Does Raising the Minimum wage cause Unemployment?

 

The evidence that doesn’t uphold the conventional economic thinking attached to the law of supply & demand.

In introductory economics, economists make a ton of assumptions and that’s mainly based on the laws of supply and demand. As the law suggests, when the price of something increases, the demand plummets. In this case, when the minimum wage of the labourer's increases above the equilibrium rate or the going rate, companies, in turn, hire fewer workers, prompting unemployment. For instance, an excerpt written by Milton Friedman goes as follows. In 1966 when the United States decided to increase the minimum wage, he wrote the following –

The higher wage rate decreed by Congress for low-paid workers will raise the cost of the goods that these workers produce — and must discourage sales. It will also induce employers to replace such workers with other workers — either to do the same work or to produce machinery to do the same work or to produce machinery to do the work.

Women, teenagers, Negroes and particularly Negro teenagers, will be especially hard hit. I am convinced that the minimum-wage law is the most anti-Negro law on our statute books — in its effect not its intent.

The fierce debates on minimum wages have been mindboggling mainly in the west. The two sides of looking at minimum wage are quite different. On the one hand, raising the minimum wage is known to curb poverty as it would put more money in the hands of labourers, while on the other it is known to curtail the profits of the companies, ultimately hurting the total employment of the labour market. While the latter view has gained significant prominence in recent times, yet the new evidence doesn’t support the traditional conclusion. Many economists have questioned this model and in particular the late Alan Krueger, and this year’s noble prize winner in economics David Card.

In the United States, the federal minimum wage hasn’t budged for 14 years, and many are against raising the minimum wage, including former president Donald Trump. However, the new evidence supports a different conclusion.

The New Evidence by Alan Krueger and David Card –

The late Alan Krueger (also the former United States Secretary of the Treasury for economic policy) and David Card (2021 Noble Prize winner in economic sciences) published a paper in, 1993 presenting a different perspective of looking at wages. They used a natural experiment to study the effects of minimum wage on employment numbers. Before their paper, the literature believed that higher minimum wages could increase unemployment since companies would have to pay a larger share of their profits ultimately prompting them to cut their costs. Card and Krueger studied employment rates in about 410 fast-food restaurants in two different states namely, (Eastern) Pennsylvania, and New Jersey. New Jersey changed their wage from $4.25 to $5.05 per hour a year, while Pennsylvania did not. Intuitively they found no evidence supporting the fact that increasing minimum wage caused employment to fall (or unemployment to rise).

Despite the increase in wages, full-time-equivalent employment increased in New Jersey relative to Pennsylvania.

-        Alan Krueger and David Card

Below is the chart that depicts the employment figures in Eastern Pennsylvania, and New Jersey that was described by Krueger and Card’s work.

Figure 1 - Effect of increasing the minimum wage -

Source - Johan Jarnestad. The Royal Swedish Academy of Sciences.  

As shown in figure 1, the analysis exhibit that employment in New Jersey was not affected even after raising the minimum wage on April 1^st, 1992, from $4.25 to $5.05. Similarly, without any change in the minimum wage, employment was not affected significantly in Eastern Pennsylvania either.

Moreover, various other studies that refute the claim of how unemployment doesn’t rise with an increase in minimum wages have given strong supportive arguments. In a 2013 report, the Centre for Economic and Policy research studied the minimum wages and found that the cost shock of minimum wages is modest relative to most of the firm’s overall cost. Apart from it, the key point to note is that labourers are not only wage earners but also consumers. Raising the minimum wage is an effective way to boost economic activity within the country.

Raising the minimum wage is also one of the best ways to tackle gender inequalities, and in reducing government programs. According to the data from the Economic Policy Institute, 39% of Black women and Latina women would benefit from a rise in the minimum wage. Likewise, 38% of African American workers and 32% of women workers would benefit. Hence, an increase in the minimum wage is an excellent way to curb gender inequalities. As regards government programs, higher minimum wages also reduce the reliance of workers who depend on government assistance. To support this view, the 2016 study by Economic Policy Institute found that, increasing the minimum wage for low wage workers would unambiguously reduce the net spending on public assistance, particularly among workers that are likely to be affected by the federal minimum wage increase.

All in all, a plethora of studies and modern evidence supports the fact that increasing the minimum wage doesn’t really have an impact on employment figures. The influential work mainly by David Card and late Alan Krueger have completely revolutionized the thinking of minimum wage. Along with it, the Noble Prize in Economic Sciences awarded to David Card (in 2021) has further transformed thinking and has probably made the subject of minimum wages more respectable. Although the only unfortunate aspect is perhaps the fact that Noble Prize isn’t awarded posthumously, and there are only a ton of mentions regarding the contributions of the late Princeton economist Alan Krueger along with David Card.

 

-        Nirav Shedge

 

References -

Matthews, D. (2019, March 19). What Alan Krueger taught the world about the minimum wage, education, and inequality. Eastern zone: VOX.

Sklar, H. (2021, February 24). Google . Retrieved from Business for a fair minimum wage. https://www.businessforafairminimumwage.org/news/00135/research-shows-minimum-wage-increases-do-not-cause-job-loss

The Nobel Prize . (2021, October 11). Google . Retrieved from The Nobel Prize : https://www.nobelprize.org/prizes/economic-sciences/2021/press-release/