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Guest Post: Increased Minimum Wage, Decreased Economic Prosperity
Submitted by David Howden via the Ludwig von Mises Institute of Canada,
Standard microeconomic theory shows that deviations of a price from its natural level bring forth bad results. In my experience, students most easily grasp the pernicious effects of price controls when phrased in terms of the minimum wage.
Long story short, the minimum wage acts as a price floor which stops people from selling labour services at a price below the mandated level. The final result is an increase in unemployment, partly from existing workers who lose their jobs and partly from new entrants to the labour market looking for a job but unable to get hired.
It’s really not a very difficult theory to comprehend.
Yet I’m always surprised at how few are able to apply this basic lesson. Take the recent protests in Thunder Bay in support of increasing Ontario’s minimum wage from $10.25 to $14 an hour as a case in point.
Amongst the arguments the protestors put forward, two stood out to me for their weakness in justification.
First, some protestors seemed to think that $14 was inherently “more fair” or “just” than $10.25. Prices are not about justness or fairness, they are about reflecting underlying conditions. A price doesn’t just come out of nowhere. Instead it is the result of the subjective demand someone has for an object, the resource constraints available, the substitute goods that the person could resort to instead, or the potential purchaser’s income level. Changing these general determinants of demand into the specific ones that affect the labour market, we can see that wages are the result of: 1) the productivity of workers, 2) the number of workers available, 3) the price of labour substitutes, like machinery or automated production processes, and 4) the incomes of the employers. (There are lots of other determinants, but this short list will suffice.)
Changing the price of labour does absolutely nothing to alter these determinants. Advocates of alterations to the minimum wage confuse cause with effect. The wage one earns is the effect of all of these aforementioned causes. Changing the wage will not have a positive effect because unless one of these determinants changes there is no reason why the wage should change.
The second prevalent argument at the protests was that higher wages would stimulate the economy. One protestor claimed that the increase in the minimum wage to $14 would stimulate the Thunder Bay economy by $5.1 billion!
Economist Livio Di Matteo did a little digging, and it turns out the “stimulus” in question is the sum of all Thunder Bay residents earning an extra $3.75 an hour. Unfortunately this doesn’t amount to stimulus; it just changes the distribution of income. Minimum wage earners, if they manage to keep their jobs, will end up a little wealthier and businesses will lose some money.
One of the best lessons from economics is that one should pay attention to the unseen effects of a policy. Often times this will be more important than those results which are obvious.
In minimum wage discussions, the unseen effects are two-fold. First are those people who are going to lose their job because of the increase in the minimum wage. If you thought it was hard to survive on $10.25 an hour, wait until you are earning nothing. Second, even those who keep their jobs are not stimulating the economy through their increased wages. To the extent that businesses will have to pay more money to workers there will be less money to invest. This means less growth, and fewer opportunities for people in the future.
Wages, like all prices, are not randomly created. They signal underlying conditions and as such are not inherently just or unjust; they just are. Changing the wage rate without doing anything to alter one of the underlying variables creating it cannot achieve anything positive, and will more than likely make people worse off. If these protestors are successful in achieving an increase in Ontario’s minimum wage, at the very least some of them will gain time to think about this simple lesson after they lose their job.
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"Economics" -- the pseudo science. To a large extent, "minimum wages" are a false-flag argument.
Time for some lateral thinking, a Paradigm Shift, IMO:
What's more relevant and certainly more useful, is to look at (a) a business's sources of cost and (b) marginal cost relative to its productivity and marginal sales/profits. This varies with industry and sectors and, depending on the industry, the "labor" portion of the total BOM (Bill of Material) can be large or small. Ditto for CoGS (Cost of Good Sold).
For example... in a labor-intensive industry (agriculture, fast food, etc -- the bottom of the economic food chain), the labor costs may be significant portions of COGS, but I doubt it. Given the cost of burgers (especially at airports!) and the rate at which they are being sold, exactly what % of the COGS is the $8/hr?
Take another example... Most of the well-groomed and polite staff at Bed, Bath & Beyond are also paid Minimum Wage. No Benefits! To make sure of this, they limit their hrs/week, to avoid triggering the Benefits clauses. Given that its Founders and key shareholders (Warren Eisenberg & Leonard Feinstein) have 40-65% gross-margins on ALL their products, and their 20% coupons are more of a gimmick to entice shoppers than a real cut into said margins, we can see how terribly these nice men (billionaires) would suffer if they paid "decent" wages. Other service-industry sectors are no better. On top of that you can add the "At will employer" clause to hire/fire at will, in a heartbeat, and that effectively turn employees into "cattle" and "chattel". Their "employees" used to be called "people" in former times.
In the technology industry, Labor may be a small portion of the BOM. Capital costs are typically large/huge. I know first-hand that for Consumer Electronics (CE), the Labor portion of the BOM is in the low-single digits -- and this is even with US engineers making 6-figure salaries (not "minimum wage"). The biggest chunks in the BOM pie-chart are typically the "Key Enabling Technologies" and the NRE** (Non-Recurring Engineering) that are bought from various vendors (onshore or offshore). Parts that are "commodities" are always cheap.
** NRE is the Development Costs for Prototypes, and includes Engineering Labor, Tooling, Travel, Project Mgmt, etc, etc. It's a one-time cost that is amortized/spread over all the units sold. Depending on the product and project, the NRE can be a few million to tens of millions of fiat. US companies get no Gov subsidies for NRE that leads to Mass Production (factory jobs), but most foreign companies do get large subsidies from their governments. Inevitably this leads to Development/Engineering also moving overseas, since lower NRE leads to lower BOM and thus to cheaper CE products.
FYI (and I digress here a bit, sorry)... The US Development first moved to Taiwan and its Mfg moved to China, but eventually even the Development went to China. Which all maximizes "shareholder value", we are told. Note that "shareholder value" is code for "Executive and Wall St bonuses", first and foremost. The trickle-down benefits to minor stock owners like employees and 401k investors is secondary. In the case of the US Aerospace industry, key tech is shared with our BFF (Israel), and they are often involved even during Development. In spite of pretenses to the contrary -- and they are pretenses (made for Public consumption) -- they are effectively the 51st State. Although many argue that they joined the US before Alaska and Hawaii did in 1959. But I digress a bit and am "drilling down" too much (for deep, dark, oily truths few want to hear or have discussed publicly).
Applying further Fin-Analysis, if you look at the costs imposed on businesses by the various levels of our 'beloved' Government (for ALL sorts of fees, and regulatory & legal compliance), the impact on the BOM or COGS may exceed labor costs. These Gov-induced costs are typically hidden within the cost of the building and its amenities, its tooling, its technology, and G&A (General & Administrative) costs. I've seen Overhead/G&A costs (Mgmt & their staff) exceed Labor on many occasion. And I've yet to hear "shareholders" gripe about the G&A costs or exec compensation packages, the way the love to gripe about the "compensation packages" [sarc] of their minions.
Which goes to show that, depending on the industry and individual business, the business model of some owners are 100% predicated upon what may for all intents and purposes be called "slave labor". If you are a TRUE libertarian, and you don't think that the free market owes anyone a living, then the same world-view ("Life does not owe you a living") must be imposed on business owners of slave-wages.
Think about it... If their biz model falls apart the minute they have anything other than "slaves" working for them, and you have any intellectual integrity (and are free of the Stockholm Syndrome), you have to conclude that these guys ("Slave Masters") need to deal with these costs the same way other business owners do: You factor it into your biz model and deal with it. If your biz model is not robust enough to handle that, then, TFB (too fucking bad)! "Life does not owe you a living" applies to you also. Unless you're a fucking two-faced hypocrite and think that "Life does not owe you a living" applies only to the working poor, and not to the (idle or conniving/scheming) rich. In HP, Intel, MS etc don't bitch about "Minimum Wages", then neither should Walmort or the fat-food chains (selling their greasy GMO). Pfff, like we need more of them. Fuck 'em!
So, "Economists"... piss off with your Gr. 4 charts! Show up when you've got some grad-school math under your belt, an understanding of real-world Biz Models and how thing are made, you ran a real business, and you have an understanding in Complexity Theory and the Natural Sciences. Until then, all you guys are, is: Self-promoting, noisy windbags -- wasting everybody's time and misdirecting arguments. Talk about misallocation of human resources.
+infinity. Thankyou.
Exactly. Those WalMart employees are getting paid just too fucking much. The sooner these 'communistical' minimum wage laws are abolished so we can start paying them the 5 cents and hour they really deserve the better off we will be as a nation. Sam Walton and his family will then start to make some decent profits and accumulate some wealth. Then the trickle-down process will kick in and those down the food chain will start to see some nickles and dimes too. You know it makes sense.
The corporatists are using the Austrians to continue to beat the dead horse of minimum wage causing unemployment. Shamefull!
The minimum wage, adjusted for inflation, shows absolutely no coralation with unemployment.
The greed platoon is getting taxpayer money to augment the miserable wages they are paying, in the form of food stamps, medicaid and rent subsidies. The average taxpayer is therefore subsidizing the absurd salaries these corporate executives are paying themselves while encouraging their employees to help each other out as Thanksgiving nears. Shameless!
I see you present a scrawled chart as 'Evidendce' of your theory. I'd like to see if you can back it up with REAL DATA. I bet you can't.
Your basic lesson is so basic as to strip out all complexity and render the exercise meaningless. This behaviour is typical of most Neoclassical Economists.
I think you will find that companies do not pay what they can afford but the least they can get away with. Inflated corporate profits are evidence of that.
The fallacy in his argument is in travelling up and down the same demand curve while changing wages. If you earn a grand a week, is your demand curve the same as if you earn 200 bucks per week? Of course not. I go into more detail above while replying to Amadeusb4's "Another von Mises blowhard" comment. von Mises must specialize in hiring first year Economics drop-outs.
I've spent a while looking at your comment and I can't figure out what are you talking about. You realise that the graph shows demand and supply cur ves for labour, not consumption, right? Therefore if you have a enforced price above equilibrium level, quantity of labour supplied by people will be higher (more people in labour market want to do the job) but quantity of labour demanded by business will be lower (businesses want/can afford to hire less people) so you'll end up with a gap between labour supplied and labour demanded, causing under-employment. The demand curve in this graph doesn't show anything about consumer preference / purchasing power.
Noted that if you did draw a seperate graph showing marginal propensity to consume based on an increased income frontier for people employed with increased wages they'd be able to consume more (so that would move the curve), but it's still irrelevant to the employed/unemployed equation in the labour market graph.
Agree that the graph is an oversimplification, but the issues from minimum wage are more if it increases labour cost to a point where it's cost-efficient to use substitutes (automation) or literally impossible to keep running (SME businesses with low pricing power). Otherwise, increased input cost normally just encourages the business to drive up the price of the product in order to preserve margins... so the minimum-wage McDonalds lady might be earning twice her old salary, but she still won't be able to afford to eat there.
Just to point out your fallacies...
The reason why you believe that companies "can afford higher wages" is because they have profits that resulted for economizing wages of labor. A companies profits are the results of it's inputs, which have to be creative to lower costs low enough for consumers to buy, added with that uncertainty and time. Producers have no real clue about future. They don't know if sales of their goods will drop in the future, or their goods are competitive enough for consumers to surrender their money for the good in question. Profits tell you if you are being efficient, and productive. If a employer has profits because he has cheap labor, it's precisely one of the reasons why he is profitable. Profits come about only after all expenses from inputs are already paid for, including labor. Labor, inputs in general are paid for upfront before even profits come to fruition, if profits have been made to begin with.
What you are saying is that companies have too much profits. They should pay higher wages for labor that did the same job with lower wages, in the name of fair wages. If you agree with that, then surely you must agree that employers should lower wages according to lower profits as well right? Nevermind the uncertainty of the market where demand isn't always exact, or constant. New products come out, new services come out that catch the eye of the consumer.
An employer can afford labor depending on the demand for it. If there is a abundance of low skilled workers, and the employer can pay accordingly low wages, hire a lot of low skilled, he hires more people, can better produce cheaper products, or provide better services to consumers at cheaper prices. If you increase wages of low skilled laborers arbitrary as such minimum wage laws, you make employment unaffordable, thus unemployment. People who could of had low wage jobs, instead have no jobs. If employers can afford to pay workers a higher wage, surely according to the same logic, they could afford to hire more workers period.
Employers makes profits on the cost inputs versus output. The employer makes profits with employees when employees provide more output during the time of work versus initial cost of hiring the employees.
To say employers can afford to pay higher wages, thus implications of ability to hire more workers, is like saying a toy maker should reduce his prices, because he has too much profits after the fact. It is precisely why the toy maker has profits in the first place is because he prudently prices his inputs accordingly to make a profit. If the toy maker is going to reduce prices, he would do so if input costs were lower and/or he is willing to surrender more profits on the margin in the name of competition. Profits don't measure single inputs of cost, they are the total cost of all inputs plus profit (which only exist from successful transactions). A toy maker can price his toys at 10 dollars, and it takes 8 dollars of cost in inputs to make each unit of toys, he makes a 2 dollar profit margin. The profits vary on the volume of sales he has successfully transacted. He may sold enough toys to make a lot of profits, but the profit margin is still the same, but according to you, he has too much profits, and needs to lower prices. He only made that profit on totality of factors of production being cheaper than he is selling for, and volume of his sales, not because he is "price gouging" the consumer. Profits don't indicate affordability in the factors of production no more than profits indicate price gouging. In reality, a producer can competitively sell his goods at dirt cheap prices, and make a lot of profit. Profits are the result of efficiency, and productivity plus consumer satisfaction, not the other way around. Profits don't make inputs affordable, affordable inputs is what makes profits.
Sorry. Under Crony Capitalist Fascism, wages are whatever the politically influential multinational corporation decides it can get away with.
:-)
Whoever owns gold and does not want minimum wages to be increased does not understand inflation.
Increasing the minimum wage does not increase wealth, purchasing power, or even fights poverty. US Samoa has showed that minimum wage hikes can destroy a economy. US congress hiked the minimum wage of US Samoa to national minimum wage in the States of $7.25 an hour. This made US Samoa less competitive, the result jobs closed down for low skilled workers then shipped to the States with less employees hired, and more machinery involved in the bulk work of canning tuna. There was no net benefit for US Samoa at all. They lost far more than they gained. Effects were not simply direct, but rippled across the economy, as a significant portion of the economy vanished, thus business that depended on those low wage workers were reduced as well, and vanished.
Raising the minimum wage simply restricts low skilled labor. It reduces employment opportunity, makes the work force compete even harder against itself for the fewer jobs that do exist, working even harder than before, with more experience than before (young employees are the obvious victims). You will see human workers replaced with machines. Raising the minimum wage simply raises the cost of employment while not raising output. Prices are determined by consumers. How much they value certain good, or service. All things in market economy compete with each other. If you raise the price of a McDonald's worker that provides food at cheap prices, McDonald's will find it more difficult to compete with other goods, and services, and have it less frequented by consumers. Value conscious consumers will have a tendency to reduce consumption in prefererence for a better deal. Consumers economize with limited cash balances. The tendency is to reduce the desire to want to buy a certain good, when one of it's qualities was low cost, the tendency to hire less workers, sell less goods, thus less competitive against higher order goods, or goods that offer better bang for their buck.
Raising the minimum wage does not reduce poverty. Nor can it be said that raising it increase overall purchasing power to a significant degree, because all goods, and services are ranked against each other. You raise the prices of low skilled labor, you raise the prices of high skilled labor, or labors that are scarcer, higher demand for, or more productive, thus likewise you increase the prices of the cheaper good, you also increase prices of the expensive good. If producers know you have higher wages thanks to minimum wage, would it be far fetched for them to raise prices simply by knowing you have more money to spend? That's why there is no such thing as economic prosperity from simply pushing the lever on minimum wage to full capacity. It doesn't work. Services, goods, and labors are not equal, and never will be in a world where there is scarcity, and uneven distribution of goods. Politicians like the minimum wage rhetoric, because it seems wise in 2-step logic. Even if they did raise minimum wage by the goal intended, 10 dollars, 15 dollars, 22 dollars today, I guarantee you politicians years from when these increases were enacted will still talk about raising the minimum wage 10 years from now, 50 years from now, 100 years from now, 1,000 years from now (if the given society even survives that long). Minimum wage doesn't change subjective values. Minimum wage doesn't change the fact that a cook who makes french fries as his specialty at McDonald's will always be on lower order than that of a doctor, or a person who crafts stylish gold watches.
The marginal utility of a individual is the ranking of goods, services, essentially his wants, which are subject to changes accordingly in how those wants are satisfied. Fast food in a modern society for example will always be considered with lower marginal utility by majority of consumers. They are there for cheap food, convenience, and are everywhere.