What To Expect When The Minimum Wage Goes To $15

Late last week a reader named Bert wrote to ask a series of questions about what is likely to happen in places that raise the minimum wage to $15.  The questions are found in Bert's comment at this post.  Since Bert is interested in my thoughts, I thought others might be as well.

To summarize, Bert's questions are:

  1. Won't raising the minimum wage also raise the wages of others up the pay scale, as employers seek to preserve the differentials between lowest paid workers and those next up the ladder?
  2. Isn't raising the minimum wage a "cynical tax grab" by government, because the higher wages, both at the bottom and up the ladder, will generate more taxes?
  3. Is there a "moral" issue involved in government preventing a voluntary economic transaction, even if that transaction involves paying for human labor at a wage so low that we find it distasteful?

To address these questions, I have to start with some basic economics; and by "basic economics," I mean what you learn in the first couple of weeks of an intro economics course.  Now unfortunately, you can't trust much of what you learn in an economics course, and the more "advanced" it gets, the more likely it is to be a total fallacy -- see, for example, the Keynesian "stimulus" fallacy endlessly promoted by the likes of Krugman and Blanchard.  But the stuff you learn in the first couple of weeks of the intro course has stood the test of time, particularly in its depiction of what to expect from price controls.  

So here's the basic summary:  A market is what we call a place where people come together to buy and sell stuff.  A market not subject to government price controls (sometimes called a "free market") will "clear," meaning that everybody who wants to buy can buy and everybody who wants to sell can sell; and, to reach the point of "clearing," the market will come to a "market-clearing price," that is, the price at which everybody who wants to buy can buy at that price, and everybody who wants to sell can sell at that price.  "Free" markets not subject to government price intervention rarely have shortages or surpluses.  A good example of such a market is the stock market, which determines prices that "clear" the market for each stock on a moment-by-moment basis.  If you want to buy or sell 100 shares of Microsoft, you can always do it in a matter of seconds.

Then there are markets where the government intervenes and tries to control the price.  Sometimes the government tries to control the price at a level lower than the market-clearing price (examples: rent control in New York; consumer goods in present-day Venezuela).  Other times the government tries to control the price at a level higher than the market-clearing price (examples: many agricultural commodities; the minimum wage).  When the government tries to control a price low, the result, always and everywhere, is a shortage -- the good or service becomes unavailable to many willing buyers.  Witness the empty store shelves and long lines in today's Venezuela.  When the government tries to control a price high, the result, always and everywhere, is a surplus -- there are people who would like to sell but cannot find buyers at the controlled price.  Witness the surplus corn and wheat and butter endlessly produced as a result of U.S and European agricultural price controls.  In the case of the minimum wage, the surplus manifests as unemployment or involuntary idleness for some segment of the population otherwise willing to work.

So do minimum wage laws actually lead to job losses and increased unemployment?  It's hard to believe that they wouldn't, and here are the results of a survey by the American Economics Association of labor economists showing that the large majority of that group believe that that would be the result.  But the effect may be hard to parse out of the very crude government statistics when the minimum wage is low as a percentage of the median income and few people are actually paid at the legal minimum (and therefore the effect of the minimum wage on the labor market is small).  That's been the case in the U.S. for some time, where the current $7.25 federal minimum is around 30% of the median wage nationally, and less than 4% of workers are actually paid at or below the $7.25 level.  

But, if you look closely at the data, you will find, even at the current $7.25 minimum, strikingly high levels of idleness among the very-least-skilled potential workers, particularly among young black males.  This idleness does not necessarily manifest in the government's numbers for "unemployment," because to be counted as unemployed you must say that you are looking for work.  Thus, many eminently employable people may be without employment, but not counted as "unemployed."  As an example, the demonstrations in Baltimore following the death of Freddie Gray about a year ago revealed to the audience large numbers of young black males with lots of time on their hands; and, as I reported in this post last April, even though Baltimore's official "unemployment" rate was only a couple of points above the national average, its employment-to-population ratio was a full 5 points below the national norm -- meaning that tens of thousands of people who would be employed elsewhere are without employment in heavily-minority Baltimore.  Others who have recently looked at the condition of young black males in major American cities have also found strikingly high rates of non-employment, not reflected in the official government numbers for "unemployment."  For example, a New York Times editorial on February 20 titled "The Crisis of Minority Unemployment," cited to a report from something called the Great Cities Institute for the proposition that about 30% of young black males (ages 20-24) in New York and Los Angeles neither work nor attend school; and in Chicago the comparable figure was said to be close to half.  (Being ever the skeptic, I would point out that the Great Cities Institute is an advocacy group and its numbers may well be exaggerated; but even if the correct figures are only half of what they claim, these would still be very striking numbers.)  

Now, how much of this idleness can be attributed to the current minimum wage?  Obviously, there could be other factors at work.  On the other hand, markets not subject to government price controls literally always "clear."  That means that, to attribute the idleness to something other than the minimum wage, you must believe that these young black men are somehow completely unemployable, or would refuse to work at any price.  Those things don't seem too likely to me.  I think that the minimum wage is substantially responsible, although I admit that it's a judgment call and others could differ.  

But there are other places where we can look for more data.  What happens when the minimum wage becomes much higher as a percent of the median income?  As it happens, we have an example of that in the United States, which is Puerto Rico.  And it's not pretty.  Puerto Rico is subject to the federal $7.25 minimum wage, but its median income is only about 40% of that in the 50 states, so that a full-time minimum wage job comes in at about 70% of median income, versus 30% in the rest of the country.  And here are some of the things we find in Puerto Rico:  its official "unemployment" rate is 11.8%, almost 7 full points above the national average; even more dramatically, its "labor force participation rate" (ratio of jobs plus unemployed to population 16 and over) is only 42% -- more than 20 full points below the national norm.  That 20 point differential represents something like 400,000 people who would be working if Puerto Rico met national norms for labor force participation.  And two more things about Puerto Rico:  (1) it is losing population hand over fist (down about 10% since 2000) as people leave for the mainland to find employment; and (2) 25% or more of its economy is said to be "underground" and not reported to the government.  Again, there could be other factors at work than just the minimum wage.  But it is very hard to assign principal responsibility for these things to anything other than the minimum wage.

So what will be the effect of a $15 minimum wage?  Here in chic Manhattan, probably not much at all.  The effective market-set minimum is around $15 right now.  The same may well be true in San Francisco and the wealthy parts of Silicon Valley.  But how about Syracuse, Utica, Fresno and Stockton?  I'm sorry, but I think you are in for the fate of Puerto Rico.  Maybe not quite so bad, but only because the $15 minimum is more like 50-60% of your median income versus the 70% that Puerto Rico experiences.  The people most harmed will be those at the very bottom of the labor skills scale.  They will be put completely out of business, and rendered idle.  Oh, there's always the underground economy.  Drug dealing, anyone?  

With all that background, I now turn to Bert's questions.

  1. Yes, there could be some pay increases for people in the next tiers up the pay ladder from the very bottom rung, as the bottom rung moves up.  But remember, a business cannot pay out in wages more than its revenues and expect to survive for long.  Some raises can come out of former profits, but the marginal businesses that pay minimum wages don't have a lot of profits to play with.  It is hard to believe that the aggregate of raises will exceed the aggregate of lost wages to the lowest income workers from firings, downsizings, and company closures.
  2. It is possible that politicians with zero mathematics skills (e.g., Sanders, Clinton) may actually think that a higher minimum wage will create vast new wealth out of thin air that can then be taken by taxes.  The reality of course is Puerto Rico, where a tenth of the population leaves the jurisdiction entirely and quarter or more of the remaining economy goes underground and stops paying taxes altogether, and the tax system goes into a death spiral.
  3. Yes, there is a huge "moral" question in the minimum wage that somehow goes undiscussed in trendy progressive circles.  The correct way of looking at the minimum wage is that it is a device used by entrenched workers, often white and unionized, who have achieved above-market wages through cartelization, to protect themselves against price competition from minorities.  Should the young black kid be able to win a job against a competing white worker by underbidding on price?  After all, underbidding on price is how the Waltons became billionaires.  I personally find it morally repugnant that the government shuts young minorities out of the ability to get a first toe-hold in the labor market by competing on price, and renders them idle and often dependent on government hand-outs.  Why Hillary, Bernie, and all the other trendy progressives don't find this morally repugnant, is beyond me.