March 25, 2013

Where burden of higher minimum wage falls

Posted in Economy, Finance, Uncategorized tagged , , at 8:58 PM by Robert Barone

In an era in which unemployment is the biggest problem facing the economy, raising the minimum wage likely is to exacerbate the issue. Economics 101, taught at every college and university in the free world, instructs us that free markets clear where demand and supply intersect. However, if artificial constraints are imposed and raise the price of the good or service, the demand for the good or service (in this case, labor) falls.
 
Consequences of fixing prices
 
Labor, capital and raw materials are inputs in the productive process. To an employer, especially a business that employs low-skilled labor, raising the minimum wage is like adding a tax to an input, just as if the raw materials were taxed. What if the government passed a law that said the minimum price of a gallon of gasoline is $5.75, i.e., $1.75 higher than the existing $4 a gallon? There certainly would be people who would not be impacted (the 1 percent), but for most, the higher price significantly would impact discretionary spending and economic growth would be negatively affected, as most consumers would cut back on auto travel. Just as the tax on gasoline would impact the demand for it, so, too, raising the minimum wage significantly would impact those businesses that rely on low-skilled labor.
 
How about $100 an hour?
 
If it is really beneficial to raise the minimum wage from $7.25 to $9 an hour, why stop there? Why not raise it to $100 an hour? “Absurd,” you say. Of course, such an idea is absurd. Much of the employed population would be laid off as employers couldn’t afford to keep employees whose hourly production doesn’t yield a margin before wages and benefits of $100. So, why is this different from $9 an hour? For one, most folks already earn more than $9 an hour. So, massive layoffs won’t occur. But, there are some employers who either will lay off the low-wage worker or simply will not hire if those workers produce less than the required $9 an hour margin needed by the business. While the impact of the $9 an hour minimum wage won’t be as obvious as the leap to a minimum of $100 an hour, there still is an impact.
 
Negative consequences of past minimum wage jumps
 
Those who get a $1.75 an hour raise, from the current $7.25 to $9 an hour, clearly benefit. But, the least educated and least skilled likely are victims. Who are these? Generally, teens. According to a Feb. 15 Wall Street Journal editorial titled “The Minority Youth Unemployment Act,” 85 percent of the academic studies find negative consequences on low-skilled workers — usually teenagers — from mandated minimum wage increases. The studies include a recent one by William Dunkelberg, chief economist for the National Federation of Independent Businesses. Dunkelberg found that 600,000 teen jobs disappeared in the six months following the July 2009 minimum wage increase (to $7.25 an hour), a period in which the gross domestic product was rising. In the previous six months, when the GDP rapidly was contracting, Dunkelberg said that only half that many teen jobs disappeared.
 
Redistribution within low-skilled ranks
 
It is clear that those keeping their minimum wage jobs benefit from the higher wage rate, but it also means that those who would have gotten jobs at the lower wage rate remain unemployed. This, in effect, is a redistribution of income within the segment of the labor force having the lowest level of skills and education, and it puts the burden of the higher wages earned by those keeping minimum wage jobs directly on those who cannot now find employment at the higher minimum wage. In economic jargon: Those making the incremental difference in the minimum wage are being subsidized by those who cannot find employment at these higher-wage levels but would be able to do so at the lower-wage level. This is similar to a union that refuses to accept lower wages and benefits in hard economic times, forcing layoffs of union employees. The burden is felt entirely by those who are laid off instead of it being spread among all.
 
Manipulation of populist sentiment
 
Those, of course, who do benefit think this is a good idea. Those who can’t find jobs simply aren’t aware that it is the rise in the minimum wage rate that is the issue, as there generally is no direct and recognized measurement of this phenomenon. As a result, populist sentiment could very well think this is a good idea. But, from the standpoint of trying to reduce the unemployment rate, especially for teens, this is a bad idea. For the past 150 years, students have learned this in Economics 101. But, for at least the last half of that 150-year period, sound economic theory has been ignored by policymakers and legislators.
 
Implications for investors
 
In the end, raising the cost of labor, albeit at the low end, will, like all taxes, fees, rules and regulations on businesses, especially small businesses and those relying on low-skilled labor, reduce output and constrain economic growth at a time the economy can ill afford it.
 
Robert Barone (Ph.D., economics, Georgetown University) is a principal of Universal Value Advisors, Reno, a registered investment adviser. Barone is a former director of the Federal Home Loan Bank of San Francisco and is currently a director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Co., where he chairs the investment committee. Barone or the professionals at UVA (Joshua Barone, Andrea Knapp, Matt Marcewicz and Marvin Grulli) are available to discuss client investment needs. Call them at 775-284-7778.

Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.
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