The Benefits of Low Minimum Wages

Author: Vale

donkeys and pigs smallThe minimum wage is often misunderstood by the public at large and not a lot is written about the benefits of low minimum wages mainly because it is not politically correct tell someone that they really aren't worth a higher wage or should be forced to live on less.

But instead of putting the blame on the employee and acknowledging some personal responsibility that he has the same ability to increase his wage that millions of people did before him (through internships, on the job training, visiting a library or education) the populist angle is to put the blame on the business. But the argument is wrong. The business is just offering a job at a posted wage. Nobody is putting a gun to the employee's head to work there. That also doesn't mean that the employee can demand $25 an hour for a job whose marginal output is $7 an hour. If he doesn't like the wage, he can find another place to work. Both are free to engage in the negotiations on the terms of employment. The market clears when the business hires the employee and the employee accepts.
Right about now is usually when I hear, "but this employee may not be able to find another job." My answer: then that is a surefire sign that this employee does not have a marketable skill and needs to improve himself, isn't it? Why is that every businesses fault? If an employee can only produce an output of $6 an hour, then why is a business going to hire this person for $8? Either the employee is selling himself, or the businesses owner is selling him a job.

  • Characteristics of the Federal Minimum Wage

But before we begin, we should shed some light on the context of the characteristics of the minimum wage. Your average populist laments the poverty that a family of 4 has to endure to survive on the minimum wage. The problem is that it is not the norm and they are pushing an agenda. Simply put, most are young teens working their first jobs in the fast food industry. Since I have a penchant for bringing in the facts to an argument, I will defer to the Bureau of Labor Statistics (BLS). Let me first start a fact that the populist media always starts with: "Half of all federal minimum wage workers are over the age of 25!" Yes, this is true, however, what they are failing to mention is that less than 1.25% of the working population is earning the federal minimum wage which means that less than 0.71% of workers over the age of 25 are paid the federal minimum wage. About half of those are married (0.472%), so the family of 4 scenario is a far cry from the average case. So yes, they shouldn't have trouble finding a few families to interview for the sensationalism, but it's not representative of the average case and America is not having a crisis of families of 4 earning the minimum wage.
Does anyone bother to ask why they are earning such low wages? People always feel that they are entitled to more, but the fact is that their wage is a reflection of the market opportunities available to them. The numbers show that 36% dropped out of high school or are still in high school, 30% only have a high school diploma, and 25% have some college but no degree, which in the labor market is the same as having only a high school diploma. That covers a full 91% of those making the federal minimum wage. Only 3.7% have a college degree or higher, and while the numbers don't break it down, you can bet those aren't STEM degrees.

So why is a low minimum wage is good?

  • More people contributing to society by working in productive activity

A low minimum wage provides jobs to people who would not otherwise have jobs. If a worker's productively is only $7 an hour, it doesn't make sense to hire that person for $8 an hour. That person is going to be unemployed in an economy with an $8 minimum wage and such a law prevents an employer putting that person to productive use at $6 an hour. Higher minimum wage law proponents mistakenly think they will be helping low paid workers because they assume that there will be no change in employment. This does not coincide with economic theory [supply and demand] or reality [1, 2]. A 2006 survey of economists showed that more would prefer to eliminate the minimum wage than increase it. In 2007, another survey showed that nearly three-fourths of economists believed that a higher minimum wage would reduce employment. The real coup de grâce to the minimum wage debate came from a review of all prior studies of the minimum wage and employment effects conducted by Neumark and Wascher in 2007. What did they have to say?

The oft-stated assertion that recent research fails to support the traditional view that the minimum wage reduces the employment of low-wage workers is clearly incorrect. A sizable majority of the studies surveyed in this monograph give a relatively consistent (although not always statistically significant) indication of negative employment effects of minimum wages. In addition, among the papers we view as providing the most credible evidence, almost all point to negative employment effects, both for the United States as well as for many other countries.

Economic theory is once again affirmed. But of course the obviousness of the situation could have explained it. It never makes sense just to hire people for the sake of hiring them. No value is created from such activity.  So what is better, a skill-less employee making a few dollars an hour, or that same person not working and depending exclusively on the government?

  • More consumer surplus

If making a widget costs $10 at factory A, but costs $5 at factory B, it makes sense to have all your widgets produced at factory B. Anyone with any business sense is going to send all their orders to factory B. If they don't, their competitors will and they will soon be out of business. The lower cost means a lower price to the consumer and a lot more can be sold. More economic activity is added to the GDP and consumers benefit greatly because they are able to buy more widgets. So the mystery is how factory B is able to produce them at lower costs? Perhaps they have a more efficient production line, incorporate more automation or perhaps because they pay their employees less. If they are paying their employees less, the populist views the worker as being taken advantage of by the employer. Their myopic viewpoint pits the benefits of a few thousand employees against the millions of consumers who benefit from buying the product. The amount of money that consumers save (consumer surplus) and are able to spend elsewhere on other goods is greater than the amount of money that the employees lose (deadweight loss), so the net benefit to society is positive. Higher labor costs also result in inflation of goods, as well.

  • More people are employedminimum wage

Back to the above example, if factory A and B have minimum wage laws that force both factories to produce at a cost of $10 per widget, but factory C in another country can produce widgets and ship them to you at a cost of anything less than $10, then it makes sense to make those widgets at factory C. Congratulations, you've just lost jobs to another country. And once again the millions of additional consumers benefit because they can afford more widgets, but now all the employees previously employed in the industry are out of jobs.

  • Businesses can set the wages that are applicable for their local labor market

The cost of living is different across the states, so it doesn't make sense that they should all be forced to pay $15 an hour for fast food workers, for instance (speaking of greed).

  • Basic Training

Who are you more likely to hire, a candidate who shows some work experience no matter how menial it might be or a candidate with the same exact profile, but without the work experience? Minimum wage jobs are not careers, but they can instill some valuable work experience into inexperienced employees. They are starting points to move onto other, better opportunities and offer employment for skill-less youngsters to gain some work experience.
Interns gladly work for free all the time to get experience, but the complaints are few and far between. 

  • Motivation

Low wages are motivation. Motivation to improve one's skill set and earn a greater living; motivation to become more valuable to society. There is nearly 100% yearly turnover for fast food workers. This demonstrates that people are out there finding better opportunities for themselves, whether that be a better work environment or higher pay, in less than a year. If wages are forced higher, the employees would have less motivation to leave and find better jobs. And it goes both ways, if there weren't a legion of people without any skills waiting in line to send in an application to satisfy demand for these jobs, the employer would have to raise wages to attract people.

  • Proper allocation of human capital

Artificially high wages misallocate human capital. Someone who might be better suited to a different job might stay at their current job just because their wage wouldn't change enough in a new job to get them to move. That $15 minimum wage proposal makes the $20 wage that requires a college degree much less attractive. The employee could add more value to society by getting a college degree and filling that other role, but the relative benefit is reduced. Moving from $8 to $20 is a 150% gain, but moving from $15 to $20 is only a 33% gain. Perhaps the benefit cost analysis does not make it worth the effort and potential talent is wasted.
A good example is Trader Joes. I love Trader Joes and shop there every other week but if you ever bother to talk to the cashiers you will generally find that they are college graduates. The reason why just about every cashier is a college graduate is because they start wages off there at $40,000 a year, which is a solid wage. I think it is great that they can afford to pay such high wages and still make a profit, but what is a better result: a person with a degree in English who could be teaching students, or writing and editing for a publication or some other more productive activity better suited to their interests, or that same person bagging groceries, which is a job that anyone could do? Is it worth 4 years of schooling to figure out that the eggs need to be at the top of the bag? Of course, part of it is probably that they couldn't find a better job at the time when they graduated. But here's the rub: those high wages remove their motivation to find a job later that more adequately applies their skill-set and talents. Of course there are probably some other positive qualities that a college graduate bestows on the shopping experience, but is it really critical to their performance to be able to recite lines of Shakespeare?

  • Concluding Remarks

I'll end this with a little anecdote exemplifying the motivation and basic training points I made above.
I first started working "off the books" at age 13 for a summer job making $3 an hour in a warehouse because I wanted money to buy things and the good ole welfare system equivalent, my parents, weren't providing me with any handouts. My first regular part time job came early in the next year when I turned 14. I started working at McDonald's making the minimum wage and it was the only place that I could find to hire me at that age (it required a work permit). And not surprisingly, it's mostly a skill-less job pressing a few buttons on a screen, counting money and washing dirty food trays, but you can prove to other employers that you can show up on time and are not going to quit immediately because your boss told you to do something. I hated that job and it wasn't easy dealing with some of the 'clientele' or the bosses, but I stuck it out for 7 months. I wanted more money for my time, so did I go protest out in front of the store for a higher minimum wage? No, I went to another employer in a job field that I was interested in (veterinarian) and expressed interest that I wanted a job there. It took me multiple tries to convince them to hire me, but they were confident that I could show up on time and do what I was told because I had already been doing it at my other job. I was hired soon after and at a higher wage. Even though I had to put in effort to get that higher wage, soon after, the minimum wage was raised and my old McDonald's co-workers were then making about as much as I was. Most of them decided to just stay put instead of seeking better opportunities even though the job experience was mostly just proving to another employer that you could actually sustain such menial work. After a year or so of working at the veterinarian, which mostly involved the glamorous position of hosing animal feces out of cages, I found a higher paying and better job revolving around a computer and I was the youngest person at the firm. My wage had more than doubled in a couple of years, which was not bad for still being in high school. Was it likely that I would have been hired into the higher wage job right away without any other work experience? No. I proved that I could work and be reliable and the low wages were the motivation for me to find better opportunities. The same thing happened after I graduated from high school. A low wage while working full time in a warehouse motivated me to go to college. It wasn't part of my original plan to go to college, but I wanted to make more money, and had the wage been $15 an hour, I might not have had that motivation. It was a good learning experience.

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