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Last week fast-food workers staged a one-day strike in 60 American cities to demand a minimum wage of $15 (R150) an hour, more than double the current federal minimum of $7.25, in the “Fight for 15” effort.
I feel bad for those who are relegated to a minimum-wage job. I feel worse for those who want a minimum-wage job as a stepping stone to something better and would be denied that opportunity by the imposition of a higher wage floor. A higher wage is great for the workers who keep their jobs; it isn’t so great for those who would not get hired because McDonald’s starts asking its existing workforce to do a bit more. With a higher minimum wage, the cost of automating certain tasks suddenly becomes more affordable.
Raising the minimum wage to lift people out of poverty has the opposite effect. So why does an idea that violates the most basic principle of economics keep coming back to haunt us? It may appeal to our humanitarian instincts, but as social policy, it fails the test.
Let’s start with the basics. As with any good or service, there is a supply of, and demand for, labour. Supply and demand meet at what is known as the equilibrium price. The unintended consequences of setting a cap or a floor on prices have been well documented. Many economics textbooks use New York City’s rent-control laws to demonstrate the effect of price caps: a supply shortage as landlords keep flats off the market rather than lease them at a below-market rate.
The effect of price floors is just the opposite: a surplus. More people – an increase in the supply of labour – want to work at McDonald’s at a rate of $15 an hour than $7.25. That leads to an influx of workers into the labour force and higher unemployment as new entrants fail to find a job. (You have to be looking for work to count as unemployed.) The higher the price of labour, the lower the demand for it.
This is so basic that it defies logic to claim otherwise. Yet that hasn’t stopped labour economists from cranking out studies purporting to show that raising the minimum wage has minimal negative consequences because only a small portion of the workforce earns the minimum wage.
But “minimal negative consequences” is incorrect. Job growth declines “significantly in response to increases in the minimum wage”, according to Jonathan Meer, a professor of economics at Texas A&M University, and Jeremy West, a graduate student at the university, co-authors of a new paper, “Effects of the Minimum Wage on Employment Dynamics”.
Unlike many previous studies that use the level of employment, Meer and West focus on the effect of a higher minimum wage on employment dynamics, or the number of gross job gains and losses. The minimum wage “meaningfully affects employment via a reduction in the rate of long-run job growth”, they write.
For example, a 10 percent increase in the minimum wage “reduces the gross creation of new jobs in expanding firms by about 2 percent”, or 6 200 a year per state on average. Think of it as jobs that would have been created but weren’t. The impact on job destruction is less clear, they claim.
Any supply-side effects – a bigger pool of labour that improves the quality of employer-employee matches – are insufficient to “overcome the negative demand-side effects of higher labour costs”, they write.
The analysis comports with how one would expect businesses to behave, and not because they’re out to stick it to employees. Fast-food restaurants spend about a third of their revenue on labour. By some estimates, doubling the minimum wage to $15 would raise the price of a Big Mac by $1.28 to $5.27; that would tend to reduce sales.
The road to a higher-paying job goes through education, training for the jobs of tomorrow, and incentives such as the earned income tax credit, not through the imposition of a floor on wages.
“McDonald’s is pretty good at making burgers and fries, but there is no reason to assume the company is equally adept at running a welfare programme,” Allen R Sanderson, a senior lecturer in economics at the University of Chicago, writes in the Chicago Tribune.
So the next time someone tells you that the US needs to raise the minimum wage to $15 an hour, ask him what’s so special about $15. Why not raise it to $50, or $100, and make everyone rich?
Caroline Baum is a Bloomberg columnist.