The truth about minimum wage policies

  • Gerardo E. Martínez-Solanas
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Minimum wages distort the normal supply and demand curve of labor statistics. They are a measure of control with two edges. Economic theories clearly show that free markets will eventually achieve a healthy equilibrium beneficial to both sides of the equation. However, that model is only true in a perfect world ─ a world where everyone is perfectly honest and there is no tendency to abuse the weaker sectors of society.

Among Catholics and many other Christians, minimum wages are a mater of compassion and social justice. The Catholic Social Doctrine has been codified to express that the government must "defend and promote the common good of civil society, its citizens, and intermediate bodies" (1910), because "the state has a responsibility for its citizens' well being" (2371). It is self evident that the main reason for any government to exist is to abide by their obligation to make sure that citizens live in secured and stable social groups abiding by the rule of law. That is what social justice is all about - according to the American Declaration of Independence, the role of government being the preservation of "Life, Liberty, and the pursuit of Happiness".

On the other hand, critics of minimum wage laws often presuppose that the greater the government intrusion into all facets of human life, economic activity included, worse is the condition of citizens losing their freedom and independence, as well as their chances in the pursuit of happiness. Furthermore, Libertarians hold the idea that almost any kind of contract entered freely between responsible adults is legitimate, legally binding, and should not be subject to government regulation.

However, this debate is not resolved as a black or white alternative because of its many shades and colors. It is thus a matter of common sense. First and foremost, we should be clear about the fact that minimum wages have a function to limit abuse and to guarantee a minimum subsistence level.

Why should it be set at a minimum subsistence level? Because increasing the minimum wage beyond the basic needs of citizens would have two principal effects on low-wage workers. It is true that most of them would receive higher pay that would increase their family’s income, and some of those families would see their income rise above the federal poverty threshold. But it is also true that a considerable number of jobs for low-wage workers would certainly be eliminated, the income of most workers who became jobless will fall substantially -up to the point to be forced to ask for wellfare subsidies-, and the share of low-wage workers who are employed will also fall. In the United States, more than half a million jobs will be lost because President Obama is trying to pass a law to increase the federal minimum wage from its current rate of $7.25 per hour to $10.10 per hour. In other words, the real effects of such a large minimum-wage increase are negative: they'll hurt businesses and reduce their chances against foreign competitors, they'll raise prices and they ultimately are counterproductive for the working poor, as they can lead to high unemployment. Look at this chart on minimum wages and unemployment in the United States.

The majority of entry jobs available to low-wage earners are offered by small and medium size enterprises who cannot afford this substantial wage increase unless they rise prices or reduce their staff. Many will turn to the unskilled workers who have illegally entered the country, who are also highly vulnerable to many forms of abuse and would thus accept abusive wages from their employers. In addition, it is perfectly logical to predict that a small firm in a low-wage region might, for example, respond to such a high increase in the minimum wage by having the owner and his associates pick up more hours themselves and cut back on their employee’s overtime hours. A large firm might likewise try to squeeze more work out of its salaried managers and other high echelon employees and hire more part-time low-wage workers, to avoid benefit obligations - a strategy devised to compensate for the higher salaries.

The Congressional Budget Office has just revealed a conservative estimate of the effect of an increase to $10.10 per hour by substantially reducing total employment in the United States by about 500,000 workers. Other estimates go as far as a total of one million workers losing their jobs.

While facing a recessionary period in the US economy, the basic reasoning is not a matter of social justice  but of pragmatism. While $7.25 per hour is a very low wage, policy-makers must realize that the economy is not ready yet for a much higher minimum wage. Eventually, it should be raised, but again very gradually, at no more than $0.50 higher per year, thus taking up to 2018 to achieve Obama's goal of more than $10 per hour wage, provided that the economy has fully recovered by then.

It is quite interesting to note that Austria, Denmark, Finland, Sweden and Switzerland, in adition to Italy and Cyprus, have no minimum wages for any of their workers. With the exception of Cyprus they are all advanced and industrilized economies with workers enjoying high stadards of life. Other European countries have mandatory minimum wages and in some cases they are quite high, particularly in Luxemburg, Belgium, France and Spain.

It is therefore a myth that minimum wages are essential to a better standard of life. Such well-being depends much more on other factors of social and political strategies. Therefore, the belief that increasing the minimum wage in the middle of a tight economic situation is socially beneficial is a delusion. It is short-sighted and ignores evident reality. Some workers who retain their jobs are made better off but only at the expense of many unskilled, mostly young, workers who either lose their jobs or can’t find a job at the legal minimum.

Thus, contrary to the claims of minimum-wage proponents, the government will not increase opportunities for low-skilled workers by increasing the minimum wage, much less by such abrupt rise as the one proposed by President Obama. If workers lose their jobs or can’t find one, their income is zero. Employers will not pay workers $9 per hour, much less $10.10 if those workers cannot increase production or sales at least by an amount proportional to their higher salary.

Furthermore, small business employers can barely compete with large corporations in their sector because of economies of scale (that is, they have a much smaller volume of business) and one of the strategies to stay competitive is to offer lower salaries, while most employers -small, medium or large- cannot simply raise prices to cover the higher minimum wage, particularly in the competitive services sector. And if they do increase prices, consumers will buy less or have less money to spend on other things, meaning fewer jobs available. Moreover, if the minimum wage cuts into profits, there will be less capital investment and job growth will slow.

This measure gets public acceptance because earning a higher wage is popular no matter the consequences. People see their narrow benefits and fail to look for the wider picture and long term results of a bad policy. It is important to have real leaders working for all citizens and for the good of the whole country. If their decisions are based on getting a block of voters with populist measures and unsustainable benefits, sooner or later everyone will have to pay the price, and we'll all be less affluent.

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