The Reality of Increasing Minimum Wage

June 17, 2016

 

Q.  I am hearing a lot of discussion about raising the minimum wage? What would be the results of such a change, particularly on small business?

A.   Politicians love to talk about raising the minimum wage because people perceive this to be helping those at the bottom end of the income spectrum without having to raise taxes—a win-win situation, right? Unfortunately, it’s not, because there are many unintended consequences.

When the national minimum wage is increased, more jobs will move to lower wage countries. Companies that have been able to justify leaving operations in the US with a $7.25 per hour minimum wage, will find that if they are forced to pay $12.00 per hour, they are better off to move the jobs off shore. The Americans that formerly held these jobs will be unemployed. This isn’t just companies being greedy. They may need to make this move to stay in business.

The second thing that will happen is that more jobs will be lost to automation. Companies that find they can’t afford automation at current labor rates will find that it is profitable when the minimum wage is artificially increased. More low wage earners will be unemployed. Unfortunately, both jobs moving overseas and increased automation hurts the very people that the law purports to help—those at the bottom end of the wage scale. Instead of earning $7.25 per hour, they will earn nothing.

Small business will feel a disproportionate negative impact. Large companies will be hurt less. They can afford to set up operations in low wage countries. Small companies often don’t have that luxury. Large companies can afford the capital cost of automation and can amortize the cost over large volumes.Small companies often don’t have the volume to justify automation that is profitable for large companies and even if they do, they may not have the capital required to purchase the equipment. In these cases, a rise in minimum wage will drive small companies out of business because they don’t have the resources to compete with large companies. The result will be an increased number of people out of work—the entrepreneurs who ran the now defunct companies and the low wage workers it used to employ.

Admittedly, some low wage jobs will remain. For example, people who clean hotel rooms or work in the fast food industry do not run the risk that their jobs will move to low labor cost countries. Automation could, in the long run, threaten some of these jobs, but in the short term, most of these jobs are likely to avoid elimination. People that hold such jobs are likely to benefit from a higher minimum wage, at least in the short term

Those at the bottom end of the wage scale will have more disposable income. However, if the person making $7.25 per hour is now making $12.00, the semiskilled person who used to make $9.25 per hour will expect to be raised to a couple of dollars more than the new minimum wage, say $14.00. The person previously making $13.00 will also expect a raise and on it goes. 

To pay the higher wages, companies will increase the price of their goods and services. People who think that the evil companies will pay for the wage increases by making less profit either do not understand economics or are practicing self-deceit. Inflated costs will drive prices up. The end result is that within a fairly short period of time, inflation will mean that those who are still employed at the bottom end of the wage scale will have no more purchasing power than that with which they started. Those who have lost their jobs to offshoring or automation will obviously be worse off. Raising the minimum wage will have the effect of hurting the very people it purports to help—low wage earners.

Unfortunately, you can’t legislate prosperity. For those who still question this, we ask, if a $12.00 per hour minimum wage is a good thing, wouldn’t $15.00 per hour be better, and if $15.00 per hour is better, wouldn’t $20.00 per hour be better yet? Following this logic, let’s raise the minimum wage to $50.00. That way every person who is employed 40 hours per week will make more than $100,000 per year. We’d all be rich! Wouldn’t that be great? No, unfortunately, it wouldn’t be because all of the things discussed above would happen, but at an even faster rate. 

Everyone will be far better off if we let the free market set wages. Oh, everyone that is except the politicians who can’t by votes by claiming to help people by raising the minimum wage.

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