On the Minimum Wage: Mitch's Response

Below is Mitch's response to my post on the minimum wage. The only adjustment I have made is to delete parenthetical references to outside articles and replace them with in-body hyperlinks. I will, of course, be responding in due time.

I’m going to try to respond to particular points made throughout the blog post, so developing a linear narrative is going to be difficult. After the comments I will try to give a big-picture account that ties it all together.

First, I certainly wouldn’t offer up the article I posted as any sort of thorough or even remotely rigorous critique of minimum wage law. Nevertheless, I don’t think it is correct to portray the author as failing in intellectual honesty through a straw man fallacy. The point of the article is not to demolish minimum wage, but to give some passing remarks and illustrate a single (although crucial) point. That point is that the law harms members of the set of people it is purported to help. Although we may claim that minimum wage raises workers’ pay, and make it seem as if this is a true universal claim that applies to all workers at the bottom, this is not true. Nor is it necessarily true that we will be taking this extra pay from the employer. In fact, with laws such as this, some people win and some people lose, and those people are both from the low-skilled, low-experience, employee class, not the employer class. So, according to the goal of the proponents of minimum wage, the policy is self-defeating.

As the article demonstrates with the case of economists, a minimum wage rate that is high enough to be relevant will be a boon to workers who are productive enough to remain employed, but it will also effectively price the less productive workers (those at the margin) out of the market. Some may lose jobs that they had or get their hours cut, some may never get jobs in the first place. It is this second group that is so easy to overlook. We see the immediate effects of a minimum wage increase on the current workers – they get more money. What we might not notice is the downsizing, reduction of hours, or raising of prices to compensate. And what we almost certainly don’t see is the cost for those people who would have had a job if it weren’t for the fact that no employer is allowed to pay them a wage that they are worth (a wage that reflects their productivity – a wage that is less than the employer’s valuation of their labor, which is a necessary condition of employment). These are people like the inexperienced, unskilled, and uneducated. These are the teenagers, young adults, and immigrants. There was a time when a kid would get an after school job doing cleaning or errands or whatever for the corner store. The kid wouldn’t make much, but he would get valuable work experience and learn responsibility and maybe some skills. This would benefit him later in life. A related case is the immigrant who doesn’t speak English. He simply isn’t worth very much to an employer due to the language barrier and, presumably, minimal skills. He might be capable of basic jobs (again, cleaning, painting, light maintenance), but maybe not enough to pay him minimum wage. That is, paying him that wage would force a loss onto the employer and so makes no economic sense. The employer will just decide to forgo having that job filled and maybe spread the work amongst the other employees, use a technological alternative, or do without. In short, the workers whose productivity is at the margins will suffer from a minimum wage law, if that law imposes a wage that is greater than their productivity (which it is likely to be for some, if the wage is at all significant). This is a purely economic conclusion.

To make this case, the author of the article I posted discussed what would happen to economists if they had a minimum wage. He set the wage high, but the point would stand if he had set it at something more modestly above his current salary. He would be let go, but minimum wage proponents would probably just focus on the boon to those economists who remained employed at the higher wage. This same story applies in the case of the marginal worker, and, thus, we can argue that minimum wage laws are bad policy, even according to the standards set by proponents of minimum wage. As the article also alludes to, the fact that some are hurt by this policy has actually been a central reason why some labor unions and skilled laborers in general have often been the champions of minimum wage. It effectively limits their competition by pricing their low-skill competitors out of the market.

Now, in regard to your example business in the widget industry, there are a few points to be made. First, your characterization of the causal story that determines a widget’s price does follow the commonly envisioned process, but it is basically backward. As the story is told, the business owner takes into account all of the costs of production and then marks the sales price up from that to make a profit. In reality, it is the price at which the widget will sell that dictates the prices of the factors used in the production of widgets. In other words, it is only because our business owner, C, knows (or believes) that widgets will sell for X dollars, and that he will sell Y widgets that he is willing to pay for labor and materials that total something less than X × Y. It is because he can calculate (rationally guess) what his gross revenue will be that he can determine how much he can pay for the factors of production. So, we can say that it is ultimately consumer demand that dictates the prices for the various factors of production, including labor. What we would call the “labor theory of value” or “cost of production theory of value” that is gestured at in Erich’s post, and perhaps endorsed by Hairtic, the commentator, can be attributed to Adam Smith, as well as Karl Marx, as he learned it from Smith. This theory of value has been exploded in the meantime, and we can now say that the value of a good (like a widget) is not a function of the materials used and labor expended to make it, but rather a subjective value judgment from the consumer (or all consumers). In short, a widget is worth what people are willing to pay for it, and so the factors necessary to produce widgets are worth what people are willing to pay for them. But, since widget producers are the ones buying the factors of production necessary for widgets, and they are performing business calculations based on anticipated sales, the price of the consumer good (the widget) dictates the price of the factors of the good’s production (the stuff we make widgets out of, again, including labor).

Later in the discussion of the business we are introduced to the idea of a “successful, self-sustaining business,” which exists when D – (A+B+C) = 0. Using the word ‘successful’ may be objected to here, as is the use of the word ‘self-sustainable’. I don’t see how this business is successful if it makes no actual profit. I understand ‘D’ to be “aggregate sales profit” or just “gross sales,” so the company’s net profit must be zero in this model. I suppose since C is the sole owner, C’s salary can be seen as remainder company profit, so the business may be successful, but an incorporated business would not be successful if the math worked out this way. It isn’t clear that it would be sustainable either, but these points are not crucial.

More importantly, we have to discuss the “excess income beyond sustainability,” which I think must mean, “profits above subsistence for the workers and owner.” (correct me if I’m wrong about that) First, I’m not sure where this idea of the worker being paid only a subsistence wage comes from or why we think it’s true, but it must be Mr. Marx to blame again (few have done as much damage to public thinking about economics as that man). We should disabuse ourselves of that notion entirely. The wage paid to an employee is the result of a contract between that employee and the employer. It is a voluntary arrangement with agreed upon terms. If we want to blame somebody for the employee’s low salary, we should blame the employee, because, after all, this person accepted the job at the pay specified! Therefore, the employee must have determined that having the job at that pay rate was better than having some other available job or no job at all (according to a basic axiom of human action that tells us that all human action is done, necessarily, in an effort to produce consequences that are deemed better than current circumstances). What the “marginalist revolution” in value theory (mentioned above) taught us is that exchange on the market is not a case of equal exchange (which is what Smith and Marx thought – an exchange of goods of equal labor value), but rather a case where both parties gain (or at least think they gain). When I spend $5 on a burger I judge that the burger is worth more to me than $5, and the owner of the burger judges that $5 is worth more to her than the burger. Similarly, when a person takes a job for $5/hour she must judge that $5 is worth more than the other potential uses of her hour of time, and the owner must judge that an hour of her time is worth more than $5. It is necessarily win-win (even though there are many cases where the employee’s “win” is merely to stay alive by subsisting off of their low wage).

Now, why should we be comfortable with the possibility that some people lack options and so take a job at a low wage because of their limitations? This is related to the worry about why the owner of the business should get to keep the proceeds of the business when the workers are paid so little. Even if we accept that an employment contract is in some sense voluntary, it still seems unjust (or immoral) to allow the worker to “suffer the exploitation of the capitalists.” Setting the moral question aside for the moment, the purely economic response, based in the rights of property, tells us that there is nothing amiss here. The owner of the business, C, does not owe his employees, B, anything (certainly not a job – C could close the whole place down if he wanted). Rather, C has some capital (the business) and he engages in exchange with members of B (C’s money for B’s labor). If C wanted to close his business and take up basket weaving as a hobby, this would put all of B out of work, but so what? It’s C’s property after all. It’s his business. B has no claim on that, just as they have no claim on anything more than what C is contractually obligated to give them. So, assuming all property titles were legitimate to begin with, B’s complaint of low wages is empty. Now, does this mean that C is exploiting B – is it the case that C is acting merely as a “siphon to [the] profits”? No. Not at all. In fact, C is providing a very important service for B and the rest of society – a service or function that is essential in the wealth creation process. As Erich says, C takes the risk in the business venture. If things don’t work out, the B’s can get another job, and other than an interruption in income, they lose nothing. C, on the other hand, stands to lose quite a bit if the whole company can go under, and with it all of the capital value that C has stored up to build the business. This is only part of the story though. It is through C’s holding of greater resources that he is able to pay B for work done, long before the final product is sold (which eventually covers the expenses C incurred building the business and paying the workers). C may put a lot of time, money, and effort into building a business. He may pay his employees all along the way, and it may still turn out that no one wants to buy his consumer products or services, in which case C loses all of that invested time, money, and energy. B got paid all along. C is taking the risk and C is providing the start up resources. These resources are his property, he has contracted with B and arrived at mutually agreeable terms, and whatever is leftover from all of this in the form of profit is for C to have exclusive rights to. If B wants more, then be should renegotiate the terms of the labor contract, find a new job, or start a business of his own. It is certainly not the case that anyone owes B anything just because B exists and wants stuff. In economist jargon, it is B’s high “time-preference” that leads B to want to be paid now (B’s wage), while C’s lower time-preference enables C to wait longer for the venture to pay off (when the consumer good or service is finally sold). Why do these time-preferences differ? Because, presumably, C has saved up capital from which to live, and so can forgo the immediate gratification of work, but B does not have such capital, so B needs to be paid along the way. Again, not an exploitation of B by C, rather, a mutually beneficial exchange.

Doesn’t the fact that capitalists are the ones who already have most of the money make a difference? No. In a market economy free of undue interference, a person must either invest their surplus money (or other resources) back into the economy to grow that holding, or they must consume that holding over time, and so grow poorer. The former creates business opportunities and jobs, the later will eventually bring them down to a lower economic level, unless they decide to be productive again by either using their labor power to work and produce wealth or using their resources to invest in the production of consumer’s goods. A capitalist can only become and remain rich by putting his resources to work. Moreover, in doing so (in putting those resources to work) the capitalist is beholden to the consumers. Again, if we ignore the (huge) impact of government interventions, the capitalist is not the exploiter, but the provider for the wants of society. In order to succeed he must provide a product or service that people are willing to buy. He must satisfy consumer demands. In the market order the consumer is sovereign and money is like a vote. The businessman works for the consumer in a very real sense.

Now, what about the actual world? Well, in our current condition, with a highly interventionist government and a central bank that creates money out of nothing, much of this is distorted. Do the capitalists in our system exploit us? Well, yes. However, they do not do this through the market system, they do this through their control of the coercive power of government. The greatest profit scheme around right now is the control of congress and the executive. We must all know this. Look at how much is spent on presidential elections. Look at the lobbying industry. A corporation these days would rather spend billions lobbying than anything near that amount in R&D because the lobbying pays so much better. Many of us have been educated to believe that the big bad business man is the enemy who will exploit us and the good guy government is who we should count on to save us from this, but this can best be classified as myth. The myriad conveniences of modern life are provided by the profit-motivated capitalists and entrepreneurs. We live very well, especially compared to times past, because these people have tried to make a profit off of us, and we a psychic profit off of them (the satisfaction of consuming). The limits to this happy marriage of people trying to make profit for themselves by supplying others with what they want have been imposed, predominantly, by the laws of the ruling class, who are beholden to the moneyed-interests. Why does sugar cost a US citizen about twice the world market price? Government tariff that benefits domestic sugar producers at everyone’s expense. Why are certain business in the financial sector able to leverage themselves 300/1 without worrying about the market discipline that would be imposed by the threat of bankruptcy? Government’s implicit guarantee of a bailout. Why do costs continue to rise year after year? It is the policy of our government and their central bankers to make it so. Or, to put this last point another way, because we have built a monetary system that requires a constant increase in the supply of money to stave off collapse because every dollar is brought into existence as debt that has to be paid off with interest, but we don’t ever create the interest! Is this capitalistic? No. It is corporatist, interventionist, and socialist.

This relates back to minimum wage. The impetus for minimum wage is often the observation that the people at the bottom of the pay scale are having trouble keeping up (they are having trouble “beating inflation”). In other words, they are experiencing a decrease in their standard of living because they are experiencing a decrease in their wealth over time. They may be making more money than people at the bottom in times past (their nominal wages are higher), but they have less purchasing power, especially when we correct for the greater efficiency and technological advances that we currently enjoy. Why do they now make more money but have less wealth? Because prices continue to rise, and that is the fault of our government and their monetary policy. Why does the average person invest in the stock market, even though they don’t know what the hell they are getting into? Why did the average person think that a house was a sure investment (even to the point of buying them just to “flip”)? Because the honest, thrifty saver doesn’t grow their wealth, and worse, they don’t even keep it! The rate of inflation is greater than the interest rate. A saver is a sucker. If you want your money to work for you (or just not be inflated away) you have to go into riskier ventures that promise higher returns, even though the average person shouldn’t be anywhere near this kind of market. This is why we have such a low savings rate in this country, why everyone is in debt, why so many people lost so big in the most recent crisis, and why, ultimately, the banks rule the world. Not only do they have all of the consumers working for them to pay off their debt, all governments too are beholden to the banks for the payments on their “sovereign debt,” which means, in reality, all us taxpayers are on the hook. Take a guess who dictates major government policy when the state itself (the taxpayers, essentially) are trillions of dollars in debt to banks.

Minimum wage is a corrective in the eyes of its proponents. And it seems necessary, but this is only because they have accepted all of the former interventions into the market order. It is because we implicitly condone the meddling that came before that we now ask for more meddling. And the arguments will often be moral. Look at the poor people suffering. We should help them. By undoing all of the damage government has caused? By doing away with the excessive regulation and fiat money? No, of course not. We want to keep all of that and just add more on top. We accept government intervention, which implies that we will continue to ask for it when the unintended consequences of the earlier policies create conditions that we don’t like. This is a never-ending cycle that is predicted to culminate in total socialism. It is inherent to the logic of the first interventions. Once the government intervenes (other than to create a fair legal order with property rights and contract enforcement) unintended and undesirable consequences will arise and more intervention will be needed, repeat, etc. Minimum wage is just another one of these interventions. It may be more politically expedient than rolling back the mountain of government interference, but it is not a long-term fix, just another band-aid on the disaster of a system we live under.