The Minimum Wage: Whys and Wherefores

I’ll bet you favor a government-mandated minimum wage, and you probably support current proposals to raise it. After all most state minimum wages have been stagnant for ages, and the cost of everything moves inexorably higher. Who can not be moved by stories of workers struggling even when holding down two jobs or of mothers foregoing a meal in order to feed her children? Just a little more money would help them so much and surely our vibrant economy can afford the costs. If you are a Democrat, this is party theology. Most Republicans demur, but they are just Grinches anyway, aren’t they?

As a political agnostic, I confess that the whole concept of a mandated minimum wage mystifies me. Establishing an arbitrary floor based on need disconnects work from production value. If $15, why not $45? That would produce a real living wage. Before you dismiss that as a nonsensical straw man, consider this. Proponents of $15 assert – with flimsy supporting data – that it will cost at most pennies a day for higher wage earners. If so, tripling the minimum would at worst make it perhaps 50 cents a day. Surely you could afford this small charitable contribution to raise the standard of living for so many. And why not a maximum wage too? I could make an argument for that which is just as convincing as the ones presented for a minimum.

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When “experts” evaluate the economic impact of the minimum wage they normally omit knock-on effects. However, for a change, California legislative budget analysts did do just that, at least partially, for that state’s latest proposal to go to $15 per hour by 2022. They calculate that the indirect effect on government wages alone will be $3.5B. Indirect effects include necessary increases to maintain wage bracket coherence. This analysis doesn’t include the equivalent indirect effects on private business wages, which presumable would be much greater. As good old Senator Everett Dirksen used to say “A billion here and a billion there, and pretty soon you’re talking about real money.

That money doesn’t just spring into existence. It comes from somewhere in the economy, through taxes, price increases, reduced hours or employment, lesser benefits, etc. No one is suggesting taxes, even though that is probably the best resolution. So some combination of the others will occur spontaneously. Now that might be an acceptable trade-off, but only if it is fully evaluated so that we understand the impact in advance. For proponents, price increases are the preferred approach and they usually evaluate them as small and manageable. Evidently the concept of price elasticity wasn’t discussed in their economics classes. Or do you think that perhaps such classes weren’t a part of their curriculum?

Those predicting negligible impacts of minimum wage increases point to the history of such increases. Each time there is such a proposal, the Chicken Littles guarantee horrendous consequences, but they never occur. So what is there to fear? This analysis is nonsense. The core problem is that the economy is such a complex system that isolating causes and effects is rarely feasible. We cannot know how much more robust the economy would have been in the absence of arbitrarily imposed wage increases. All we can know with any confidence is that they have costs, which we can roughly estimate, and that such costs are an impediment to growth. Such impediments rarely impact all segments of the economy equally. So don’t be so sure that your preferred clients are not among the losers.

The one argument supporting a minimum wage that does seem reasonable is that creating a livable wage structure make workers happier. A happier worker does a better job and worker turnover is reduced. These produce tangible benefits that offset costs. But there is a flaw in this argument which I can confirm from my own experience. Each salary increase is welcome and is a cause for celebration. As weeks go by, this happiness subsides and a new equilibrium is reached where I want more. More of what, you ask? Just more, I am really no happier after all. Moreover if prices go up as a consequence of my increased income, along with that of everyone else, I don’t feel better off and the cycle continues. You can achieve the same effect by just mandating that dollar bills are now worth two dollars.

Interestingly, President Obama, in a speech arguing for an increased Federal minimum wage, quoted the guru of economic theory, Adam Smith, to support his proposal. Obama translated Smith’s argument in The Wealth of Nations into modern terminology. “If you work hard, you should make a decent living.” In doing this he displayed distorted erudition. Laying aside the applicability of 18th century theory to a modern economy, that takes Smith’s discussion out of context and completely misrepresents it. Smith was writing at the dawn of the industrial revolution, before it was understood how wages are linked to marginal productivity. But in any case, he would be aghast at this profound misreading of his well-reasoned analysis of why rapid economic growth and a tight labor market are the way to benefit ordinary workers.

There is a coming storm in our work lives that will change everything. I have discussed this here. It will magnify competitive disadvantages across the economy. We ignore this at our peril. Tinkering with the minimum wage is the equivalent of bread and circuses for the Roman proletariat. It is a sideshow that diverts us from dealing with fast approaching economic and social changes that will sweep away many of the jobs now paying the minimum wage.

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When government meddles with the economy the impacts usually take time to show up. By then they are often attributed to the mysteries of the economic cycle. Everyone shrugs and goes on to their next adventure in fiddling.

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