Friday Reads: Life’s Labor Lost
Posted: February 15, 2013 Filed under: Economy, morning reads, unemployment | Tags: EITC, minimum wage, SOTU, unemployment 61 Comments
Good Morning!
I think I’ve mentioned that I’m not a labor economist. I’m a financial economist. However, it’s hard to get through any econ program with out learning something about the labor markets given that it’s one of the most basic of all markets. I wanted to talk about the increased minimum wage proposal in the President’s SOTU address.
You’ll probably hear quite a bit about how minimum wages create unemployment. This is true under specific conditions. The minimum wage must be below the going wage or what we call the equilibrium or clearing wage so that it is ‘binding’ or actually creating an excess supply of job seekers for that wage and less jobs than would be available at the clearing wage. You can look at the graph of the US below and see that in many states, the proposed Obama increase to the minimum wage is lower than the going wage in many states. The poorest states–mostly in the south and middle of the country–are the ones with the lower wages.
However, the basic 101 econ labor market conditions, assumptions and model are very simplistic. All of these things impact the outcome and can determine if the minimum wage increase creates any excess workers. Labor economists that look at the real world have found some additional things about minimum wages that suggest that minimum wage can benefit the economy at large and unemployment at large. They can also help create efficiencies in unexpected places, which is always good for markets.
I’m going to try to give you some background from the popular press, scholarly articles, and a conservative magazine where economists explain why increasing the minimum wage can be good for the economy. Actually, there’s so much good rationale that even Walmart lobbies congress for increases. That probably will surprise you, but it’s pretty simple. Minimum wage workers are Walmart shoppers. Giving them more income turns them into customers. They don’t have any leftover money so they basically spend all they get. This is good for Walmart. This isn’t true for richer folks. They tend to sit on their money and it goes to places that can take time to work through our economy if it actually goes to our economy and not some place else entirely.
So, let me first start with a New Yorker article called “The Case for a Higher Minimum Wage”. This is, of course, not the scholarly arguments. However, there’s some good background information in the article to get us situated with the stylized facts. Unlike House Republicans and Joe Scarborough, people that actually want to know abut things rather than opine through their bungholes love them some stylized facts.
While the labor economists and econometricians are still arguing about which of their many studies can be relied upon, there are quite a few things about minimum wages, and their impact on the economy, that we know for sure. Taken together, these things amply justify raising the minimum wage, as President Obama called for in his State of the Union address.
The first statement we can make without fear of contradiction is that, at $7.25 an hour, the current minimum wage is pretty low. In nominal dollars, it’s gone up quite a bit over the past twenty-five years. In 1978, it was $2.65; in 1991, it was $4.25. But these figures don’t take into account rising prices, which eat away at purchasing power. After adjusting for inflation, the minimum wage is about $3.30 less than it was in 1968. Back then—forty-five years ago—the minimum wage was $10.56 an hour, according to a very useful chart from CNNMoney.
We also know that the U.S. minimum wage is low compared to its counterparts in other advanced countries. In France and Ireland, for example, the minimum remuneration level is more than eleven dollars an hour. Even in Great Britain, which is usually regarded as a country with a flexible, U.S.-style labor market, it is close to ten dollars an hour. Another informative chart, this one from Business Insider, shows that the U.S. minimum wage is comparable to ones in places like Greece, Spain, and Slovenia—countries where G.D.P. per capita and labor productivity are markedly lower than here in the United States. We have an advanced economy but a middle-level minimum wage.
A second important and (largely) undisputed finding is that there is no obvious link between the minimum wage and the
unemployment rate. During the nineteen sixties, when the minimum wage was raised sharply, unemployment rates were sharply lower than they were in the nineteen eighties, when the real value of the minimum wage fell dramatically. If you look across the states, some of which set a minimum wage above the federal minimum, you can’t see any sign of higher rates leading to higher unemployment. In Nevada, where the national minimum of $7.25 an hour applies, the jobless rate is 10.2 per cent. In Vermont, where the minimum wage is $8.60 an hour, the unemployment rate is 5.1 per cent. What these figures tell us is that other factors, such as the overall state of the economy and how local industries are doing, matter a lot more for employment than the level of the minimum wage does.
There are, in fact, many things that impact how the level of the minimum wage will impact an economy. Some economists have found that a “properly functioning minimum wage” can actually improve labor flows in a market. Lee & Saez (2010) show under which conditions this can happen. This link goes to a theoretical paper so if calculus is not you’re thing, you may want to take my word for it. I’m going to show you the technical result as well as the authors’ story that is much more intuitive so you get an idea of how economists look at these things. This is from the paper’s introduction and conclusion which are the parts without the calculus!!
We show that a binding minimum wage is desirable as long as the government values redistribution from high-to low-wage workers, the demand elasticity of low-skilled labor is finite, the supply elasticity of low-skilled labor is positive, and most importantly, that the unemployment induced by the minimum wage is efficient, i.e. unemployment hits workers with the lowest surplus first. The intuition is extremely simple: starting from the competitive equilibrium, a small binding minimum wage has a first order effect on distribution but only a second order effect on efficiency as only marginal workers initially lose their job.
This is from the employer’s view point. It basically says they let go of their worst employees first so they really don’t lose much. Also, it implies it’s probably not a large number that are released. The problem is that this doesn’t really look at the increased number of people that might enter the work force to get at the higher wage. This is part of the excess worker phenomenon as people that wouldn’t be in the market for the lower wage will enter the market if the wage is higher. Therefore, more people will be looking for jobs than there will be jobs available. However, this isn’t as big of a problem as job losers for society as a general rule. It just makes the numbers appear worse.
The second part of the paper considers the more realistic case where the government also uses taxes and transfers for redistribution. In our model, we abstract from the hours of work decision and focus only on the job choice and work participation decisions. Such a model can capture both participation decisions (the extensive margin) as well as decisions whereby individuals can choose higher paying occupations by exerting more effort (the intensive margin). In that context, the government observes only earnings, but not the utility work costs incurred by individuals.1
In such a model, we show that a minimum wage is desirable if unemployment induced by the minimum wage is efficient and the government values redistribution toward low-skilled workers. The intuition for this result is the following. A binding minimum wage enhances the effectiveness of transfers to low-skilled workers as it prevents low-skilled wages from falling through incidence e ffects. Theoretically, the minimum wage under efficient rationing sorts individuals into employment and unemployment based on their unobservable cost of work. Thus, the minimum wage partially reveals costs of work in a way that the tax system cannot.
This is an interesting result since it basically says that it’s a more efficient way of giving poorer folks incomes by keeping the most efficient ones in the labor force instead of being unemployed and relying on government programs. Their model argues that a minimum wage efficiently rations ‘out of work’ benefits. So, in this case, yes it creates some unemployment, but generally this means the workers who are the most ‘deserving’ of the job stay in the job and those that aren’t can fall into the safety net and be retrained or schooled to improve their prospects.
One of the primary results of a paper by Dube et al (2o12) is estimating the decrease of what we call “churning” or what you probably know as job-hopping. This behavior costs employers a lot of money since the initial employment and training periods can be expensive for even the lowest wager earners. Reducing churning means less of these expenses overall and basically coverage of the increased wage. So, in this case, the minimum wage makes the employer think about the total wage bill and not just the portion related to hourly work.
Here’s one of the more interesting set of arguments from the conservative point of view. This is the idea that by providing a good working wage at the bottom wage earners, you stop the problem of a potential ‘college graduate’ bubble. Since the majority of jobs in this country still don’t require a college degree, people will be more likely to work jobs and not over-educate themselves. The author also argues that the kinds of jobs that tend to be minimum wage jobs are not out-sourceable so improving the lot of these folks improves a lot more than just the people in the jobs. Minimum wage jobs tend to be service jobs and the benefits of the incomes and the jobs themselves will stay in the country regardless of the higher wage. We again see the argument that most economists make about ‘trickle-up’ economics. Giving more income to the lowest wage earners actually creates a stimulus because they spend their money and there are a lot of them.
Although the direct financial benefits to working-class Americans and our economy as a whole are the primary justifications for the proposal, there are a number of subsidiary benefits as well, ranging across both economic and non-economic areas.
First, the net dollar transfers through the labor market in this proposal would generally be from higher to lower income strata, and lower-income individuals tend to pay a much larger fraction of their income in payroll and sales taxes. Thus, a large boost in working-class wages would obviously have a very positive impact on the financial health of Social Security, Medicare and other government programs funded directly from the paycheck. Meanwhile, increased sales tax collections would improve the dismal fiscal picture for state and local governments, and the public school systems they finance.
A final argument for using a minimum wage is that even though it tends to be less efficient and more costly than just supplementing the incomes of low income earners, it tends to be politically easier to get an increase through congress than a subsidy.
Does raising it improve the plight of the worst off, at a reasonable price?
A lot depends on your definitions, but economist Adam Ozimek makes a smart point. According to a 2007 study by the CBO, an increase in the minimum wage to $7.25, like that eventually passed that year, would increase wages by $11 billion, of which $1.6 billion went to poor families.
By contrast, increasing the Earned Income Tax Credit for large families (as happened in the stimulus bill) and for single people would cost $2.4 billion, of which $1.4 billion would go to poor families. The EITC option costs one fifth as much to society but does about as much good for poor families. That suggests that if you want to help families escape poverty, wage subsidies are a more cost-effective option than the minimum wage.
Oddly enough, the conservatives are less interested in the net savings, than the process of doing this, so they prefer minimum wage increases to the EITC option. This means Boehner should be happier than he is with this proposal.
Furthermore, as large portions of the working-poor became much less poor, the payout of the existing Federal Earned Income Tax Credit (EITC) would be sharply reduced. Although popular among politicians, the EITC is a classic example of economic special interests privatizing profits while socializing costs: employers receive the full benefits of their low-wage workforce while a substantial fraction of the wage expense is pushed onto the taxpayers. Private companies should fund their own payrolls rather than rely upon substantial government subsidies, which produce major distortions in market signals.
So, I hopefully didn’t overwhelm you with too much stuff over coffee, but I would like to remind you that this is basically the mornings read post. So, since I’ve run out of space, it’s now your turn to share the other things. Oh, and it’s okay to ask questions or tell me that something confuses you. I’m assuming you’re not a labor economist either. Again, there’s a lot of controversy and a lot of different circumstances and assumptions around all these models. But, it should let you know that increasing the minimum wage can be good policy for a variety of reasons even though it might impact the number of people looking for or working at those jobs.
What’s on your reading and blogging list today?
peej
Carissa
ecocatwoman
grayslady
mablue2
JJ Lopez aka Minkoff Minx
NW Luna
peggysue22
quixote
skydancingguestblogger
Mona (aka Wonk the Vote)
Sky Dancing 
Meteorite explosion over Russia, in pictures.
Amazing video of meteorite–500 people injured.
The academy says the meteor weighed 10 tons and entered the earth’s atmosphere at a speed of at least 33,000mph (54,000kph) and shattered between 18 and 32 miles above ground (30 to 50km).
Josh had some youtube videos of this thing over at TPM last night. Dodged a bullet when it exploded before striking.
I watched a lot of the videos. Huge blast sound and it shattered windows. I’d still be drinking vodka if I were in one of those buildings. Scary thing,
Wow, that wasn’t a small deal coming at them.
The Atlantic: Wow, the Russian Meteor Was the Biggest in a Century
I’m not surprised. The video actually looked a lot like the descriptions of Tunguska. The one exploded before striking too. Of course in those days there weren’t any
Photo of crater at weather.com–and other photos
Amazing images from Russia, that is one hell of a bright light.
I’ve got to get three girls ready for a valentines dance, comics will be late tonight.
Very interesting post, Dak. Sorry for the OT stuff–I’m just fascinated by meteors and meteorites.
Conservatives are so weird. They don’t mind at all handing over trillions of dollars to rich people and banks, but when it comes to supplementing the incomes of poor working people with the earned income credit or by some other means, they get all morally outraged. They also don’t mind being handed money by lobbyists so they’ll support certain legislation–which to me is basically a bribe.
Thanks for explaining this. Now I’ll be prepared when I hear the fact-free, science-free arguments by wingnuts who would rather have people starve in the streets than let them earn a living wage.
I expected it to be one of those posts where no one knows what to say … i guess the bottom line is that unemployment comes when businesses don’t have customers which means people that buy stuff don’t have incomes/decent jobs …
The calculus may be rocket science but the intuition isn’t at all ..
So government policy needs to focus on getting people back to work at decent jobs even if it has to provide them doing things government does like building good roads, bridges, and power grids and sources.
I’m sorry the Republicans are so greedy they never seem to understand that, but there it is …
Dak, it is so funny you should say this:
My husband was just saying to me this week, “…for walmart employees, valentines day is the 15th.”
In other words, walmart employees need to wait until the day after the “holiday” to get the items on sale. It is that way for most holidays, like Easter and Halloween and any other gift or card giving day.
Pathetic isn’t it?
For comparison, in Australia the minimum wage is US $16.50/hour plus full benefits for every employee, full or part time. They have done quite well through everything so far, so it seems it doesn’t hurt employers there.
More evidence of our third-world-country status.
If the republicans don’t want people on safety net programs then they should quit putting people out of work.
Congressman’s Wayward Tweets Reveal Daughter, Not Lover
Reporters went looking for sleaze and found something kinda nice instead. Refreshing for a change.
I liked that. I’d kind of like to know more about the backstory, but I can understand why he wants to keep it private.
Weigel: The Many Chuck Hagel Vote Positions of John McCain
So Ted Cruz is now the intellectual leader of the Republicans? Somehow I don’t doubt it because there’s a joke here that Cornyn is following him so closely that Cruz is the only Senator with 2 votes.
Like Paul Ryan is the intellectual leader of the House Republicans? Just just plain embarrassing.
BTW, the entire attack on Iraq was the worst blunder since the Vietnam war, not just the surge.
Actually Hagel explained that when he said the worst blunder since Vietnam, he meant the whole Iraq war not just the surge 🙂
McCain has seriously lost it. The bitterness bile has finally replaced all the gray matter.
I think that thing in his cheek is eating his brain.
LOL, BB!!!
That thing in his cheek has driven me crazy for years!
I’m no expert, but I think McCain might have some sort of dementia. He’s hostile and combative, he changes his position on issues over and over again and at the drop of a hat. He seems to be running scared. Someone on Hardball said this afternoon that the real test for McCain’s will be when his amigo, Lady Lindsey, gets challenged by the TP in 2014.
Charlie Pierce takes down Bill Hemmer for making fun of a 102-year-old woman who had to wait all day to vote–and Jake Tapper for defending Fox.
Earlier he skewered one of my least favorite Villagers, Chris Cillizza.
Cillizza is a lazy thinker and he’s full of himself any more.
Btw, get on twitter … two of the villagers are having a cat fight … it’s funny… Nate Silver and Ken Vogel. They’re calling each other names even.
Ken Vogel must be in a really bad mood. I just posted a link to his battle with Nate Silver down below.
oh, good, some one wrote about it … I mentioned it above. I was having a good laugh about that earlier this morning.
Ken just doesn’t like the fact every one thinks he writes for “Tiger Beat on the Ptomac” but they just call it Politico
Weird. I misread your comment. I thought you had written that Vogel was fighting with Andrew Sullivan, so I thought it was a different Twitter battle. I must need a nap.
I did put sully the first time out … I corrected it after I realized I made a mistake … it was me not you!!!
Really? Well that’s a relief. I thought I was hallucinating!
Asteroid DA14 flyby at 1:25 PM Central
http://www.thefiscaltimes.com/Columns/2013/02/15/The-Minimum-Wage-A-No-Lose-Issue-for-Democrats.aspx#page1
Atlantic Wire reports on hilarious Twitter battle between Nate Silver and Politico morons.
http://www.addictinginfo.org/2013/02/14/pope-allegedly-sought-immunity-for-abuse-crimes-just-before-resigning/
for some reason this all reminds me of Reagan, his altzheimer’s and the Iran Contra scandal that should’ve led to his impeachment
http://itccs.org/
I wondered if there was a bombshell coming. Unfortunately, he’ll probably still get off scott free.
Pierce has a good piece on it too. In fact, Pierce is on fire today.
Charlie must have been saving up 🙂
If the minimum wage increases kept up with growth and inflation, the whole country would be better off. Good post Dak!
The speech Reeva never gave
It was a speech to high schoolers about how she had overcome growing up poor and had escaped an abusive relationship. But Oscar Pistorius shot her four times through the locked bathroom door before she could give the talk. He claimed he thought she was a burglar! Liar!
Joe Scarbourough misinterprets people so he can try to claim he’s right
http://www.politico.com/story/2013/02/paul-krugman-economics-deny-deny-deny-87722.html
I couldn’t help myself.
Good for you!!
Almost every other comment to that story also ate Joe’s lunch. He’s losing his own readers.
He’s being a complete idiot about this. It’s downright obsessive now.
Scarborough:
Scarborough calls Krugman “outside the mainstream.” I really don’t think the Nobel committee is in the habit of voting for bizarre crackpot theorists. They’re not mavericks, IMO. I guess I could be wrong….
ditto – it is pathetic
Excellent rant on the sequester and Obama’s responsibility for it.
Dak– This is related to your post: Wal-Mart Executives Sweat Slow February Start in E-Mails
http://www.bloomberg.com/news/2013-02-15/wal-mart-executives-sweat-slow-february-start-in-e-mails.html
Exactly. The economy is dependent on the vast majority of people in the country having good take home pay. The richest of the rich have been getting richer and it’s not trickled down on anything. Economists were warning that that payroll-tax increase was going to slow things down again because it hit the spenders and not the real takers.
One more time that’s just common sense, which no one inside the Beltway seems to have.
Huckleberry Closetcase keeps finding more nominees to block. He’s so desperate I’m starting to think someone is about to out him or something.
http://thehill.com/blogs/defcon-hill/policy-and-strategy/283219-graham-postpones-confirmation-vote-on-centcom-nominee-
Well, at least he’s not demanding more explanations of what happened in Benghazi from this one.
Economist’s View: Holtz-Eakin Tries to Scare You. Don’t Let Him
The difference between evidence and pure bs is cool.
I love reading the comments in that thread. It’s from people that actually know of what they speak.
Krugman responds… Disco-era Macroeconomics 🙂
http://krugman.blogs.nytimes.com/2013/02/15/disco-era-macroeconomics/
Love this comment to Krugman.
Joe Scarborough Makes Up Economist Alan Blinder’s Defense Of Joe Scarborough
http://mediamatters.org/blog/2013/02/15/joe-scarborough-makes-up-economist-alan-blinder/192699
Joe Scarborough just continues to make an ass of himself. What’s that old saying about not digging yourself into a deeper hole? Mika should grab the shovel before he finds himself in the Himalayas.