Minimum Wage, Maximum Folly

The big Associated Press story for October 11, 2006 was that “More than 650 economists, including five winners of the Nobel Prize for economics, called Wednesday for an increase in the minimum wage, saying the value of the last increase, in 1997, has been ‘fully eroded.’” Among these economists were Nobel Laureates such as Kenneth Arrow of Stanford University, Lawrence Klein of the University of Pennsylvania, Robert Solow of the Massachusetts Institute of Technology, Joseph Stiglitz at Columbia University and Clive Granger of the University of California, San Diego who said that the real value of today’s federal minimum wage is less than it has been at any time since 1951. Their statement went on to say, “We believe that a modest increase in the minimum wage would improve the well-being of low-wage workers and would not have the adverse effects that critics have claimed.” Moreover they asserted, “The minimum wage is also an important tool in fighting poverty.” These and other assertions amount to what might be seen as examples of economic malpractice.

While there is a debate over the magnitude of the effects, the weight of research by academic scholars points to the conclusion that unemployment for some population groups is directly related to legal minimum wages. The unemployment effects of the minimum wage law are felt disproportionately by nonwhites. Indeed, a 1976 survey by the American Economic Association found that 90 percent of its members agreed that increasing the minimum wage increases unemployment among young and unskilled workers. It was followed by another survey, in 1990, that found that 80 percent of economists agreed with the statement that increases in the minimum wage causes unemployment among the youth and low skilled. Furthermore, whenever one wants to find a broad consensus in almost any science, he should investigate what is said in its introductory and intermediate college text books. When this is done for economics, there is broad agreement that the minimum wage causes unemployment among low skilled workers.

The reasoning for this unemployment effect is quite simple. The current minimum wage is $5.15 an hour. The hourly wage is not the only cost to hire a worker. There are legally mandated fringe benefits such as employer payments for Social Security, Medicare, unemployment compensation and worker compensation programs at federal and state levels. These mandated fringe benefits might run as high as thirty percent of the hourly wage. This makes the minimum hourly cost borne by the employer close to $7 an hour. Put oneself in the place of an employer and ask: Does it make sense for me to hire a worker who is so unfortunate as to have skills enabling him to produce $4 worth of value per hour when he is going to cost me $7 an hour? Most employers would see doing so a losing economic proposition and not hire such a worker. Thus, the minimum wage discriminates against the employment of the least skilled worker. In our society, the least skilled workers tend to be teenagers, particularly black teenagers.

I am embarrassed that so many members of my profession are willing to argue that the price of something does not affect the quantity taken of it. To use the jargon of our profession, the implication of their argument is that the demand curve for low-skilled labor has zero elasticity. I propose a test. Ask one of the 650 economists, for a yes or no answer, whether the demand curve for low-skilled labor has zero elasticity, or for that matter whether any good or service has a zero elastic demand curve. I am hoping they will say no. But if no is the answer, then ask how can it be said increases in the minimum wage has no effect? He might respond that modest increases in the minimum wage would produce little or no unemployment effect. In other words, the demand curve has zero elasticity for relatively small increases in the minimum wage. Then you ask whether he knows that demand curves are more elastic in the long run. That is, while employers might not respond immediately to higher wages, in the long run they will find substitutes such as automation, change the productive techniques, or relocate to a lower wage country.

The most ludicrous part of the statement by the 650 economists is “The minimum wage is also an important tool in fighting poverty.” This assertion does not even pass the smell test. There are miserably poor people in the Sudan, Bangladesh, Ethiopia and many other places around the globe. Would any of these economists propose that the solution to world poverty is a high enough minimum wage? Whether it is Ethiopia or the United States, poverty is not so much a result of being underpaid as being under productive. Congress can legislate that a worker be paid a certain amount. Congress cannot legislate that a worker be more productive and cannot legislate that a particular employer hire a particular worker.

There is another effect of legally mandated wages that often goes unappreciated that can be seen from a couple of statements in support of minimum wages. “There is no job reservation left in the building industry, and in the circumstances I support the rate for the job [minimum wage] as the second best way of protecting our white artisans." “A year later he stated that he would be prepared to allow black artisans into the industry provided that minimum wages were raised from Rand 1,40 to at least Rand 2,00 per hour and if the rate-for-the-job was strictly enforced.” Both of these statements were made by the secretary of South Africa’s avowedly racist Building Worker's Union, Gert Beetge. Why would South Africa's racist unions support minimum wages [rate-for-the-job] for blacks? The answer is easy. Mandated wages are one of the most effective means of pricing one’s competition out of the market and historically, mandated wages have been one of the most effective tools in the arsenal of racist everywhere. I am not arguing that those 650 fellow economists of mine have the same intentions as racist South African union but intentions behind policy may have little or nothing to do with the effects of policy.

My hypothesis for this otherwise inexplicable behavior is not that my fellow economists are untrained to the effects of minimum wages. My hypothesis is that they know that most workers earn more than the minimum wage. They also know that even the worker earning the minimum wage does not earn it for long. Therefore, increases in the minimum wage will negatively affect only a small portion of the work force. Moreover, they know that not having a job does not mean starvation, at least not in America. Welfare is a substitute for not being in the job market. Thus, their supporting the minimum wage might be their attempt to appear compassionate. Seemingly dispassionate people like me do not make it on to the brie, tofu and champagne circuit.

Walter E. Williams
Ideas On Liberty - November 2006
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