Thursday, November 09, 2006

Considerations on the Minimum Wage

My comments on the minimum wage yesterday drew the most (only) direct response. Probably not coincidentally, it was the largest and most detailed part of the post to respond to. I expected to encounter resistance on this part in particular.

I would like to respond specifically to Robert’s comments to my previous post.

So the ethical question is which is worse: raising minimum wage to improve the condition of people at the bottom of society at the expense of middle and upper class society? Or keeping minimum wage the same and keeping the same struggles of today? I think I have to side with the increased minimum wage, as I see it now as people struggling to keep roofs over their heads and their children fed versus someone being able to afford a new SUV.

This is a false dichotomy. It assumes that we have only these two options, and that assumption is false.

Whenever I have written about the minimum wage, I have presented a third option – an option of education subsidies for those who are earning less than a particular income level, so that they can acquire the skills necessary to get a higher-paying job. I would further argue (if given a chance) that these subsidies include health care, housing, child care, and even food if necessary, for those who need it, as long as they are in an educational program.

This option has a number of advantages over either the “increased minimum wage” option and the “do nothing” option – though I am particularly interested in its advantages over the “increased minimum wage” option.

(1) Education produces a number of positive externalities (benefits for people other than those who get the education). We are simply better off in a community of neighbors who are more highly educated than we are among neighbors who are more ignorant. This makes the expenditure more of an investment than an act of charity.

(2) The minimum wage option only allows a person’s wages to move up to the new minimum – say, $7.00 per hour. The educational subsidy option will give some graduates a chance at work significantly above this level. Why stick a person at $7.00 per hour when we can give them something better?

It is also worth mentioning that a higher minimum wage has an adverse affect on education, because it increases the opportunity costs of going to school. By increasing the opportunity costs, we will bring it about that some people will choose not to go to school, who would have otherwise gone to school. Given the positive externalities of education, this makes the nation as a whole worse off.

Back to the claim that it is either "increase the minimum wage" or "let these people starve", I not only think it is inaccurate – but I think it is maliciously wrong to assume that somebody who does not agree with one’s plan cannot have another, perhaps better, plan of his own to offer.

In fact, this type of argument has a lot in common with the slanderous political attack ads that I wrote about in an earlier post. There is little difference between saying, “If you are opposed to my wiretapping program, you must think that we should never listen in on any al-Queida calls into the United States” and saying, “If you are opposed to my higher minimum wage plan, you must believe that we should simply let poor people suffer in poverty.”

The purpose of a minimum wage is to force a more even distribution of profit throughout the business. And in most businesses the positions at the bottom are the ones that are actually indisposible (sic) to the business.

Actually, this is false. Lower-paying jobs are those that tend to require the less thought and, as such, tend to be the easiest to automate. They also tend to produce the least marginal return for the company, so they are the jobs that can be most easily cut. On the other hand – complex jobs (requiring an educated workforce) are the types that tend to demand higher wages and are the hardest for a company to eliminate.

By increasing the minimum wage, look for Wal-Mart as well as most grocery stores (to name one set of examples) to reduce the number of full-service checkout stands in their stores and replace them with self-service stands – the way that gas stations cut back on the number of full-service pumps and went more to self-service pumps.

Look for fast-food chains to move more towards automated equipment and to shift more of the work from employees to customers. Note that they moved the soda machines out from behind the counter to a self-service station on the floor – along with stations allowing customers to add their own condiments. Movie theaters also moved their popcorn buttering station from behind the counter to stations in front of the counter to cut down on the labor costs. These are the signs of companies who decided against paying a worker a wage and, instead, decided to harvest your free labor.

Look for fast-food places and other service-related industries to automate their order-taking procedure. The customer himself will punch his order into a menu screen at the table, which will show the order on a screen in the kitchen, rather than have an employee spend the time taking the order.

Some fast-food places already automate their drive-through orders. The person you talk to when you press on the speaker button may be a thousand miles away. This way, the employee can instant shift her attention from a store that is not busy to one that has gotten a burst of customers, allowing the company to have fewer employees taking drive-through orders.

At any rate it will take more evidence to convince me that any increase in minimum wage will immediately result in people having fewer jobs.

I never said that the losses would be immediate. Furthermore, I did not say that ‘fewer jobs’ was the only harmful effect of increasing the minimum wage.

Nor would I.

Yet, the hazards that I spoke of do not have to be immediate to be bad, and losing a job is not the only way to make a poor person’s life worse than it would have otherwise been.

It will take time for Wal-Mart or a similar store to install automated checkout stands. It will likely keep its staff levels at their original level until those stands are installed. However, after the stands are installed, it will need fewer workers. In the mean time, its most immediate response would likely be an increase in price. That will not likely have an adverse affect on those in the top 10 percent of household incomes. Those people do not shop at Wal-Mart. That will affect people who are shopping at Wal-Mart as a way of stretching an average paycheck.

As another example, a fast-food chain might also respond to the higher minimum wage by raising its prices. However, higher prices will mean fewer customers. Fewer customers will mean that the owner will not need to replace the next employee that quits.

Another company will likely wait until the next open enrollment period for its health benefits to announce that employees will have to pay a higher percentage of the premium.

One of the options will simply be a refusal to build or expand when they would otherwise have had an option to do so – keeping the workers they have, but refusing to hire more.

Or, when the company does expand, it’s new store will come with all of the labor-saving options that the higher minimum wage has now made possible.

None of these changes are immediate.

This does not imply that, when they happen, they will not be bad.

The problem I find with your analogy is that it presumes that companies are already trying to pay their workers as much as they can, and any forced increase will result in them having to let workers go. This is certainly not typical of any place of employment I have ever worked.

This is false.

First, I am not assuming that “letting employees go” is the only option they will pursue. They have the option of cutting back on benefits, withholding pay increases for other (non-minimum-wage) employees, raising prices, reducing pay rates for other (non-minimum-wage) employees.

Second, I do not need to presume that companies are paying workers as much as they can. I only need to assume that companies have a stack of options for how they will respond to increased labor cost. Yes, I agree that one of those options involves the Board of Directors gathering around the conference table and answering the problem of increased wage rates by saying, “I know what we can do! We can cut our own salaries!.”

This is certainly an option.

However, it is not the only option – and, I suggest, it will almost never be found at the top of the list. Companies will try a number of other options first. Those other options will make sure that those at the lower end of the income ladder will pay.

By the way, this brings up the question of how I would suggest paying for the education subsidies.

Answer: Tax the rich.

It is another rash assumption to believe that an individual opposed to increasing the minimum wage is somebody who secretly (or not so secretly) seeks to protect the rich by sticking it to the poor as much as possible. Please entertain the possibility that somebody can be against a higher minimum wage without wanting to protect the rich at all. In fact, his real concern is to make sure that the poor actually benefit, and he has no problem with making sure that the rich cover the costs of that benefit.


L said...

I can understand your objections to an increased minimum wage and I would largely agree that it's a short term fix, and probably a poor one at that. But I'm not sure your proposal of educational subsidies helps out very much either. Sure, I would love for the general populace to be better educated than they are already. That in and of itself is a laudable goal for any society. Does it help people at the bottom rungs of the economy though?

In theory, it should. But where are these better paying jobs? Whether we like it or not, there are certain inexorable market forces at play largely the result of technological innovation. As a whole, individual productivity has been amplified by technology, both physically (factory automation) and mentally (information technology). This has had multiple effects. The individual worker is able to accomplish more than in previous decades, and they're able to do tasks that had required specialists before (e.g. some graphic design jobs have been replaced by Powerpoint and Photoshop). This necessitates fewer workers, and it means the work that is left can be performed by less skilled employees which has a downward pressure on wages. And we haven't even started talking about the effects of globalization.

So how does a better educated workforce help the workers if there just aren't as many jobs to be had? Well, one thing we could do would be to create new industries requiring more skilled employees. Alternative energy and space exploration immediately seem attractive in that regard. Another thing we could do would be to legislate a shorter work week, with no decrease in salary. This would have the same type of effect as a minimum wage increase I think, but more so because it would affect not just those earning below a certain threshold but all workers. It would also create a demand for more workers.

I think the one thing that we all agree upon is that things are not acceptable as they are now. There are far too many people living in poverty right now and it will negatively affect the entire country, if it hasn't already. I don't think there are magic bullet solutions. In all likelihood we'll need a combination strategy. And part of any strategy will be recognizing that there are complexities that we haven't even looked at yet.

Anonymous said...

Hello. First I want to say that I greatly appreciate Mr. Fyfe's blog here, he is one of the most lucid and unbiased commentators I've read. However, I would like to caution him on commenting on the effects of economic policies. I've been studying economics for a few years now, and if I've learned anything, it’s that the economy is far more complex than even most economists realize. It’s patently absurd to think that a few simple curves can adequately describe a huge, dynamic economy. At best, mainstream theory as it is taught in undergrad classrooms is a crude approximation of an economy with two or three goods. I don’t know if Mr. Fyfe was relying on mainsteam theory or ad hoc theory, but one’s not much better than the other. They are both forms of a priori theorizing, which has been plaguing economics since its conception. To make any positive claim about economics authoritatively, it really has to be backed up by empirical evidence of the behavior of actual agents in the actual economy. Everything else is just speculation.

I can offer some speculation on why Mr. Fyfe’s minimum wage theory might be wrong. First, monopsony. Monopsony is like monopoly, but its on the buyer’s side, instead of the producer’s. In other words, instead of one seller of a good, you have one buyer of a good (like labor). To save myself the effort of explaining, I’ll quote NYU’s Dr. Levin-Waldman:

“Perhaps more than anything else, these studies demonstrate that a major limitation of the orthodoxy is that it only predicts unemployment in competitive labor markets. By their own admission (Card and Krueger 1995b), the fast food industry is a monopsony to the extent that it is the principal employer of minimum wage workers, and therefore it is not representative of most industries. Because they are the only firms willing to employ minimum-wage workers, these workers have no other choice but to accept those low wages that they are offered. In a monopsony market, minimum wage increases may actually result in employment gains, largely because the market-clearing wage is still below that of a perfectly competitive market. As an increase in the minimum wage is still likely to be less than the market-clearing wage of a perfectly competitive market, the minimum wage in a monopsony is likely to result in greater employment and efficiency because it will still be less than the equilibrium wage in a perfectly competitive market (Houseman 1998). Even subscribers to the model of competitive markets recognize that minimum wage increases in a monopsony labor market will lead to both greater employment and efficiency (Brown, Gilroy, and Kohen 1982; Houseman 1998). Kevin Lang and Shulamit Kahn (1998) even went so far as to suggest that higher minimum wages, contrary to the effects claimed by those who argue the youth disemployment effects, actually shift employment toward youth and students, especially in the fast food industry.” Policy Orthodoxies, the Minimum Wage, and the Challenge of Social Science, March ’04

I highly suggest reading the full article, and I can send it to whoever wants it.

If we’re assuming mainstream economic theory here, then if there is monopsony in the labor market (very plausible for minimum wage jobs), then Mr. Fyfe’s arguments do not apply. The firm equates marginal cost with marginal revenue, and employment is increased. There is no reason for them to cut employment. See wikipedia’s article for explanation:

Anonymous said...

Some important points about minimum wages:

1) ethically it is wrong that someone should work a full working week but still be living below the poverty line

2) exploitation of the poor by the rich is an outrage to our common humanity, especially where a profit making venture only does so by paying poverty pay to its workforce

3) the minimum wage instills a virtuous cycle into the economy. companies cannot succeed on the basis of poverty pay, they have to compete much more on the quality of their product and need to innovate. This raises prodcuctivity and creativity within the economy boosting jobs and exports.

4) minimum wages boost the spending power of low income familes, this increased spending helps stimulate additional economic growth

The case for the minimum wage is sound both ethically and economically.

Alonzo Fyfe said...

Mike H.

I thank you for the references.

I agree with your call to be careful about making economic claims.

I hold that it is just as important for economists to be careful about making claims about moral value. I have found that economists' mention of moral value suffers from the same problem of 'ad hoc theory' and 'a priori theorizing' that you say plagues many economic claims.

My overall philosophy when making economic claims is to go with a consensus view in those fields where I am not an expert. With regard to minority opinions or dissenting views, I hold that once the majority of economists are convinced - it becomes a majority view - then I will adopt it. However, until that happens, it is irresponsible for me to look at economic theory and say that, "the majority is wrong."

When I researched the minimum wage issue, I did not get the sense that the view that raising the minimum wage increases employment is the consensus view among economists - only that it is an interesting (to economists) minority opinion.

In the extreme, I have noticed an unfortunate tendency, when people want to believe X, they will look at the research being done in X, find 2 books that say what they want to believe, 100 books that deny it, and assert confidently that the author of the 2 books is correct. That's not sound or responsible thinking.

I admit that economic claims with respect to the minimum wage are on better footing than this, but I am still reluctant to assert that the minority position is correct.

Please note that the quote you provided says, "may actually result in employment gains."

Thayne's quote from the previous blog entry said, "While controversy about the precise employment effects of the minimum wage continues."

Against Thayne's quote (which, by the way, I knew before I wrote and considered before Thayne brought it up), I had to consider the fact that those who supported an increase in the minimum wage considered the employment effects controversial. What do we know about the views of those who did NOT sign this statement?

These claims do not fill me with confidence that we are doing the right thing and that others will not be harmed. It is a bit like saying, "controversy about the health effects of this drug continues."

My interest is in comparing the risk of harm from a higher minimum wage to the risk of harm from something like the education subsidy alternative.

Now, a part of the argument for raising the minimum wage that you mention seems to rely on the assumption that monoposony is keeping wages below their market-clearing price, and that a more efficient economy can be obtained by raising the wage.

This still raises a number of concerns.

(1) How is it the case that the 'market clearing price' and 'economic efficiency' are moral goods? Economists seem to constantly build these moral assumptions into their conclusions, and I think they are highly questionable. I am going to write about one of my objections to this assumption tomorrow.

(2) What reason is there to believe, particularly in an increasingly global economy, that $7.00 per hour is not above the market-clearing price? It seems quite plausible that this wage rate assumes that action must be taken to artificially restrict the supply of labor in a local area to maintain this price. In which case, there may not be a loss of employment in the local region with a monopsoly purchaser of labor and supply restrictions - but the necessary supply restrictions create poverty outside the local area.

(3) If we take a global perspective, the claim that the fast-food industry is a monoposony regarding labor at less than $7.00 per hour appears to be false. There are a great many people working a great many industries at less than $7.00 per hour.

Anonymous said...

I agree that economists too often confuse efficiency with moral value.

However, the basic idea behind efficiency is more or less sound. The idea is that trade makes both parties better off, since individuals generally know what is best for themselves. Parties will continue to trade until supply equals demand, and up to that point they were making themselves better off without making anyone else worse off. If the market price is above or below the
market clearing price, then the possibility to make some people better off without making anyone else worse off still exists. That situation is not optimal.

Of course, efficiency by itself isn't a very good criteria for judging policies. It has to be weighed against fairness, rights, and prosperity (Schumpeter
has argued that some degree of monopoly - inefficiency - is good for economic growth)

I can understand how someone outside of the economics field would think that going with the consensus view is generally wise. However, economics is not a hard science. If you ask what a physicist thinks, you should probably trust him. Not so with economists. It's not at all wise to trust the consensus view in economics, because it is not as empirically well grounded
as the hard sciences. I would suggest reading some about the history of economic thought. Basically, back in the 1870's, the mainstream "neoclassical" school of economic thought was born. Everything in economics right
now is an extension of the ideas thought up over 130 years ago. This wouldn't be a problem, except that neoclassical economics is modelled after classical physics.

A helpful analogy for how neoclassical economists think of the economy is a bowl
with a ball in it. The ball represents prices - the bowl represents the forces in the economy. if the bowl stops moving, the ball comes to rest right
in the middle - that's market equilibrium. Economists are very good at figuring out where this equilibrium is. However, the real dynamics of how the ball gets there are largely ignored. Usually economists just make some really
unrealistic assumptions, like the economy being one giant auction, to explain how the ball gets there.

Also ignored is the fact that market forces themselves are dynamic - the bowl is constantly being jostled around
by sociological, psychological, political, and endemic market forces.

So in reality, the ball is never at rest, or even near at rest. The market equilibrium is largely
irrelevant, and yet that's what economists are preoccupied with.

As for how neoclassical economics could continue to be so irrelevant as a tool to understand the entire economy - well your guess is as good as mine. I think that it's mostly ideological - neoclassical economics justifies our mixed economy that's mostly market driven, with the government providing public goods. So NC economics gets all the funding from the government.

Dissenting economists have historically been discriminated against. In the 50's and
60's there was a large movement to purge dissenters - a lot of them were affiliated with radical political movements, and that was used as an excuse to deny them tenure. Also, NC economics is in some sense self-perpetuating.
Since it dominates economics, it has control over all the "well respected" journals. These journals rarely offer dissenting views. What this means is
that schools who are friendly to dissenting views have to publish in
non-mainstream, less well respected journals. This means that those schools get a lower ranking, and thus there is pressure from the school administration to make those economics departments more mainstream. Actually this just
happened in at the University of Notre Dame, where an established non-orthodox department was hijacked by NC economists, resulting in the dissenters being marginalized.

Well I have to go, I'll respond to the rest of your post later.

Anonymous said...

I found a poll that said that only 65% of economists believe that the minimum wage has a significant effect on employment...wish I could find it. However, deciding
an economic question based on how many economists think one way versus another isn't really the best idea. The fact that a particular view is dominant isn't much evidence for its truth, at least in the social sciences. But even if you were to use this method, you'd have to be carefully
not to count a run-of-the-mill economist the same as a Kenneth Arrow, for example. THe situation with economics is that the most brilliant neoclassical economists tend to recognize and admit how flawed it is, but the average economists tend to not think so hard about the assumptions their theory rests on.

Kenneth Arrow is probably the most famous neoclassical economist
of the 20th century, at least within the profession. He, along
with Debreu, turned NC economics into a rigorous mathematical
discipline back in the 50's.

The fact that Arrow has signed the petition to increase the minimum wage should give you pause. In fact, even if Arrow was the only economist to sign this petition, I would be more skeptical of all the other economists who didn't sign it. Add up all the mediocre economists you want, and you
won't get the equivalent of Arrow.

I have less respect for Solow and Stiglitz, who also signed the petition, but nevertheless they count a lot more than your average economist.

"My interest is in comparing the risk of harm from a higher minimum wage to the risk of harm from something like the education subsidy alternative."

I don't think there's much risk at all of raising the minimum wage,
as long as you make sure that conditions of monopsony are

Why not have both educational subsidies and an increase in the minimum wage?

"Now, a part of the argument for raising the minimum wage that you mention seems to rely on the assumption that monoposony is keeping wages below their market-clearing price, and that a more efficient economy can be obtained by raising the wage."

Not really - it is more efficient (as long as we're assuming NC theory is true)but that's not necessary to the argument. What happens is that with a minimum wage, the MC curve becomes constant, and it intersects the marginal revenue curve at a lower point. If you're assuming that firms equate MC and MR (also
a necessary assumption for the argument AGAINST the minimum wage)
then higher employment is the result. The efficiency properties
of that point are a different issue.

that takes care of (1), but as for (2): I don't know whether
$7 is above the market clearing price. However, you could
look at the wage rates of say, fast food workers in areas
with a competitive labor market, and use that as a proxy.
There is a risk to not doing anything: poor people losing
income they might have otherwise had.

In response to (3) - that would only be relevant if transactions costs were very low. In reality, the fact that some fast food restaurant 1000 miles away is offering a wage $1 higher means absolutely nothing to someone trying to get a fast food job. The cost of making that transaction is too high.

It looks pretty clear to me that in the market for low wage labor, it's a buyer's market.
The workers are desperate for income, they can't afford to
shop around much. So in effect, you have a monopsony.

Anonymous said...

edit: I meant I wish I could find that poll again.

Anonymous said...

I just stumbled in here, but having read this I would like to add my own 2 cents.
The moral position to get rid of powerty is also my startingpoint. However there are sound economical reasons for minimum wages, as allready stated by others here. If you look to countries like Norway, Sweden, and Denmark you will see that they have had high minimum wages for a long time. Wheter this is by regulation or high social benefits is irrellevant in this context. Have high minimum wages resulted in loss of jobs? Partially yes -temporarly. A lot of factories have been moved to cheaper countries. As a result people have lost their jobs. This has actually been good in the long run. It has shifted part of the labour pool from low profit industries to high profit industries, with increased wages and GNP as a result. Now this raises to questions:
1. Will this work the same way everywere? I believ not. These countries have free education, universitys included -with a highly educated population as a result. The transition to more complex jobs has therefore been easy.
2. Has everyone benefitted, or has someone paid a bill here? Yes and no. There is a lot of redistibution of wealth in these countries compared to the US. That's one of the reasons we have free schools. That said, it seems the rich have increased their wealth immensly as a result of the transition from low-tech to high-tech industries.
Minimum wages really just accellerated the globalization process for these countries, giving them an edge for time beeing.

PS. Letting machines take the workers place is a process that has been going on for a very long time now, and it will continue. The only question is how fast we want it to happen. Therefore I consider this an invalid argument against minimum wages.

Anonymous said...

Lordy Lord, is there any problem that can't be solved by taxing "the rich"?

And by what right do you "tax the rich"? Taking anyone's money against their will is robbery. What happened to the "ethics"? Why should the rich contribute their money to schemes of which they disapprove? If poor people don't like the way things are set up, they are free to organize themselves in a way that suits them.

And who gets to define "the rich"? Somehow, nobody ever includes himself in that category. To a guy with 8 million, "rich" means 15 million. To a guy with 15 million, "rich" means 25 million. "The rich" actually means "everyone richer than me". Pretty self-serving.

Some people are more gifted than others, and more "useful" to "society". Not everyone is created equal. Why should they have the same pay? Why should some of them have to give up part of their earnings to maintain the less useful members of society? Who are you to force them to do so? You are insulted by inequality? Good for you. Not everyone is, so stop assuming that.