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Minimum Wage is a Maximum Fallacy
Sacramento distortions…
[by Anthony P. Archie] 12/22/05

With the California State of the State Address just weeks away, Capitol whisperers have divulged that a minimum wage increase will be included in Governor Schwarzenegger’s 2006 agenda, and that a preliminary proposal has tentative backing from the leadership of both parties. This is unfortunate news for working Californians because the minimum wage negatively distorts labor markets.

The most well known distortion is the higher unemployment that results from minimum-wage laws. Setting the minimum wage above the level where employers and employees would have mutually agreed on labor services forces employers to cut back on the number of hires. This has been empirically documented in a half-century’s worth of economic research, most notably in studies on the fast-food industry. Beyond unemployment, the labor market is distorted in other, more indirect ways.

Anthony P. Archie

Anthony P. Archie is a public policy fellow in Business and Economic Studies. Prior to joining Pacific Research Institute, Anthony earned his masters degree in public policy from Pepperdine University, specializing in economics and regional/local policy. As part of his graduate work, he co-authored Crisis in California: Reforming Workers’ Compensation, a proposal that drew praise from an esteemed panel of scholars and policy advisors. Mr. Archie has held internships on Capitol Hill and in the State Assembly. He received his B.A. in economics and political science from Pepperdine University. [Archie index]

Wages are more than simple paychecks. They tell us information about worker productivity. As workers get older, they learn skills that are valuable to employers. As such, older workers are usually paid more than younger workers who have not yet developed these skills. With a minimum-wage law, younger workers, especially teenagers, are hindered from developing these skill sets because employers are less willing to pay more to train younger workers. Employers would much rather retain the older workers.

Minimum-wage laws prevent a low-skilled employee from working at the best possible job she or he could find. Faced with the specter of unemployment, many lower skilled workers will resort to “under the table” employment at lower wages, or even engage in illegal activities such as drug dealing, prostitution, or property crimes.

Minimum-wage laws also create an incentive for gender and racial discrimination in the workplace. Because the higher wages do not reflect the employees’ real worth, the employer must determine who is more “worthy” to receive the higher rate. Employers may prefer one group over another based upon preconceived assumptions.

The minimum wage also negatively affects employers’ investment decisions, which in turn influences worker productivity. With inflated wages for workers, employers in labor-intensive industries may have to cut back on non-labor expenses, including facility and technology upgrades as well as the everyday goods and services businesses need to stay afloat. Because such investment usually results in higher worker productivity, a reduction due to a minimum-wage hike equates to lesser long-term productivity gains. Naturally, this inefficiency will occur throughout the entire state, slowing GDP and employment growth.

It should be noted that there is one sector of the labor pool that gains from minimum wage laws: union members. This is not because they receive the direct wage increase—union members usually make much more than minimum wage—but through a reduction in labor competition. Because minimum wage laws make low-skilled workers more expensive, the price of union labor becomes less expensive in comparison, giving union members a competitive advantage in the workplace. Not surprisingly, unions actively support most minimum wage increases.

If the talk around Sacramento is true, then the minimum-wage fallacy continues in California. Despite the ill effects of minimum-wage laws, politicians from both parties still pander to those who believe the laws help the poor. If politicians really want to help the poor they should implement the most logical and practical arrangement: free the labor market to match willing employers and employees. CRO

copyright 2005 Pacific Research Institute




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