David R. Henderson  

James Kwak on Minimum Wage

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Puzzled by the border tax... The retaliation begins...

On my to-do list for the last week or so has been to write a detailed response to University of Connecticut law professor James Kwak's claim that many economists and others have misleadingly and simplistically applied basic Econ 101 analysis to conclude that an increase in the minimum wage will cost jobs.

Cato's Ryan Bourne has saved me much of the work. His response is excellent. The two corrections I would make, though, are on his points #2 and #3. He uses the term "demand" where instead he should refer to "quantity demanded." A change in demand is a shift in the demand curve. An increase in the minimum wage does not shift the demand curve; it reduces the amount of labor demanded, moving along a given demand curve.

Rather than cover the ground that Ryan Bourne has ably covered, I'll focus on a few other problems with Kwak's article.

In reproducing the argument that critics of the minimum wage make, Kwak writes:

More people want jobs at $7.25 than at $6, but companies want to hire fewer employees. The result: more unemployment. The people who are still employed are better off, because they are being paid more for the same work; their gain is exactly balanced by their employers' loss. But society as a whole is worse off, as transactions that would have benefited both buyers and suppliers of labor will not occur because of the minimum wage.

Kwak is right that many critics have made this argument, but in doing so those minimum wage opponents have been sloppy. The result is not necessarily more unemployment; it's less employment. There's a difference? Yes. The Bureau of Labor Statistics measures as unemployed people who are out of work and looking for work. But what if an unskilled worker, discouraged by his inability to find a job at the new higher minimum wage, quits looking for work? Then he is not employed, but he no longer counts as unemployed.

Also, the gain to those who keep their jobs is less certain than he says, for two reasons. First, the employer might cut their hours. Second, there's a presumption that the pre-existing arrangement between the employer and the employee reflected the employer's costs and the employee's preferences. So there was an optimal mix of wage and non-wage benefits. Raising the minimum wage will cause the employer to reduce the non-wage benefits. So, even for those who keep working and keep as many hours, the gain to them is less than it appears just by looking at the wage rate and is less than the loss to the employer.

Kwak writes:

The minimum wage has been a hobgoblin of economism since its origins. Henry Hazlitt wrote in Economics in One Lesson, "For a low wage you substitute unemployment. You do harm all around, with no comparable compensation." In Capitalism and Freedom, Milton Friedman patronizingly described the minimum wage as "about as clear a case as one can find of a measure the effects of which are precisely the opposite of those intended by the men of good will who support it." Because employers will not pay people more money than their work is worth, he continued, "insofar as minimum-wage laws have any effect at all, their effect is clearly to increase poverty." Jude Wanniski similarly concluded in The Way the World Works, "Every increase in the minimum wage induces a decline in real output and a decline in employment." On the campaign trail in 1980, Ronald Reagan said, "The minimum wage has caused more misery and unemployment than anything since the Great Depression." Think tanks including Cato, Heritage, and the Manhattan Institute have reliably attacked the minimum wage for decades, all the while emphasizing the key lesson from Economics 101: Higher wages cause employers to cut jobs.

Certainly there was some sloppiness in some of these statements. Friedman can't necessarily establish that an increase in the minimum wage increases poverty. It probably does, but a detailed analysis would have to be carried out to establish that. Kwak doesn't explain, though, why he thinks Friedman's analysis is patronizing. Patronizing of whom? Wanniski goes overboard by not making clear that he is talking ceteris paribus. Wanniski should have said that real output and employment are lower than otherwise, not that there's an absolute decline. Ronald Reagan may well have exaggerated also. l would bet that monopoly wages obtained by unions with monopoly power granted by the federal government did more harm than the minimum wage. But I don't know that.

But, more important, I want to point out a rhetorical step Kwak took that will probably go right by those who are not intimately familiar with the over eight decades of literature on the minimum wage: Kwak left out every single outspoken economist who made these same arguments and who is not either a libertarian or a conservative. These include Nobel Prize winners Paul Samuelson, Gunnar Myrdal, James Tobin, and, more recently, in his textbook, at least, Paul Krugman.

Samuelson
In his 1970 textbook about a proposal to raise the minimum wage to $2.00 an hour, Samuelson wrote, "What good does it do a black youth to know that an employer must pay him $2.00 an hour if the fact that he must be paid that amount is what keeps him from getting a job?"

Myrdal
In his classic book, The American Dilemma, Myrdal wrote:

During the 'thirties the danger of being a marginal worker became increased by social legislation intended to improve conditions on the labor market. The dilemma, as viewed from the Negro angle is this: on the one hand, Negroes constitute a disproportionately large number of the workers in the nation who work under imperfect safety rules, in unclean and unhealthy shops, for long hours, and for sweatshop wages; on the other hand, it has largely been the availability of such jobs which has given Negroes any employment at all. As exploitative working conditions are gradually being abolished, this, of course, must benefit Negro workers most, as they have been exploited most--but only if they are allowed to keep their employment. But it has mainly been their willingness to accept low labor standards which has been their protection. When government steps in to regulate labor conditions and to enforce minimum standards, it takes away nearly all that is left of the old labor monopoly in the "Negro jobs."

As low wages and sub-standard labor conditions are most prevalent in the South, this danger is mainly restricted to Negro labor in that region. When the jobs are made better, the employer becomes less eager to hire Negroes, and white workers become more eager to take the jobs from the Negroes.


James Tobin
Yale professor James Tobin wrote in 1965:
People who lack the capacity to earn a decent living need to be helped, but they will not be helped by minimum wage laws, trade union wage pressures, or other devices which seek to compel employers to pay them more than their work is worth. The more likely outcome of such regulations is that the intended beneficiaries are not employed at alL

Krugman
Ben Powell points out the following quote from Krugman's 2008 co-authored textbook:
[W]hen the minimum wage is above the equilibrium wage rate, some people who are willing to work--that is, sell labor--cannot find buyers--that is, employers--willing to give them jobs.

Kwak also misleads the reader about a survey of economists on the minimum wage. He writes:
The economists polled in the 2013 Chicago Booth study thought that increasing the minimum wage would be a good idea because its potential impact on employment would be outweighed by the benefits to people who were still able to find jobs.

A supermajority of the economists? Yes. But "the" economists? No. Moreover, take a look at the link and you can see that a disproportionately high percent of those who disagreed actually gave reasons.


Comments and Sharing






COMMENTS (9 to date)
James Hanley writes:

The economists in the poll were also agreeing that the benefits to those who remained employed outweighed the costs to those who lost or could not find unemployment. They weren't agreeing that it wouldn't (ceteris paribus) decrease the number of jobs.

David R. Henderson writes:

@James Hanley,
Really good point.

Thaomas writes:

I think James has it right. A minimum wage is not the optimal policy for transferring income to low paid workers because at best it causes some loss of employment. This puts us into the world of trade offs. How much additional income transferred to low paid workers is "worth" the harm to some other erstwhile low-income workers. Econ 101 does not help us answer that question. Econometrics 101 helps, but only to quantify the trade off.

Ideally the poll would have elicited both an estimate of the reduced employment and whether that was a price worth paying.

Maniel writes:

I believe that, since they work so hard in college, law school, to pass the bar, to find tenure-track positions, and to gain tenure, there should be a minimum wage for Law School professors. Of course, some might simplistically complain that marginal professors – I trust that Prof Kwak is not one – might suffer some job loss. But in all fairness, this is a minor issue considering the benefit to those who can clear the standard.

Russ Nelson writes:

The reasoning of the people who created the minimum wage was that it would reduce the ability of disfavored (and thus undesirable) workers to compete by offering a lower wage. This was correct (if iniquitous) reasoning as shown by the 2X unemployment rate of low-skill blacks vs similar whites in the US, and 3X Aboriginals vs whites in Australia.

"Oh, but that's just racism" replies the advocate of forced unemployment. Exactly, and it's evidence that the minimum wage is racist, because it extinguishes the advantage the non-racist employer has over the racist: their willingness to hire blacks at a market wage.

khodge writes:

Kwak presents an excellent legal argument...throw in a bunch of quasi-related assumptions, claim causality where desired, insult the experts ("economism"), and draw a conclusion the jury will accept.

My biggest problem with the minimum wage is barely touched here and usually ignored in the hypothetical: Many (most?) small businesses may be driven out of business. (It did get mentioned frequently when discussing Seattle, almost always in the context of restaurants.) This makes big government happy (it cannot deal will small) and leads to monopsony. Landsburg has raised the question of why small business is so important to conservatives. I believe the problem is not so much politicians calling for aid for small business but that out-of-control government makes small business nonviable due to regulations such as minimum wage and Dodd-Frank.

David Seltzer writes:

The real issue, as I see it, a coercive government telling private consenting parties how their labor or capital is to be allocated. Years ago I had a business. It was federally mandated I pay minimum wage of six dollars an hour. A student applied for a job and I turned him away because our margins couldn't meet the minimum wage. He said he would work for less money as something was better than nothing. I declined, explaining I could be fined for violating the law.

Fletch writes:

Some more and perhaps more serious deceptions in Kwak's "analysis" include:

1) His connection between low wages and poverty collapses on numerous fronts. He assumes minimum (or comparable) wage workers are trying to live on them (a necessary canard to equate such jobs with poverty), when such is clearly not the case. A mere 0.5% of US workers make the federal minimum (fewer than 900,000) and the bulk of these, according to the US Census Bureau, are secondary income earners (often students) or have another primary source of income (i.e, retirees). Second, contrary to the presumption in Kwak's claim, poverty is not the result of low wages but lack of employment. According to the official Poverty & Income Report, nearly two-thirds of working age individuals in poverty did not work so much as a single day in the year in which they were so designated. And the bulk of the rest worked neither for the full year nor full time. Third, the median household income for minimum wage workers exceeds $50K/yr.

The assertion: "Poverty in the midst of plenty exists because many working people simply don’t make very much money" is absurd on its face.

2) No accounting for the impact of the EITC is undertaken - which would put the federal minimum at nearly the poverty level for a family of three (as if such families were trying to live on such incomes).

3) Repeated reference to the Chicago Board is made as if it were a survey of economists. Without impugning the Board or the members o the panel, the panel was chosen expressly for a diversity of views, not as a representative sample of economists. The last most comprehensive such survey (Robert Whaples' "Do Economists Agree on Anything? Yes") shows strong opposition to minimum wage hikes with nearly half of respondents agreeing that the minimum wage should be abolished outright.

Of Nobel laureates since the award's inception who have expressed an opinion on the minimum wage, opposing views outnumber favorable ones by nearly 3:1, including the one among them to publish specifically on the topic (Stigler).

4) Another absurdity reads: "The United States currently has the lowest minimum wage, as a proportion of its average wage, of any advanced economy, contributing to today’s soaring levels of inequality." The (absurd) presumption in this claim is that workers are paid less because of a low minimum wage, but the facts tell exactly the opposite story. According to OECD data, the US has, on average, the highest paid workers in the world (okay, the tiny banking enclave of Luxembourg just passed us). And, according to Fed data, total real compensation per hour - what workers actually make adjusted for inflation - has risen steadily and substantially in every decade since statistics have been kept (yes, the "stagnation" myth has been long debunked) and has never been higher than right now. These trends have been largely unaffected by the level of the minimum wage.

5) In keeping with his apparent effort to hit every possible repeated canard, he brings up the ever present straw man that there is no correlation between unemployment (overall) and minimum wage hikes. There is, of course, substantial research showing a very real correlation between unemployment among those actually affected by minimum wage hikes and those hikes.

6) What I find most egregious is his selection of studies to mention in order to give the impression that the research is divided on the issue. Let's overlook reference to the Card & Kreuger "study" - so methodologically unsound that even they don't push it any more and the treatment of it by economists across the spectrum (Mankiw; Krugman, at least initially; Welch; etc.) were particularly unforgiving. No, the reference that I can;t stand is to the execrable Doucouliagos & Stanley paper. Neumark & Wascher have addressed many of the flaws with this paper including the presumption that failing to accept (as most economists do not) that the favored methodology of the authors is superior and that papers yielding outcomes consistent with economic theory are published more frequently indicate "publication bias", the simple fact is that even after they weighted the studies to confirm with their own biases and indicated in the abstract that there is no job loss, the actual data in their paper yields a very small but still positive correlation between minimum wage hikes and reduced employment even after their adjustments.

There's nothing new in Kwak's claims and every last one of them has already been addressed and found to be wanting.

LD Bottorff writes:

Even if we accept that a minimum wage must be implemented to counteract the effects of monopsony, is there any reason to believe that a good minimum wage in New York City or Seattle is the same as a good minimum wage in Loving County Texas or Owsley County Kentucky? Raising the minimum wage at the federal level hurts these sparsely populated areas that are already disadvantaged.

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