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Two Sides of the Minimum Wage Coin

Raising the minimum wage would hurt many of the people it is intended to protect.

Last month, Senator Jim Webb delivered the Democratic response to the State of the Union address. In it, he touted minimum wage legislation as a step toward getting “the right things done, for the right people and for the right reasons.” The “right people” he was referring to are lower and middle class workers and his “right reasons” for helping them invoked Andrew Jackson’s dictum that we ought to gauge the health of our society by conditions at the bottom. Eager as he was to expound on the proper ends of economic policy, Senator Webb didn’t waste any breath trying to explain how these ends are served by a minimum wage hike. With the issue now stuck in legislative limbo, perhaps it is a good time to consider whether increasing the minimum wage is so right for American workers after all.

The apparent virtue of a minimum wage increase is that it puts money in the pockets of people who need it. Rather than saving or investing their extra earnings, they are more likely to spend the money on everyday things like food and clothing. Not only does this improve the material well-being of those whose wages have risen, but it’s also a boon to the economy at large, or so the story goes. When businesses see sales rise, they respond by increasing production to meet demand. This usually requires some combination of new hiring or higher pay, putting even more money into the collective pocket of the working class. The result is a virtuous cycle in which the lowest paid enjoy a higher quality of life while their spending fuels demand-driven growth in the economy.

Neat and tidy though it may appear, our story is complicated by a troublesome question that arises at its very outset. If we want to put more money into people’s pockets, we first have to figure out where that money is going to come from. When the government raises the minimum wage, it typically doesn’t pick up the tab, at least not directly, which means that employers are on the hook for making up the difference in their employees’ wages. Generally speaking, there are three ways employers can do this. One way is to eat into their profits. This might sound okay to an outsider, but try putting yourself in the shoes of a small business owner whose livelihood is on the line. If you had larger corporations in mind, then just remember that it might be your mutual fund portfolio or 401k that takes a hit. Another way to fund higher wages is to raise product prices. But there are two problems with this option. First, raising prices can be a risky competitive move that most businesses would just as soon not take. Second, if businesses did raise prices, it would negate the whole purpose of raising wages in the first place. It’s great to have an extra dollar in your wallet, but it’s less great when you are paying fifty cents more for milk and bread. The last option open to businesses is to hold prices and profits steady by offsetting wage increases with other cost reductions. This might sound promising, as we have all seen evidence of wasteful spending in the places we work. But if a company hasn’t yet found a way to eliminate administrative waste, what makes you think it will be any easier now? Besides, one very big cost that is easy to see, and easier still to do something about, is people cost. This might mean layoffs, though a less inflammatory way to achieve the same result is to simply refrain from hiring more workers when current employees leave or the business starts to grow. The idea is to do more with less, each employee working a bit harder to earn that bigger paycheck. It’s still not a bad deal for those who have jobs. But it’s a far less sanguine picture for those who do not.

Putting the whole story together, we see that increasing the minimum wage looks great from the standpoint of the currently employed. One gets the impression that these are the “right people” Senator Webb was talking about in his speech. But what about the unemployed or those who are hoping to enter the workforce down the road? Are they just the wrong people looking for a job at the wrong time? If Senator Webb and the new Congress are truly committed to American workers, present and future, then they should abandon economic policies that pick winners and losers based on who happens to hold a job right now. The word from Capitol Hill is that the minimum wage legislation is dead. I say, let it rest in peace.

February 26, 2007
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