Opponents of the minimum wage frame their argument in terms of oversimplified economic theory that is not borne out by empirical research. The argument goes like this: raising the minimum wage distorts the fair market value of labor, making it expensive for employers to hire low-skilled workers. Employers respond by laying off workers and hiring fewer new ones, which causes unemployment. If you abolish the minimum wage instead of raising it, you give workers more opportunities, more bargaining power, and more economic freedom.
There are several problems with this argument.
First of all, if you really care about the economic freedom of low-wage workers, you should care that 71% of Americans and 87% of low-wage workers support raising the minimum wage according to a Gallup poll. The minimum wage is an expression of low-wage workers’ economic freedom, not a hindrance to it.
Now, minimum wage opponents respond to this by pointing out that low-wage workers aren’t economists and don’t really know how these things work. But that’s a self-defeating argument because it undermines a basic assumption of their economic theory: that workers are efficient and rational economic actors capable of negotiating a fair price for their labor.
In fact low-wage workers tend to be inefficient actors, especially when it comes to bargaining. Employers however are expert bargainers, which is how they got to be employers. So in the negotiation between workers and employers to set the price of labor, workers will often get cheated. They’re just not skilled or empowered enough to extract the fair value of their labor.
So what the minimum wage does is draw a line beyond which employers cannot cheat their workers. It says, “You can cheat your workers this far, but no farther.” In this sense it’s a market correction rather than a market distortion. It’s an aid to workers in an imbalanced negotiation in which employers have most of the bargaining power.
Another problem with anti-minimum-wage logic is that right now in the United States we have a situation where nearly all the money is in the hands of the wealthiest. If they already have all the money, then there’s no incentive for them to invest that money in producing goods and services. Increasing the minimum wage puts more money in workers’ pockets, which increases consumer demand for goods and services, which increases the incentive for the nation’s wealthiest to invest their money in production and in hiring more workers. In economic terms, the minimum wage’s positive effect on employment due to increased demand helps offset its negative effect on employment due to increased labor costs.
When you look at actual data on minimum wage increases, you find very mixed results. Many studies find a negative effect on employment, while many others find a positive effect or no effect at all. But even studies that find a negative effect show it as fairly small. For instance, a frequently cited study by David Card and Alan Krueger showed that a 10% increase in the minimum wage would lead to a 1% decrease in employment for minimum wage workers. But even subtracting that loss, a 10% minimum wage increase still results in a net 8.9% income gain for this lowest quintile of workers. The gain would benefit 99% of current minimum-wage workers and would improve overall income equality. Americans should take that deal.
Of course, there is a point of diminishing returns in every area of economic policy. Minimum wage opponents like to point to American Samoa, where rapid increases of the minimum wage led to a sharp decline in employment, especially in the tuna canning industry. It ceased to be cost-effective to pay workers to can tuna, so companies laid a lot of workers off. That’s an argument against large or rapid minimum wage increases, but it’s not an argument against incrementally increasing the minimum wage or indexing it to inflation as Obama and Romney have proposed. And it’s certainly not an argument for abolishing the minimum wage altogether.
We probably won’t know where the point of diminishing returns is unless we come to it, and if that happens then we can adjust our policy accordingly. The goal of minimum wage policy should be to find the wage rate that maximizes benefit to low-wage workers without triggering large decreases in employment. In other words, we should be looking for that magic number that best approximates the fair market value of low wage labor. We’re not there yet.