An Apology

Dear Readers:

I am wrong.  I have written countless times saying minimum wage legislation doesn’t create jobs.  This is factually incorrect.  Minimum wage does create jobs: it creates jobs for our robot friends.

It’s irresponsible for me, as an economist, to deny this simple truth. I apologize for all the times I’ve said minimum wage doesn’t create jobs. I can only hope you’ll find it in your hearts and circuit boards to forgive me.

Market Power and Minimum Wage Part 2

My post yesterday generated some pushback from someone who I respect very much; when he disagrees with me, it causes me to think I am wrong.  So, let me try to clarify something:

I am not arguing that everyone, everywhere is always getting paid their exact MPL wage.  I suspect there are many folks who are not.  But minimum wage is not a solution to this problem.  Here’s why:

Minimum wage is a one-size-fits-all solution.  Consideration to the particulars of any given employment situation are not considered.  If a person is earning $6/hr, but his MPL is $8/hr, a minimum wage of $8 would likely benefit him.  But, if a person is earning $6/hr and his MPL is $6/hr, a minimum wage of $8 would harm him.  This fellow would be more likely to face negative consequences of minimum wage: hour cuts, loss of job, etc.

Minimum wage is bad, among other reasons, because the negative consequences are most likely to fall on those who can lease afford them.

Market Power and Minimum Wage

A common argument in favor for minimum wage is that a legally established wage is necessary because firms underpay low-skilled workers.  How do they know these workers are underpaid?  Because those workers say so.  Why are they underpaid?  Because they lack market power.  Minimum wage, some proponents argue, merely correct this.

However, from an economic point of view, this argument doesn’t hold much water.

Remember that a worker’s compensation is determined by his productivity.  A more productive worker will earn more.  The only way for a worker to be underpaid is if he is making less than the marginal productivity he adds to the firm (this is true for everyone from the minimum-wage intern janitor to the CEO).

If a worker is underpaid, this creates a profit opportunity for a rival firm.  If the rival firm sees a worker is underpaid, he can make a higher offer to the worker (one more in line with his productivity) and entice the worker away.  In fact, firms do this all the time: it’s called headhunting.  Due to this threat from rivals, it incentivizes the employee’s current firm to pay him what he’s worth or lose him.

This theory holds true even for minimum wage workers: minimum wage establishments compete with one another for business and employees.  If one firm is perpetually underpaying its employees, it will face heavy turnover.

Some minimum wage workers (and many minimum wage proponents) feel the workers are getting a raw deal, that they are underpaid.  I suggest a simple test to determine if this is true: look for another job.  If a worker is able to find a higher-paid job, then he was underpaid at his old job.  If he is unable to find a higher paid job, then his perceptions about the value of the service he provides (in this case, his labor) is incorrect.

Sometimes a person will value his labor higher than it actually is.  Simply because he incorrectly overestimated his price does not mean he lacks market power; it simply means he overestimated.

I am my Brother’s Keeper

A major criticism of free market capitalism is that it breeds a “me first” mentality.  Nothing, and I mean nothing, could be further from the truth.  In a free market, the only way for a person or firm to succeed is to serve their fellow man.  All market transactions must be voluntary, otherwise the transaction will not occur (this is a definition I keep harping on because it is often forgotten).  Therefore, both parties must offer something the other wants for a price the other finds acceptable.

Free market capitalism thrives on servitude to each other.  It requires it.  Socialism, communism, and crony capitalism, on the other hand, do not.  Those system thrive on classes, the many working for the benefit of the few.

With Apologies to Murray Rothbard

Over at Carpe Diem, Mark Perry has an interesting piece on perception vs reality. It turns out, the average person in a Reason-Rupe poll believe the average corporation enjoys a profit margin of approximately 36% (in other words, for every dollar they take in, the corporation keeps $0.36).  The reality is different, however: the average corporation enjoys a profit margin of about 7.5% (the median is 6.5%).  Some firms, such as Wal-Mart, enjoy even less, at about 3.1%.  Wholesalers and restaurants often operate at less than 1%.

Why is this important?  Economics is, after all, a dismal science.  This is important because activists call upon government to make policy based on their false assumptions.  They argue from ignorance and demand government do something based upon their ignorance.  This ignorance is why we end up with such harmful economic policies like minimum wage, protectionism, high taxes, and burdensome regulations.  No one would ask a man off the street to perform brain surgery, and yet economic policy is debated and determined in exactly that way.

It is no crime to be ignorant of economics, but to hold an unwavering and demanding opinion while remaining in a state of ignorance is just downright irresponsible.