Minimum Wage: A Tail of Two Cities

By Coons, James W. | ABA Banking Journal, June 1996 | Go to article overview

Minimum Wage: A Tail of Two Cities


Coons, James W., ABA Banking Journal


George Stigler, the University of Chicago economist, told the story of a farmer in Indiana, Pa., who thought sick pigs tended to have straight tails. He tried curing them by chopping off the appendages. The growing support in Washington, D.C. for raising the minimum wage would apply the same medicine to low-paying jobs. Outlawing low wages addresses a symptom of low pay, but not the cause.

Economic theory says that price controls cause either shortages or surpluses by preventing prices from moving to levels that align demand with supply. At an artificially high price, for example, sellers supply more than buyers demand, creating an unwanted surplus.

Wages are the price of labor, and a legal minimum wage is a price control. The minimum wage, as a price control, creates a surplus of labor in the form of unemployed workers.

Minimum wage advocates argue that effects depend on the proximity of the minimum to the prevailing wage structure. At only 36% of the average hourly wage of private sector workers, the current minimum is the lowest in the post-war period, except before the last two-step increase on April 1, 1990 and April 1, 1991. An increase might seem harmless, but the chart illustrates the last increase turned out to be a cruel joke for low-skilled teenage workers. If the minimum is raised high enough to positively affect wage levels, it will negatively affect the demand for labor.

* * *

Support in Washington for raising the minimum from $4.25 per hour to as high as $5.25 springs from the desire that all workers receive a "livable wage." But if $4.25 is too little, $5.25 is surely not enough. Even full-time work at $7.25 per hour does not lift a family of four out of poverty. Why not $15.25 or $55.25?

The response by thoughtful proponents of the minimum wage is that the demand for labor would shrink at high wage levels, but is insensitive to wage increases at low levels. In other words, the law of supply and demand does apply to labor, but for some reason malfunctions for low-skill jobs. Although a plausible hypothesis, supporting evidence is slim and shaky.

A handful of studies purport to uncover neutral or positive effects on employment from past increases in the legal minimum. This research rests at the fringe of a body of literature that overwhelmingly reaches the opposite conclusion. Among the new studies' shortcomings are data too flawed to analyze, time spans too short to observe effects, and results too weak to support conclusions. In an attempt to fill the void, I conducted my own unscientific survey of travel and entertainment workers.

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Minimum Wage: A Tail of Two Cities
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