House Passes Federal Minimum Wage Increase – Eccentric Economics

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The House of Representatives voting to increase the federal minimum wage to $15 is nothing more than a publicity stunt, since the Republicans hold the majority in the Senate. The minimum wage intends to alleviate financial burdens that low income workers face, granting them an increased standard of living. Like many other well-intentioned proposals, this artificial alteration of the market has its harmful consequences.

We may first approach the hypothetical assumption of an increase in the federal minimum wage leading to higher rates of unemployment. Like any other good or service that is in the market, it is subject to the laws of supply and demand. Those who intend to engage in the labor force make up the supply side, while the companies that need laborers represent demand. The issue with this artificial increase in wages is that there is already a large supply of unskilled workers. When a price floor is set that strays away from the equilibrium point, a surplus of labor arises. An increased amount of laborers will be attracted to the new price (supply), while employers will be turned away from the new price (demand). In other words, with each additional unit in a supply pool, its utility (value) decreases, otherwise known as the law of diminishing marginal utility. Due to the increased cost of production, or doing business, employers will employ a decreased amount of units to ensure a profit or at the very least break even, and this concept is known as the law of diminishing returns.

Contrary to a common assumption, due to competition in the market, wages are not exclusively set by the employer. Of course, many employers will pay wages as low as they can, but if a laborer has marketable skills he may offer his labor to another employer for a higher price. A laborer’s skills, abilities, and ultimately their marginal product, is what determine their wage rate. Essentially, this is the output that results from a factor of production (labor) producing an additional economic good. Due to the aforementioned law of diminishing returns, there will come a point where an additional unit of labor will bring in little to no return.

If we are to be nuanced, we must place the focus on demand. The demand for goods attracts entrepreneurs; the demand for labor causes employers to offer wages in exchange for labor, and the demand for wages appeal to the laborer. It drives this entire process. Notably, this notion debunks the common belief that prices of goods will rise if there is an increase in the minimum wage. That observation is somewhat true. Due to elasticity, companies can only raise their prices to a certain point at which consumers will cease purchasing their prodcts and seek substitutes, or outright stop purchasing the good altogether. Companies know this. So what is their remedy? Cutting hours, laying off workers, investing in capital, and ultimately cease hiring new laborers; therefore increasing the rate of unemployment.

This assumption is based on historical studies, and most recently a study conducted by the University of Washington. The study concluded that:

“[…] using a variety of methods to analyze employment in all sectors paying below a specified real hourly rate, we conclude that the second wage increase to $13 reduced hours worked in low-wage jobs by around 9 percent, while hourly wages in such jobs increased by around 3 percent. Consequently, total payroll fell for such jobs, implying that the minimum wage ordinance lowered low-wage employees’ earnings by an average of $125 per month in 2016.”

Additionally, they found that high skill jobs that paid $19+/hr were increased, which assumes companies hired workers with more skills to complete both the unskilled and skilled tasks to supplement the loss in unskilled labor.

However, diverging from this mainstream view, the University of California at Berkley conducted a study that found:

“[…] the evidence collected here suggests that minimum wages in Seattle up to $13 per hour raised wages for low-paid workers without causing disemployment. Each ten percent minimum wage increase in Seattle raised pay by nearly one percent in food services overall and by 2.3 percent in limited-service restaurants.”

Although to their dismay, like the Washington study, they did find a 13% decrease in hours worked and an increase in utilization of high skilled workers. This study offers contrary evidence to the commonly-accepted supply and demand view, though important factors in this study should also be appreciated. Its data was highly concentrated and focused on one particular industry in one major city. Obviously, this is a small-scale analysis in comparison to the effects an artificial price floor may have on a larger economy, such as a state or national economy in multiple sectors. Additionally, the study concedes there was a major boom in the Seattle job market during the time of the study, which would have a positive effect on unskilled low wage laborers.

Though the two studies differ regarding the effect on unemployment, both conclude there are damaging outcomes from the price floor. These studies do not even take into account the decrease in operating income of small businesses that simply cannot compete with larger companies that have the economy of scale to pay their workers higher wages. Increasing the federal minimum wage dampens the competitiveness of smaller businesses and essentially hands companies like Wal-Mart or Amazon market share on a silver platter. Nor do these studies account for the decrease or loss of benefits such as vacation, sick leave, insurance, and so forth.

The debate regarding the government instituting an increased federal minimum wage and its effects continues. The contrasting sides offer their claims, while their opposition concedes very little. Perhaps we should take into account for the input offered by renowned economist Paul Krugman:

“There’s just no evidence that raising the minimum wage costs jobs, at least when the starting point is as low as it is in modern America. This apparent defiance of the laws of supply and demand occurs because the market for labor isn’t like the market for, say, wheat, because workers are people.”

Or perhaps, we should instead take into consideration this statement given by none other than Paul Krugman:

“Any Econ 101 student can tell you the answer: The higher wage reduces the quantity of labor demanded, and hence leads to unemployment. Clearly these advocates very much want to believe that the price of labor, unlike that of gasoline, or Manhattan apartments, can be set based on considerations of justice, not supply and demand, without unpleasant effects.”

If one is to maintain the use of thoroughly-tested economic laws, and treat laborers equally to any other factor of production, as they should, we must concur with Krugman’s latter statement.

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Logan Davies

Logan Davies is a Regional Manager in the Banking Services industry, and the director of the non-profit organization, Voluntaryism in Action. He graduated from Middle Georgia State University with a degree in Business Administration. He is the father of a loving son, an avid outdoorsman, firearm enthusiast, and unwavering supporter of liberty.

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