A heavily debated topic in current economic discourse is over a government-imposed wage floor. Is minimum wage good for the economy, or does it do harm? Many economists will agree that is in fact does harm the economy, but there are a few who would advocate for it. I intend to prove that the minimum wage does harm to the economy, and that raising it would have a negative effect on supply and demand, as well as unemployment, prices, and other factors.
The standard argument in favor of the minimum wage is that when businesses increase the wages of workers, the workers have more money in their pockets to have a comfortable life. The idea is that if they have more money, they spend more, and businesses take in more revenue to be able to pay their employees.
The argument against the minimum wage, however, says that theory is flawed. The theory states that when businesses are suddenly forced to have to increase their wages, they will not have the money to pay, so they must increase their prices. After this price increase, the workers with increased wages will end up having to take pay more than what they used to. Price increase will either be proportionate to the wage increase, or — as what usually happens — prices will increase at a higher percentage than the wage increased, resulting in less private savings overall.
Here is a basic, small-scale example: A gallon of milk costs $1.00. A worker makes $1.50. After taxes, he has $1.15. He has more than enough money to buy a gallon of milk. But the minimum wage increases to $18.00. In order to keep paying their employees, the milk company raises the cost of a gallon of milk to $15.00. The worker believes he has even more left over after buying the milk, but then he realizes that his increase in income has moved him up to the next tax bracket. He ends up with $14.75. He can no longer buy the milk he used to be able to buy.
Having a minimum wage also reduces the number of jobs available for low-skilled workers. There are many jobs that are only worth a certain amount of money to a business. Having workers do these jobs is beneficial to the business, but there comes a point in an increase in wages that it costs more to pay those workers than the benefits of having those workers provide.
For example: The current federal minimum wage is $7.25. A employee at a restaurant opens doors for customers and is paid $7.50. His job is worth roughly what he is being paid; $8.00 would probably be the most that job is worth. Congress raises the minimum wage to $15.00 an hour. This person is now being paid twice what he used to be paid. Having someone open the door for customers improves their experience there, but only to a certain extent. For this example, this increase in customer satisfaction increases customer preference of eating here instead of across the street is 5%. A 5% increase in revenue could previously more than cover paying the doorman, but now the cost of having the doorman there is more than that extra 5%. No reasonable businessperson would continue to have an unnecessary expense like that. The doorman had a low-skill job. He gets fired.
Enough with theories, though. Let us look at the real-world numbers.
Labor is a commodity. Since the labor market is competitive, wage levels have an equilibrium point. If the minimum wage is above the equilibrium point, you would expect a fall in demand for labour (Q1 to Q2) and therefore, there would be excess supply of labour (Q3-Q1).
Increasing the minimum wage would result in a negative impact on the aggregate demand (AD). People who become unemployed spend less, leading to a lower AD. To a certain extent, the decrease in AD would be counterbalanced by remaining workers having higher wages, and therefore an increase in consumer spending. The effect of unemployment would still be greater than the effect of higher wages.
Here are some examples:
In Seattle, the minimum wage will be $15/hour by January 1, 2017 and then will increase with inflation each year. The owner of 7 Subways in Seattle said that restaurants will have to raise prices by around 4% to 5%.
% Change in Seattle restaurant and bar jobs:
The three graphs above show the same effect on jobs in Seattle. Seattle’s unemployment rate has risen 1% since the minimum wage increase, while the national unemployment rate has dropped 0.5% over the same time.
In San Francisco, the minimum wage will be $15/hour by 2018. Chipotle restaurants in SF are seeing across-the-board price hikes averaging 10% (10% increase on chicken, pork, and vegetarian options; 14% increase on steak).
Rick Karp, owner of Cole Hardware in San Francisco, has always taken care of his workers with benefits rather than raising their wages. He will have to cut payroll by 10% to keep up with the $15 minimum wage. He cannot raise prices because he sells on Amazon. Karp says his 2015 revenue reached $15 million, while wages and benefits accounted for 30% of his overhead. Once the minimum wage reaches $15, payroll costs will see a 40% increase to pay his 86 hourly workers. The increase could possibly erase his company’s profits, which are currently 3-4% of sales
The average costs in the food industry are about 30% on wages, 30% on ingredients, 35% on rent, advertising, and capital costs, and 5% on profit. The 5% profit is an average, as many locations will actually lose money, depending on the circumstances during a given month.
In conclusion, raising the minimum wage generally has a negative effect on supply and demand of the market. As with all things in the marketplace, the market will eventually reach equilibrium, and the created issues will sort themselves out. At that point, we will be back in the same boat we began with. Wages should be determined by market forces alone. The correct government-imposed minimum wage is $0.
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