Minimum Wage

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The Minimum-Wage Controversy

The minimum wage sets a minimum on what employers are allowed to pay workers. In the United States, the federal minimum wage began in 1938 when the government required that covered workers in covered industries be paid at least 25 cents an hour. At that time, the minimum wage was about 40 percent of the average manufacturing wage. The minimum wage was raised occasionally, and by 1996 it had reached $4.25 per hour, which was only 33 percent of the average manufacturing wage rate. Because the minimum wage had declined relative to average earnings, President Clinton proposed and Congress passed a minimum-wage increase to $5.15 per hour in 1997.

This is an issue that divides even the most eminent economists. For example, Nobel laureate Gary Becker stated flatly, “Hike the minimum wage, and you put people out of work.” Another group of Nobel Prize winners countered, “We believe that the federal minimum wage can be increased by a moderate amount without significantly jeopardizing employment opportunities.” Yet another leading economist, Alan Blinder of Princeton and former economic adviser to President Clinton, wrote as follows:

“The folks who earn the lowest wages have been suffering for years. They need all the help they can get, and they need it in a hurry. About 40 percent of all minimum-wage employees are the sole wage earner in their households, and about two-thirds of the teenagers earning the minimum wage live in households with below-average incomes. Frankly, I do not know whether a modest minimum-wage increase would decrease employment or not. If it does, the effect will likely be very small.”(New York Times, May 23, 1996)

How can nonspecialists sort through the issues when the experts are so divided? How can we resolve these apparently contradictory statements? To begin with, we should recognize that statements on the desirability of raising the minimum wage contain personal value judgments. Such statements might be informed by the best positive economics and still make different recommendations on important policy issues.

A cool-headed analysis indicates that the minimum-wage debate centers primarily on issues of interpretation rather than fundamental disagreements on empirical findings. Begin by looking at the graph below, which depicts the market for unskilled workers. The graph shows how a minimum wage rate sets a floor for most jobs. As the minimum wage rises above the market-clearing equilibrium at M, the total number of jobs demanded is shown as U. This represents the amount of unemployment.

Using Supply and Demand, we see there is likely to be a rise in unemployment and a decrease in employment of low-skilled workers. But how large will these magnitudes be? And what will be the impact on the wage income of low-income workers? On these questions, we can look at the empirical evidence.

Unskilled Labor

Setting the minimum-wage floor at Wmin, high above the free-market equilibrium rate at Wmarket, results in forced equilibrium at E. Employment is reduced, as the arrows show, from M to E. Additionally, unemployment is U, which is the difference between labor supplied at LF and employment at E. If the demand curve is inelastic, increasing the minimum wage will increase the income of low-wage workers. To see this, pencil in the rectangle of total wages before and after the minimum-wage increase.

Most studies indicate that a 10 percent increase in the minimum wage would reduce employment of teenagers by between 1 and 3 percent. The impact on adult employment is even smaller. Some recent studies put the employment effects very close to zero, and one set of studies suggests that employment might even increase. So a careful reading of the quotations from the eminent economists indicates that some economists consider small to be “insignificant” while others emphasize the existence of at least some job losses. Our example in the graph shows a case where the...
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