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May 10, 1996
RAISING THE MINIMUM WAGE: A QUESTION OF FAIRNESS?Congress appears poised to raise the minimum wage from $4.25 an hour to $5.15 an hour. And politicians and economists are debating the true economic impact. Is raising the minimum wage a matter of fairness, as President Clinton and many congressional Democrats maintain, or will an increase force businesses to layoff entry-level workers, as Senator Bob Dole, and small business lobbyists argue?
The arguments for and against are compelling. Recent polls suggest that 80% of the public supports increasing the minimum wage, believing those who work full time should earn a "living wage." At the moment, minimum waged employees working 40 hours a week earn $8,800 per year. The poverty line for a family of four is $15,600. And buying power for a minimum wage worker is lower than its been in 40 years. Proponents note that if the minimum wage is raised to $5.15 an hour, about 10 million workers - 10% of America's work force - would benefit.
Those against an increase say raising the minimum wage will destroy jobs and remove the bottom rung of the employment ladder for many Americans. The stepping stone to higher paying jobs, especially for minority teenagers who lack job skills, would vanish. Estimates of how many jobs would be lost if the minimum wage was increased range from 90,000 to 621,000. Opponents argue that other programs, such as the earned income tax credit, are better ways to help the working poor.
Proponents of the minimum wage, often quote a study by David Card and Alan Krueger of Princeton University. Their study found that New Jersey restaurants added jobs in 1992, after the state raised the minimum wage from $4.24 to $5.05, while nearby Pennsylvania, which did not raise its minimum wage, had no increase in restaurant employment.
Professor David Neumark of Michigan State University, and William Waschler of the Federal Reserve Board, refute the Princeton study. Using similar parameters Neumark and Waschler studied New Jersey and Pennsylvania, and found that employment dropped in New Jersey's fast food industry after the wage increase. Neumark and Waschler said their study is more reliable because it relies on payroll data, not the telephone survey's Card and Krueger used.
What are your views on the minimum wage? Should it be set at a "living wage," or is that standard too high. Would increasing the minimum wage actually hurt the workers its meant to help?
Your questions are answered by Barbara Bergmann, an economics professor at American University in Washington, D.C. who supported the minimum wage increase in a recent NewsHour debate, and David Neumark, the Michigan State University economics professor who believes an increase in the minimum wage will increase unemployment.
A question from Paul Zawilski, San Mateo, CA:What is the philosophy of the minimum wage? Does it represent the minimum that is required to support oneself or one's family? Or is it simply the least amount that employers can pay their workers?
Professor Neumark responds:
I am unaware of any attempt to define the minimum wage relative to what is required to support an individual or family. One way to see this is to note that the minimum wage is the same whether or not an individual is a teenager living with his or her parents, a second earner in a family, or a single-parent head of household. Clearly, the income needs of the last type of person are the highest.
The government does attempt to measure the minimum required to support oneself or one's family in defining the poverty line, which is defined as approximate three times the amount of income needed for a family to purchase a minimum nutritionally adequate diet (based on evidence that lower-income families spend about one-third of their income on food). The poverty line, of course, depends on family size.
Trying to lift families above the poverty line is, in my opinion, a worthy policy goal, and it does make sense to ask whether policies such as the minimum wage, the Earned Income Tax Credit, AFDC, etc., succeed in doing this. However, it is also my opinion that the minimum wage is an inferior policy for achieving this goal, for two reasons. First, as a result of minimum wage increases, some low-wage workers lose their jobs. Second, the minimum wage does not effectively target individuals in poor families, as the daughter of an affluent lawyer is covered by the same law as a single mother raising children. To illustrate this point, David Card and Alan Krueger--researchers whose worker is cited frequently by advocates of minimum wage increases --report that 37.4 percent of workers whose wages were affected by the 1990 increase in the federal minimum wage were in families in the top half of the income distribution. So from the perspective of reducing poverty by using the minimum wage, the cup is perhaps less than half empty, but just barely.
Prof. Bergmann responds:
It's against Federal law to pay workers less than the current minimum wage, a prohibition enforced by the Wage and Hours Division of the U.S. Department of Labor, which sends around inspectors to work places. The "philosophy" of those who favor its existence, or favor its being set at a certain level, is a more difficult question.
Most economists have been taught and teach their students that labor is a commodity no different from sugar, toothpaste, or gasoline, and that things go best when the prices of commodities are set in the free competitive market, without government interference. Those of us who favor the minimum wage law think that this is oversimplified. (None of the prices of the commodities mentioned above are set in a totally competitive market, either, by the way. In reality, very few are.) We believe that employers have more market power than workers, and that a legal minimum to some degree redresses that imbalance. In the absence of a minimum wage, some employers would offer wages much lower than "the going wage", and poorly informed or isolated workers would accept it and be exploited thereby. Perhaps most importantly, the minimum wage expresses society's view that the standard of living of workers is important, and that somebody selling their labor should be rewarded by a "minimally decent" wage. This is obviously a value judgement.
As to the question of how high should the minimum wage be, one possible answer that I think is not unreasonable or radical or harmful to the economy is that a full-time job at the minimum wage should at least support two people above the poverty line. Raising the minimum to $5.25 an hour would about meet that standard.
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A question from Bob Blair, Valparaiso, Ind.:
Why is the truth ignored? Why is it not told that whenever the min. wage is increased that inflation increases as well?
Professor Neumark responds:
I don't think the truth is ignored. First, there is little theoretical reason to expect an increase in inflation from raising the minimum wage. An increase in the minimum wage generates a one-time increase in the prices of some goods (those produced by firms using minimum wage labor). This could push up the CPI for one period, and conceivably, if workers earning above but near the minimum subsequently get raises to preserve relative wage differentials, or because of cost-of-living provisions in contracts, prices could rise in a few subsequent periods. But what we usually mean by higher inflation is a higher rate of growth of prices, and there is no compelling reason to think that a single increase in the minimum wage sets off ever-increasing prices or wages. Second, there is no evidence of which I am aware that shows that minimum wage increases have an appreciable effect on the rate of inflation.
Prof. Bergmann responds:
When the minimum wage increases, the money to pay for it has to come out of some combination of reduced employment, reduced profits, or price increases. Observations of what happened in fast-food outlets when the State of New Jersey increased its legal minimum suggest that the money to pay the higher wage was taken out of profits almost entirely. I would expect some price increases in some lines of business, with employment reduction due to some reduction in sales, rather than as a direct result of employers firing labor as too expensive. However, given that most workers earn considerably more than the minimum, I would not expect any of these effects to be big.
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A question from Doug Robertson, Shoreline, Wash.:
Should there be a lower tier minimum wage for teenagers [less than 18 years old] working less than 20-30 hours per week, living at home and not the sole bread winner of their household? What would the ramifications of this be?
Professor Neumark responds:
As part of the 1990 and 1991 increases in the federal minimum, there was a subminimum wage introduced which allowed employers to pay teenagers 85% of the minimum wage during the first six months of employment. However, this was implemented for two years and was not renewed. There is some dispute over the extent to which the subminimum was used, between me and my co-author, on the one hand, and David Card, Alan Krueger, and Larry Katz, on the other. The opposing views are discussed in the Industrial and Labor Relations Review, April 1994.
I suspect that your question is motivated by the notion that the workers you describe are not those most in need of a legislatively-mandated higher wage. Therefore, it might seem reasonable to set the minimum lower for them. The problem, however, is that this would result in the strongest disemployment effects for the workers you would most like to help (let's call them heads of households). The reason is that the two-tiered minimum wage that you propose raises the wage of low-skilled heads of households more than the wage of low-skilled non-household heads, which is likely to induce employers to substitute away from the heads of households. This, of course, is exactly the opposite of the intended effect.
I think the teen subminimum has the same potential problem, and in research I have done with Bill Wascher of the Federal Reserve Board, I find that a teen subminimum weakens the disemployment effects of minimum wages on teenagers. Of course, as I have just suggested, it may strengthen the disemployment effects for other groups of workers. You might ask, then, why the subminimum wage was introduced. I think the reason was the recognition that a higher minimum wage might deter employers from hiring workers who required some training, since the higher wage, coupled with the training costs, makes some workers too expensive. A subminimum that applies for some initial period of employment may enable employers to hire workers and provide this training. Frankly, though, there is little or no evidence on whether the subminimum has these kinds of effects.
Prof. Bergmann responds:
I believe we have too many high-school students working as is, and we would have a better situation if high-school students did more homework, and stopped competing with mature unskilled workers. I don't think we ought to give employers an incentive to hire teenagers in place of mature workers by allowing them to pay teens less.
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A question from Catherine Dye, Houston, Texas:
I can understand the concerns of small companies in regard to raising the minimum wage, but I have a harder time applying this same rationale for opposition to a wage hike to gigantic companies such as McDonalds and Kmart. Would the increase in [the minimum] wage actually requires them to lay off, or would it just result in a smaller return for stockholders?
Professor Neumark responds:
It is certainly true that a minimum wage increase would have different effects on different companies. But the differences in effects might depend on factors other than size. One important factor is the share of low-wage labor costs in total costs of the firm. Clearly, a firm that uses only workers earnings $20 per hour or more sees no direct increase in its labor costs, while a firm using primarily minimum wage labor faces a much larger cost increase. While some large corporations (such as GM or Ford) fit the first description better, others (such as fast-food chains) may fit the second description better. A second important factor is how much consumers' demand for the product will fall if the price is raised to offset higher labor costs. If demand is very sensitive to price, then a firm will face a larger decline in output, and, correspondingly, is likely to lay off more of its workers. If demand is very insensitive, then more of the adjustment will occur via higher prices.
I think it is a fair bet that more small companies use a higher share of low-wage labor. I don't really know whether the demand for their products is more sensitive to price. But while our hearts may bleed a lot less for large corporations than small companies, it is not necessarily irrational for some large corporations to be concerned about minimum wage increases.
The other thing to keep in mind is that at least in some cases what appears to be an establishment owned by a large corporation is in fact a franchise (for example, this is frequent in the restaurant and hotel industry). Thus, the McDonald's near your house may or may not be a small business.
Prof. Bergmann responds:
See my answer above to the inflation question.
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A question from Ray Riley, Barrington, Ill.:
Why not set the minimum wage at a level that will provide a decent wage and then index it to inflation?
Professor Neumark responds:
There are really two issues here. Research by William Even and David Macpherson indicates that indexing the minimum wage in the past would have resulted in a higher minimum wage today. So advocates of higher minimum wages may like the idea of indexing, because it automates something they otherwise have to fight for periodically. I don't know what the definition of a "decent" wage is, but I will assume you mean higher than the current minimum. Thus, one question you are essentially asking is why we don't set a higher minimum wage.
As I indicated in response to one of the earlier questions, my own view is that raising the minimum wage is an inferior policy tool for reducing poverty, especially relative to the Earned Income Tax Credit (EITC), since the minimum wage does cause some job loss, and does not target individuals in poor families. Notice that this does not imply I am unequivocally opposed to a minimum wage increase. If you told me this was going to be the only anti-poverty tool on the table, I might support it, although with considerable hesitation. The minimum wage raises the income of some poor workers, but reduces the income of others. However, if you gave me a list of policy options, I would not raise the minimum wage (and would probably even lower it), and would instead support an expanded EITC. I wish the Republicans--who love to cite my work in arguing against a minimum wage increase--were equally adamant about funding superior alternatives to reduce poverty. I suspect, though, that they are motivated more by a philosophical imperative to get the government out of the business of redistributing income, a philosophical view that I do not share.
The second issue regarding indexation is one that has been raised frequently by Daniel Hamermesh. He argues that indexing would avoid the fierce political battles over the minimum wage that get fought every so often, and enable legislators to focus on other issues. This is a potentially valid point, although there is still an open question as to how to index the minimum wage, since the procedure will ultimately influence how high the minimum wage becomes relative to other wages in the economy.
Prof. Bergmann responds:
The poverty line (which the government says is the amount a family needs to live decently) goes up with inflation. So if your "philosophy" of how high the minimum wage ought to be is the one I proposed above, then it wouldn't be unreasonable to index the minimum wage. Other countries do just that. The argument against it is that if we got into a rip-roaring inflation, an indexed minimum wage would make it more difficult to get inflation under control. Despite that, I would be in favor of indexing the minimum wage. It would allow those at the bottom to avoid falling further behind the rest of us.
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A question from John Norton, Annville, Pa.:
How can an increase in the minimum wage result in the lost of jobs unless those jobs are unnecessary in the first place? If the jobs are necessary, then won't employers pay the higher minimum wage and pass the additional costs on to consumers?
Professor Neumark responds:
You can't really define the terms necessary and unnecessary this loosely. You probably regard a cup of coffee and a full tank of gasoline in your car each week as necessary. But if the price of each increased ten-fold, you might find alternatives, and begin to regard these as unnecessary. In fact, the distinction between necessary and unnecessary is not really pertinent. If the price of any one of the goods you buy goes up, you are likely to purchase a little less of it, and a little more of other goods instead. This is a fundamental prediction of economics, and is supported by the data in a wide variety of contexts.
The same goes for the demand for labor on the part of firms. A worker, given his or her background, education, and skills, is "worth" a certain amount to a firm, measured in terms of the value of that worker's output. If the wage is less than this amount, the firm will choose to employ the worker, and vice versa. If the wage is forced upward by a higher minimum wage, the firm may look for other ways to get the job done. To some extent, this may include using higher-skilled labor or substituting machinery for labor. To some extent, also, the firm may try to increase prices. But if consumers' demand for the product will fall sharply if the price of the firm's output is raised, this is not a very appealing option--and any price increase is likely to entail at least some decline in demand. Thus, there is in fact every reason to expect that a higher minimum wage will reduce employment of low-wage workers. There is still the question of what the evidence says. In my opinion, my research and that of many other (although not all) researchers shows quite convincingly that minimum wage increases cause some job loss among the lowest-skilled workers.
Prof. Bergmann responds:
Most economists would reject the notion that all tasks that labor currently performs are "necessary", and would argue that with higher wages, employers would eliminate some low-priority tasks, and throw some people out of work. I believe in practice there is more flexibility in the number of management- type jobs and little flexibility in the number of minimum wage jobs. So I don't think a lot of jobs would be lost because of the elimination of tasks performed by lower-paid workers. Fast-food establishments and stores are not going to make their customers wait longer. That means that employers will get the money to pay higher wages out of lower profits or higher prices, or some combination of the two.
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Additional Comments:
From Obert E. Elkins, McLean, Va.:It is a dumb idea brought forth by the Democrats. In an attempt to disarm it the Republicans have grabbed the ball and ran with it. Purely election year politics. The problem is that it is inflationary. The cost of paying the worker goes up. As a result, the cost of the product goes up. This spiral continues upward until the price on everything is increased. The result, the minimum wage earner now makes more money, but as a result of price increases has not gained any buying power. A dumb idea.
From Val Larsen, Kirksville, Mo.:
Virtually all reputable economists agree that raising the minimum wage will cost jobs. The only issue is how many. An equally important questions is whose jobs will be lost. Surely, it won't generally be the relatively well educated, middle class teenagers whose parents have through them good work habits. It will, rather, be welfare mothers, their children, and other lower class people who are the riskiest and least skilled hires. And for these hard to employ people, being kicked off of the bottom rung of the job latter will not be a temporary loss; it will do long-term damage, for what alternatives do they have if they have no opportunity to acquire basic skills? The people who want to raise the minimum wage pretend to be compassionate, pretend to care for the least advantaged among us, but in reality, they are sacrificing the least advantaged on the alter of political expediency. Their behavior is shameful!
From Darrell R. Edwards, Sr., Melbourne, Fla.:
It's time to stop the lip service on family values and do something about family values. The minimum wage should be increase to a living wage and cost of living increases should also be increased. It's time for employers to pay up. It's time [for] the taxpayers to stop subsidizing employees with food stamps and rent subsidizes.
Click here for past forums.
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