a 50c increase would have an effect on employment when recession-hit employers are already struggling.

"Having said that, the Government's decision is pragmatic," he said. "I'm a realist, and it's certainly not as bad as it could have been."

A spokesman for Labour Minister Kate Wilkinson said the Labour Department gave the Government three options: keep the minimum at $12 an hour, raise it to $12.50 in line with prices, or raise it to $12.65 in line with the average wage.

The increase to $12.50 represents a 4.2 per cent rise. Consumer prices rose 3.4 per cent and the average wage 5.4 per cent in the year to December.

Cabinet ministers appeared divided over the issue a week ago, when they deferred the issue until yesterday.

Mr Key said yesterday that they were "concerned that if the wage was to rise too much there would be unemployment".

"Similarly, no raise at all in the minimum wage would have left the lowest-paid, most vulnerable workers with no increase to offset the costs that they are obviously bearing," he said. "I think we have hit the right balance."

Alice Phillips, a cleaner at Rosebank School in Avondale who was on the $12 minimum until her union won a pay rise last August, said she was still struggling on a wage which rose to $12.26 an hour and, from last month, $12.64.

"What I'm getting now is just insufficient. I've even had to cut back a lot more on groceries," she said.

Ms Phillips has gone from buying $40 of petrol to $20, buys only "the very basics" at the supermarket and buys mince instead of steak "because you make several meals out of it".

"The other day I went to the supermarket hoping I would only spend $50 for groceries, but the cost actually went up. For the things I buy every fortnight I had to pay $80."

Unite leader Matt McCarten acknowledged that he faced a challenge in trying to raise the minimum to $15, but said the unions pushed the former Labour Government into raising the wage from $9 in 2004 to $12 last year by campaigning to "supersize my pay".

"We are going to do Supersize My Pay 2," he said. "We have to change the debate. You've got to build up the community. This is not a passive thing."

But Mr O'Reilly said the referendum proposal was "utterly ideological".

"If you increase the minimum wage by that much at this time you would have a very significant impact on employment."