Calif. minimum wage law disregards mainstream economics

With the stoke of a pen, California’s governor Jerry Brown turned the nation’s most populous state into an economic lab rat last week when he signed legislation that would gradually raise the state’s minimum wage to $15 an hour by 2022.

Despite increasing calls for a “living wage” nationwide, California is the first state to implement such an unprecedented increase. For the sake of the economy and the working poor, let’s hope it’s the last.

Campaigns to increase the minimum wage argue that a $15 wage is needed to ensure that the working poor have enough money to take care of their families and pay expenses, a laudable goal. After all, it’s pretty darn hard to care for a family earning the federal minimum of $7.25 an hour.

Unfortunately there is wide agreement among labor economists that such a “living wage” is a blunt and infective tool, if your goal is to lift families out of poverty. Furthermore, evidence suggests that such an unprecedented increase has the potential to negatively affect California’s economy and hurt some of the very workers it is purportedly designed to help.

A higher minimum wage will cost Californians their jobs

At first glance, the idea of paying everyone at least $15 an hour seems like an attractive way to solve the problem of stagnant wages.

Basic textbook labor economics, however, suggests that the numbers just don’t add up.

A principle of labor economics is that a company will hire an additional worker, if his work is able to increase the business’s revenue by an amount equal to or greater than his wage.

Think of it this way: If you own a shop that sells delicious specialty cupcakes that run out after only two hours each morning, you’ll likely consider hiring a couple more bakers to increase your output and make more money. If you add too fewer workers and cannot make enough cupcakes, you leave demand for your product unfilled. Hire too many workers, and you end up with employees crowding your kitchen and adding little extra output.

When you discover you have too many workers, you’ll want to either find additional work for those surplus employees or lay them off. Why? Because any worker who is costing your business more money than the value they produce is hurting your competitiveness.

If you were forced to increase your workers’ pay from $10 an hour to $15 suddenly, it costs you a lot more to make each individual cupcake. If you want your business to be viable, you must either reduce the cost that it takes to produce each cupcake by laying-off less productive workers and automating production or by raising prices.

Thousands of Californian businesses will soon face this depressing choice. A higher minimum wage might be good for some workers who see their pay increase, but for their coworkers who get laid off, it greatly harms them. It also increases prices for all consumers.

Among economists there is little debate that a $15 minimum wage would cost many workers their jobs. A University of Chicago poll last September showed about two-thirds of leading economists either agreed or were uncertain when asked if a federal minimum wage of $15 by 2020 would “substantially” reduce the employment rate. Only 2 percent of the economists surveyed felt that a $15 minimum wage would actually grow the economy and increase output.

Even Governor Jerry Brown admitted when signing the bill that the legislation flew in the face of economic analysis.

“Economically, minimum wages may not make sense,” Brown said. “But morally, socially and politically they make every sense because it binds the community together to make sure parents can take care of their kids.”

There are better ways to help poor families

Brown’s defense of a higher minimum wage as the best way to help poor families also does not stand up to scrutiny.

Mark J. Perry is a professor and the University of Michigan and scholar at the American Enterprise Institute calls the idea that there are many families struggling by earning only minimum wage “more myth than fact.” Perry points out that in 2011 more than 98.3 percent of full time adult workers earned more than the federal minimum wage of $7.25 an hour.

According to Perry, employers as a whole generally pay people minimum wage to employees who have not yet developed the skills necessary to make them productive enough to demand higher pay.

“The real issue is that there are many unskilled workers who desperately need that first job that allows them to acquire the skills and experience that leads to higher wages,” Perry said. “But the minimum wage law prices many of those unskilled workers out of the labor market (especially minority populations), and they are denied the employment opportunities they desperately need.”

If Gov. Brown wants to help people out of poverty, there are more effective solutions, like increasing the earned income tax credit to give low wage families more income without costing jobs and hurting the broader economy.