The House just recently passed the Wage Act to raise the minimum wage to $15 per hour. In the midst of their self-congratulatory back slapping, comments like "it’s an important step towards creating an economy that works for everyone" were tossed around. But is that statement true?
Yes, it is true that surviving on $8 or $9, or even $10 an hour, particularly in expensive metropolitan areas like New York, Los Angeles, or San Francisco, is difficult if not impossible. But raising the minimum wage is not going to provide a pathway out of poverty for workers making so little. And lost in all the hoopla is that raising the minimum wage is not only a poverty trap, but really a disguised income redistribution.
Jobs in fast food and entry level retail were never intended to be careers. Yes, for some, these jobs can provide a ladder to success and upward mobility by working up from the grill to shift lead to manager to (potentially) franchise owner, but that path is a difficult and uncommon one. The claim by minimum wage workers that they cannot afford to raise a family on $9 or $10 an hour is not really the salient point everyone should be debating.
The real question is: Why are they trying to raise a family with a minimum wage job when they are in their thirties or forties? Certainly societal issues like education, environment, and opportunity are key to answering this question, but raising the minimum wage for these jobs only encourages individuals to remain in them and not to seek self-improvement though training and education.
Increasing worker pay to $15 per hour creates a perpetual poverty trap for low-paid workers. Here’s why. First, it removes incentives to better one’s skills and become more productive. There is a clear correlation between education and productivity. Economically speaking, workers (and other production factors like land and capital) earn the value of their respective revenue product. That is to say, firms pay returns to these factors relative to their contributions in creating revenue.
Higher labor productivity results in higher wages — and higher rent for better land, and more interest for more capital, etc. Just raising the wages paid to workers without a proportionate increase in their productivity does not result in a sustainable equilibrium. Firms will seek to rebalance either by substituting the now relatively cheaper capital (automation) for labor, thus reducing employment, or by providing training for a few workers to become more productive and letting many others go, which also reduces employment. Either way, the end result will be fewer remaining wage earners and more unemployed low skilled workers living in poverty.
A second outcome is an unfortunate impact on prices. Most studies indicate that for the fast food industry to maintain their profit margins while paying $15 per hour, they would need to raise prices roughly 35 percent. Meanwhile, a Gallup study shows that around 40 percent of people earning $20,000 per year or less eat at a fast food restaurant at least twice a week. This increases to roughly 50 percent for those earning up to $50,000 annually.
The economic effects as seen by those receiving the minimum wage increase would be to see a dramatic — actually, an historic — rise in inflation for most of the goods and services they typically purchase. Ultimately — and it will come sooner rather than later — the new $15 minimum wage workers will still be trapped in poverty because most of what they purchase will cost significantly more.
However, the coming price increases promulgated by increased wages without increased productivity masks an even more profound outcome — disguised income redistribution. Most pundits see the coming income redistribution something like this. First, minimum wage is increased. Second, prices rise as a consequence. And finally, consumers paying the higher prices are essentially transferring their incomes to the minimum wage worker now earning a higher wage rate.
This model would be essentially correct but for the fact that a significant number of purchases made by minimum wage workers are to purchase goods and services provided by minimum wage workers. It is an income transfer, but not an income redistribution. It’s not closing the perceived inequality gap; it’s merely transferring income in a “round-robin” sort of way among minimum wage workers.
Workers earning an increased minimum wage will spend it mostly on higher priced items purchased from firms that employ minimum wage workers. The planned effect of increasing low-income workers’ well-being through higher wages will be dramatically diluted by their spending of that increase on higher priced goods. The outcome is a higher equilibrium of transactions measured by dollars, but not by volume. If we are to assume that minimum wage workers essentially only “survive” by spending all of their income on necessities such as food, clothing, and shelter, then increasing their wages only to pay higher prices doesn’t leave them any better off. But what about the existing higher-than-minimum wage workers?
Workers who earn more than minimum wage will definitely see one, and possibly two effects. If they earn marginally more than the current minimum wage they will likely see pay increases — particularly if they earn more than the current minimum wage, but less than the new minimum wage — assuming their job still exists. Likewise, if they currently earn just marginally more than $15 per hour, they should also see an income increase to prevent wage compression. This is the effect of, “why should I be responsible for all of this stuff for only $15.10 when for $15.00 I can flip burgers.” No, the less than and slightly greater than $15 per hour workers will see small pay increases, but also subsequently suffer price increases leaving them economically in the same place or worse.
However, workers earning significantly more than the new $15 dollar per hour minimum wage, say $20 or $25, or more, will have an entirely different experience. They won’t see pay increases to offset wage compression, and their current rate is far too high to require a pay raise to comply with the new minimum wage level. What they will see, instead, is the same income, but higher prices. Essentially they are the ones transferring their incomes to minimum wage workers by paying for inflated goods and services.
The outcome of this misguided minimum wage policy, therefore, is that the relatively rich get poorer while the poor stay poor.
Kevin Cochrane teaches economics and business at Colorado Mesa University in Grand Junction and is a visiting professor of economics at the University of International Relations in Beijing, China. He is a regular contributor to several national publications including the Washington Times, Washington Examiner, and American Thinker. He previously was the economic correspondent for both CBS and NBC TV affiliates in Southern California. For 27 years he formerly was a senior banking executive with a major NYSE listed bank holding company and the CEO of a national multi-bank operating company. To read more of his reports — Click Here Now.
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