Time for some basic economic analysis (which involves thinking) to help us make predictions about what effects a minimum wage law will tend to have. Then we’ll look at real-life examples.
Let’s remember that prices are not arbitrarily set but are affected by supply-and-demand. In the case of labour, that means the price is affected by how many employers exist and what their options are as well as how many workers are available and what their options are. Economics does not allow us to predict the exact price (there are far too many factors to consider, including personal preferences of individuals), but it allows us to make some simple cause-effect predictions. For example, if the supply increases without the demand changing, the price will tend to go down. And vice-versa if the balance goes the other way.
Now here’s a simple thought experiment which, I think, immediately embarrasses the reasons for implementing a minimum wage at all.
Scenario 1. Let’s say the government decides to set the minimum wage to some amount: $15/h. And let’s assume that this represents some increase in the minimum wage (either from some previous lower limit or from no limit at all). Then every employer who was paying a worker less than $15/h faces a simple choice: do they give the worker a raise to $15/h (or higher) or do they fire them? And so they make their decisions for each worker.
Scenario 2. This time, the government does not increase the minimum wage and even promises to never change it. Meanwhile, all workers unanimously decide (either independently or as a collective) that they will refuse to work for less than $15/h and so they each confront their employers with this ultimatum. The effect would be that every employer with a worker who has been getting less than $15/h will face a (rather familiar) dilemma: do they raise the worker’s pay or let them quit? They will make their decision for each worker.
It’s not hard to see that the economic result will be the exact same in each case, since the choice faced by employers is identical with identical outcomes. And of course the logic applies to new workers as well (the choice would be to either hire for at least $15/h or don’t hire at all in both scenarios). What have we shown? That the minimum wage was completely redundant in helping people increase their pay – people bargaining for raises is exactly as effective as enforcing the limit by law.
However, I did make one major assumption in Scenario 2: that all workers would agree to pursue the raise at the risk of losing their job. Which brings us to the essence of what the minimum wage actually “achieves”. It takes the choice out of each individual’s hands (not exactly what I’d call “protection”). If some people would prefer to continue to work for less than $15/h, they no longer have that option. The free market allows people to engage in mutually beneficial exchanges if and when they want to. A minimum wage law simply makes some of those exchanges illegal. That means less exchanges in total (and thus less wealth being created), but especially, less exchanges involving workers whose market-value is very low.
Let’s look at the choices businesses will tend to make if a minimum wage is enforced. For every worker they choose to keep (by giving them a raise to $15/h), that extra money has to come from somewhere. What are their options?
- They could decrease the pay of other workers to cover the cost. This would risk losing those workers to other companies or industries where they can earn more.
- They could increase the price of the products they sell. That would mean less sales and less satisfied customers who may choose to shop elsewhere.
- They could take the money out of their profits (probably the most popular “solution”, based on the assumption that these profits normally go straight to “rich” people and have no other function). This would make it harder to pay back investors, harder to get loans in the future and there will be less opportunities for the company to expand (say by hiring more workers, paying for training or getting a more experienced CEO).
- They could fire some of the cheapest workers instead of giving them a raise at a relatively small loss. This seems to be the most feasible and harmless option from the business-owner’s perspective. For example, instead of paying 5 workers $12/h, they may opt for 4 workers at $15/h. But is the latter situation really an improvement assuming we as society want to “protect” workers? This change is certainly not more efficient for the company as otherwise they would have done this without being forced to. The fact is that they lose money (or maybe break even), no matter how you cut it.
The true minimum wage is always zero (unless you have 100% employment) since that is how much the unemployed earn, regardless of what the government or anyone else tries to do. And if you’re implementing policies which may increase unemployment, it’s not clear that the possible gains in some wages are worth the loss of work altogether for others. But people seem to assume that by setting a limit, you’re giving people raises to “fairer” wages when their jobs are anything but guaranteed.
Furthermore, if you’re running a business and you have to pay $15/h, would you prefer to hire someone whose market-value is $15/h or $10/h (there is such a thing as market-value, not everyone has the same skills and qualities)? Chances are you’d go with the first option. Any person whose skills (or lack thereof) make them worth less than $15/h will find it nearly impossible to get hired.
What’s the best way for an unskilled person to develop skills? Education is an issue I’ll deal with another time. Other than that, paid work is one of the best ways to develop new skills even if the pay is low (and most minimum wage earners are transient, something like 90% get a raise within a year). It means a person learns some of the basic ins-and-outs of a certain kind of job, they learn to be punctual, they learn that they have to be respectful to their boss, co-workers and customers, they learn that you have to work even if you don’t feel like it or else you won’t get paid. In other words, they get exposed to the real world and get a chance to find ways to make themselves useful to others. I highly recommend Walter E. Williams’ “Good Intentions”, a short documentary from 1985 in which he explains this whole concept in much detail.
Alas, there’s no free lunch. If there was, why don’t poor countries drastically increase their minimum wages and reap the benefits? Why doesn’t the government simply set all prices low and all wages high? I can’t see the costs so they mustn’t exist!
What about in practice? Do minimum wage laws have the effects economists predict or are they the sparkling “solutions” some politicians would have us believe?
Switzerland has no minimum wage limit. So workers are ripe to be “exploited” by their employers. But the unemployment rate has remained low (click on MAX below the graph, you can also pick other graphs on the right – it’s an awesome website) while the GDP per capita has grown greatly (as have the average wages). Countries in the European Union which have minimum wage limits tend to have higher rates of unemployment than those with no limit at all.
One of the problems with measuring the effect of such policies in real-life is the large number of factors constantly affecting the economy which may be unrelated to what you’re interested in. A small increase in the minimum wage around the same time as a healthy boom in the economy may in fact see a lowering in unemployment. But you can’t attribute that to the minimum wage increase. To use an analogy, any time you cut your hair, it gets shorter. But if you only cut it a little, the change may be difficult to see and of course your hair will soon be longer anyway. Someone might innocently observe: “Your hair has grown ever since you got that haircut! Haircuts result in longer hair!”. The same is true of poison – poison is always bad but a tiny dose won’t be obviously harmful. I’m claiming that the minimum wage is like poison – always harmful but easier to detect when a major change occurs.
American Samoa was hit with several rapid increases of the minimum wage between 2006 and 2009 (since their limits have been falling behind the rest of the USA). Many predicted devastating outcomes and things turned out about as well as predicted (taken from this James Sherk article):
By May 2009 the third scheduled minimum wage increase in Samoa took effect, rising to $4.76 an hour and covering 69 percent of canning workers. This did not increase purchasing power, stimulate demand, and raise living standards, as many minimum wage proponents theorize. Instead StarKist—one of the two canneries then located in Samoa—laid off workers, cut hours and benefits, and froze hiring.[22] The other cannery—Chicken of the Sea—shut down entirely in September 2009.[23]
The Government Accountability Office reports that between 2006 and 2009 overall employment in American Samoa fell 14 percent and inflation-adjusted wages fell 11 percent. Employment in the tuna canning industry fell 55 percent.[24] The GAO attributed much of these economic losses to the minimum wage hike.
Turning to the USA, “…the black-white gap in unemployment rates for 16-year-olds and 17-year-olds was virtually non-existent back in 1948. But the black teenage unemployment rate has been more than double that for white teenagers for every year since 1971.” – Thomas Sowell (full article). A minimum wage law did exist in 1948 but inflation had made it practically meaningless by then. But several increases were carried out in the 60s and since then. And most would agree that racism was on the downturn during those decades. This phenomenon is consistent with what economists would expect to see – less employment for lower-skilled workers (young blacks being highly represented in this group for various reasons). It is difficult to come up with a better explanation for such a huge change in employment for a specific group.
In the past, many groups have openly advocated for equal pay laws or minimum wages with the explicit intention to discriminate against lower-skilled minorities. “During South Africa’s apartheid era, racist unions, which would never accept a black member, were the major supporters of minimum wages for blacks.” – Walter E. Williams (full article). He gives many other examples in different times and places around the world.
Finally, here’s a real feast: an organisation fighting for increasing the minimum wage whilst simultaneously complaining about the problems the policy causes for them. This would be hilarious if I didn’t get the impression ACORN was completely sincere and ignorant of their blatant hypocrisy (taken from this Larry Elder article):
The now-defunct organization called the Association of Community Organizations for Reform Now came to California years ago to gather signatures on a petition for a ballot measure to increase minimum wage. Incredibly, ACORN sued the state to exempt itself from the then-current minimum wage and overtime laws. In its filings, ACORN said, “The more ACORN must pay each individual outreach worker — either because of minimum wage or overtime requirements — the fewer outreach workers it will be able to hire.” Can’t make this stuff up.
In summary, the minimum wage law is purely a limitation on what workers and employers can do. It can’t make money appear out of nowhere. It can’t bring poor countries or areas out of poverty. It can’t give you a raise without risking the loss of your job. But it can make it a lot harder for low-skilled workers to get a start for themselves. Simple logic shows that it is redundant at best while real-world evidence shows that at worst it can be incredibly harmful. Politicians like it because it gets them votes. Racists and union members like it because it decreases competition and suppresses minorities. Unfortunately the public also seems to like it but only out of ignorance and buying into the wonderful promises of “caring” politicians.
thewingedmessenger 