The 4 Ways to Judge Minimum Wage Laws

At least 26 states have passed minimum wage laws in the past decade.

Minimum wage legislation is exploding. What began in 1938 as a modest federal requirement of 25 cents an hour has recently become a major area of policy innovation, with states and cities vying with each other to impose hefty increases. In just the past decade, 26 states have enacted increases in minimum wage requirements. The Democratic Party, in its 2016 platform, called for raising the national minimum wage to $15, and seems headed in the same direction this year.

Four Levels to Judge Effects

In addition to being widely-enacted, the general public plays an unusually large direct role in deciding this policy. In the past decade, there have been 58 minimum wage ballot initiatives, 12 at the state level and 46 at the local level.

Yet in spite of the many new proposals, and despite the widespread voter involvement, there is surprisingly little analysis of this issue aimed at the general public. This neglect might be understandable if minimum wage were a no-brainer, an obvious policy where even a child knows what’s right. But it’s not. It’s a difficult issue with many implications. If lawmakers and voters hope to make the world a better place by their decisions in this area, they need to do some hard thinking.

There are at least four levels on which the effects of minimum wage legislation need to be analyzed.

1. Immediate Effects

When employers are required by law to pay a higher wage, some workers in some workplaces will receive this higher wage. If you assume that these workers deserve this higher wage and will be made happier by it, then the legislation is helpful. This is the good intentions level of the policy.

2. Demand Effects

When you arbitrarily raise the price of something, you reduce the demand for it. This is elementary supply and demand theory. For example, suppose a grocery manager in a market has set a price of $1.00 a pound on tomatoes that are turning overripe. A well-intentioned legislator feels sorry for these tomatoes and arbitrarily raises their price to $1.50 a pound. The result will be that customers buy fewer these of these tomatoes, and more will end up rotting in the bin.

The same thing happens with marginal labor, including workers who are physically or mentally impaired, or young and inexperienced. If you arbitrarily raise the price that must be paid for this labor, less of it will be purchased. Employers adjust by substituting labor-saving machinery, by hiring fewer but more productive employees, or by closing the business altogether. What started out as a good intention ends up hurting many of the very workers one feels sorry for, pushing them into unemployment.

3. Price Effects

To the extent that a minimum wage law does put more money in the hands of some workers, this money has to come from somewhere. At first glance, it might seem that employers will pay this extra out of their own pockets. The problem with this expectation is that in all economic arrangements there is a great deal of cost-shifting going on. Businesses adjust to increased costs by increasing prices. The restaurant that charged $5.00 for a hamburger will raise the price to $5.50 to cover the higher wages being paid.

As a result of this cost-shifting, the burden of paying for an increase in the minimum wage falls on everyone, including the low-wage workers one hopes to help—and on non-working poor we didn’t even stop to think about.

4. Social Effects

From a distance, a job may seem a mere transfer of money, but in practice it involves many social and psychological benefits. A recovering drug addict may need a temporary job as therapy, a teenager may need employment to develop responsibility and self-confidence, a senior may need informal work to gain companionship. For these workers, the benefits of a job lie beyond the money being paid. Forcing an employer to pay a higher wage can destroy such arrangements, eliminating the social benefits connected with them. In one case I’ve learned about, a program that had patients of a mental hospital doing gardening and beautification work on hospital grounds was closed down by state regulators because it violated minimum wage requirements.

Before they vote to impose a higher minimum wage, lawmakers—and voters—need to consider the full complexity of the employment situation. They need to ask themselves, "Can I wisely dictate wage levels in thousands of workplaces I know nothing about?"