Liberal Vision have hosted a post by Rob Waller of the Libertarian Party on the Minimum Wage (he usually blogs here).

Now you might remember from comments below this post about the absence of good right wing economics sites that I am sceptical of libertarianism for being simple minded.  It ticks the box of Econ 101 thinking perfectly: the supply and demand graphs are given, the historical/path-dependent, dynamic aspects of economics are missing or buried, and the real world evidence that things do not always meet neatly at the cross of the S and D is somehow ignored.

Sadly this post does nothing to disabuse me of this belief. Here are the objections to paying above the Min W:

The first and most obvious is that it raises the cost of business — unnecessarily — as businesses are forced to raise the wages of low skilled employees . . . The second — and most important — reason is that the minimum wage will never actually raise the value of labour. It is impossible to raise an asset’s value by simply declaring it has a greater value.

A mighty big straw man is knocked over right there.  The intention of the minimum wage is not, surely, to tell people blindly what labour is worth.

It is to change the incentives for businessmen.  Being skin-deep, libertarian economics can only look at the first-order question: given my existing markets, levels of capital, technology and so on, what would putting a floor under a wage level produce? And then, yes, the answer is obvious.   Higher W, lower Q of Labour.  Easy.  Vote Libertarian.

But there are other decisions.  When a business makes decisions, it also decides what mix of capital (K) and labour (L) to work with.  In France, for example, the (overly) restrictive laws on hiring and firing put a large cost on hiring labour.  So decisions are biased in favour of K.  So each unit of L has more K to work with and – hey presto! – France also comes out as a more productive economy.

But France botches it, in my view.  It produces a sort of two-tier economy – one where there are a number of high-value jobs, secure and life -long, but then a lower employment rate.  The UK economy has 31 million employed, the French just 28million. Same population.

Would the minimum wage produce the same result for the UK?  I don’t think so.  It is a floor, not a general levy on all labour at whatever level.  What it does is, in effect, say to businesses:

‘If you are looking to found productive enterprises, you must do so on the basis of relatively valuable labour.  Why?  Well, if you start running businesses that are so unproductive per capita that you can only make profits when paying 3 pounds per hour you will:

  • be passing on many of the social costs of low-waged labour onto society in general (tax credits etc).   That is clearly ineffecient, or wrong.
  • be contributing to the UK being on the wrong economic model. ‘

What does the last point mean? Recall the massive debate about why Europe pulled ahead of China (from Right to Left).   In a nutshell, human society breaks free of drudgery and gets into  prosperity when it starts becoming more productive per head of labour.  There is a compelling case for saying that Europe pulled ahead because its starting conditions tended it towards being more productive per head: and therefore, towards having a big incentive to creating labour-saving machines.  Whereas the Japanese, for example, were geniuses at finding ways of being more productive per acre: they could get so much rice out of a paddy field, it was silly.

Trouble is, this implied a massive, continuous use of low-paid labour.  Weeding continuously.

The minimum wage is good because it skews British incentives towards doing things that ultimately increase the productivity of each person, as opposed to finding any way possible to make economic value, even if that means getting teams of adolescents to do lots of low value things.  It says ‘below here, we will not go’.   Ultimately, inequality is solved by increasing the productive potential of individuals, through education and higher capital per head.

Investment, education, rather than trapping people in low-learning zero potential jobs just because it suits the sort of simple minded economics that only libertarians fall for.

(BTW, if the minimum wage were 10 quid, I could see the point.  But 5.80?  jeez).

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21 thoughts on “Why I, a liberal economist, like the Minimum Wage

  1. I think you view is a little idealistic. It rests on a number of very shaky assumptions. Including that other people in other countries cannot achieve the same or better levels of production more cheaply. If they can then what?

  2. Thanks for coming back to me Rob.

    I dashed that off in a hurry, so your comment gives me an opportunity to elucidate some of my assumptions. The first is that there is a mimimum quality of life below which our social norms feels we should not go. As a result, at a certain wage, there are considerable risks that society has to subsidize the job in various ways – providing things free that others have to pay for, etc.

    If one were to say “Forget these particular minimum living standards – they make certain economic activities unprofitable on the world market”, I would say that this gets the cart before the horse.

    So, your question – what if other countries get to achieve certain production more cheaply, in terms of labour costs? Then we ought to aim to diversify away from those activities. If we find ourselves, say, gathering cockles and this earning us only £4 per hour of labour, we should be trying to fix the economic conditions in some way so as to make such jobs in their current configuration unprofitable. Instead, we should incentivize investment in cockle-picking machines.

    Ironically, the Left sometimes gets this wrong – fights Luddite fashion the machines coming in, failing to see how, long term, increasing value of labour actually accrues to the worker, not all to the capitalist. I would love to know whether Paul thinks that the consistent rises in wages in line with labour productivity undermines certain Marxist views.

    So – this view of matters envisages a global division of labour. A world systems critique might think that this demands/requires some sort of impoverished ‘periphery’, doing the cheap jobs for us. I don’t think so myself – living standards climb round the world as we all deepen capital and technology.

    I know that a lot of development would fail if minimum wages were enforced globally. If some doogooder in the UK forced Indonesians to pay $5 minimum, it would hold back indonesia. But not once your country is near the technology frontier.

  3. Giles

    Your not right on this. Minimum wages can easily lead to firms offshoring jobs, or to simply not doing some things. We also know that youth unemployment is a good predictor of long term unemployment. (Almost) anything that prevents young people getting into work initially is bad news for their long term prospects, and with it bad news for the kids they will one day have.

    You cannot imagine working for £5.80 an hour. Nor can most affluent people. But there are people out there would might well be employed for £4.50 an hour, but not at £5.80. £9k a year if you are living at home is not heaven on earth, but it is worth something in itself, and it is a good predictor of medium term employment.

    Don’t knock it.

    Tim

  4. Tim

    Are you theoretically or empirically against the MW? I mean, do you think it is too high but has some good effects at the right level, or that it should not exist, full stop, because anything that interferes with clearing during a one-period supply/demand of labour game is clearly inefficient?

    I am open to the idea that the level can be wrong: I seldom leave London (regional min wages – Lib dem policy?) and last worked at £10k per annum in 1994-5, in Aylesbury. I did work as a temp for 4 months in 1995-6, mostly at £6-8 per hour: the problem keeping me from working was jobs full stop – I had no reservation wage. I got 20 hours a week. I had to eat at Iceland for a few months, not fun. Potato croquettes

    But the point of my post was that one-period analyses are not enough – you need to look at the longer term dynamics. You hold that getting into very low waged jobs might nevertheless lead to youths getting the habit of work. But could jobs that barely get you by, that give you little chance to invest in yourself, not also put people off work? Go back 2-3 years and the whole debate seemed to be about getting people into work who could work but were insufficiently motivated to. So I think the constraint can be on the supply of labour side as well as demand.

    (see Dillow http://stumblingandmumbling.typepad.com/stumbling_and_mumbling/2008/11/camerons-tax-con.html

    for the statement:

    This is because the national minimum wage has not priced many workers out of jobs. Some, yes. But not many. And here the Tories have form for exaggerating the price elasticity of demand for labour. Back in 1991 Michael Howard claimed that a minimum wage would destroy two million jobs. He over-estimated the response of labour demand to prices. Cameron is doing the same thing.)

    Which means ‘habit of work’ arguments can work for both sides?

    G

  5. Also: are not most of the low paid jobs service jobs? Can you offshore burger flipping? If I were operating a burger store and told that I had to pay my staff more, I would try to find ways of training them so that it was worth paying them more – that, at least, was my approach in my previous managerial positions . . . .

  6. Empirically. It seems very unlikely that we can increase the level of the MW 80% and it not have an effect on unemployment in a downturn. The fact that it has not had an effect in the upturn is meaningless – it is like saying that we can overload a boat in good weather.

    We can get rid of lots of jobs by mechanisation or offshoring. Look at the extent to which fast food is mechanised – the milkshake machines deliver preset amounts of drink for example. That could be rolled out in pubs to reduce labour needed. Chips are precut, salads pre-prepared. Supermarkets get rid of people by pushing the milk straight into place. Self-service checkouts. Call centres where you push “1”, and enter your credit card number yourself. Automated systems to register your gas meter reading. Checking in online for flights. Supermarkets not employing people to pack your bags and carry your shopping. Data entry to India and Cambodia. There are lots of low wage jobs that can be destroyed by raising the price of labour above its equilibrium level.

  7. Those all sound like useful innovations . . . good productivity increasing stuff. Now, I know you are not a Luddite.

    If Labour are proposing an 80% increase in the MW, I agree with you. All I knew was:

    Nearly one million low paid employees, two thirds of them women, will benefit from a raise in the National Minimum Wage. Labour’s Prime Minister Gordon Brown has announced that the adult National Minimum Wage will rise from £5.52 to £5.73. The rate for 18-21 year olds will also increase from £4.60 to £4.77, while the 16-17 year old rate will rise from £3.40 to £3.53.

    Personally I think it may make sense to postpone such things during a recession: the relative cost of MW labour is being made to rise.

  8. How do we know that the NMW isn’t holding down wages that would be higher if the NMW didn’t exsist, rather than having their intended effect of making sure wages are above what they would be?

    While, it’s not defintive proof, I think the evidence in this most recent annual report (http://www.lowpay.gov.uk/lowpay/research/pdf/IDS_Report_2008_11_3_09-final.pdf) on the impact of the NMW actaually suggests the former – that the NMW may, at least in some sectors, be being used by employers to down wages.

    I keep meaning to do a detailed post on this, in fact. Thanks for reminder. Just as one quick snippet from the report, though:

    ‘The median pay settlement in low-paying sectors was 3 per cent in the year to September 2008. This compares to 3.8 per cent in the rest of the economy, indicating that settlements were typically lower in the low-paying sectors.’

    Not cause-effect evidence certainly, but taken together with other data and the qualitative info (albeit) limited in the report about the way employers are using the NMW as the only mechanism now to decide on pay offers (as opposed to, let’s say, looking at affordability, or even more radically, employee demands), I think it at least sets out a case for further research (for your firm to be commissioned to undertake, perhaps?) into whether the old assumptions about the NMW really still hold as true as New Labour achievements manta would have us uncitically accept.

    Interesting piece as ever, Giles.

  9. Interesting view from the other side there Paul. I am sure Dillow must have mentioned this effect (is it the framing effect?) I could imagine a game-theory exercise in which people bidding for an item of unknown value lowered their bids when given a minimum, as it gave them a level to cluster around. I ought to search Dillow for this . . .

  10. I can’t keep up with Chris’ theories and ‘effects’, but as you know by now, where lies game theory for you lies the hidden control of the state by the forces of capitalism etc etc

  11. My 80% was the rise since the NMW was first created c. 10 years ago. We want rising productivity, but supply led, that is based on skills, rather than based on sacking the unproductive and leaving them unemployed. That is the danger with a NMW.

    Apparently – although I have not checked – every Labour govt has left office with unemployment higher than it inherited. This is because the cost of labour market protection is borne by those who would otherwise be employed and are not. It is not borne by firms or taxpayers.

  12. I see what you mean:

    somewhat ahead of normal wages.

    Personally, I think the fact that Labour is going to leave office about 2 years into a macroeconomic crisis may have something to do with the higher unemployment rate . . . and that samples of four are difficult to use for generalisations.

    I know that NEETS are a problem, but I would be surprised if the reason was that the clearing wage was a quid too high, but don’t have the background in labour economics to prove that case. For a long period I know that people were obsessed with the problem of not being able to persuade them to take jobs – which Eastern Europeans were happy to take, often on above MW levels . Perhaps they were wrong – we just needed lower wages. But I still need persuading.

  13. The minimum wage is good because it skews British incentives towards doing things that ultimately increase the productivity of each person

    The minimum wage skews British incentives towards doing things that ultimately increase the productivity of each employee. Such as outsourcing or automating out of existance as many unskilled jobs as possible.

    Unskilled workers may gain skills on the job. Unskilled non-workers are less likely to gain skills on the dole.

    It might be interesting to see the effects of giving workers the right to opt-out of the minimum wage. Because if people choose to do something, you should seriously consider the possibility that they do it because it benefits them.

  14. “Such as outsourcing or automating out of existance as many unskilled jobs as possible.”

    Although, amazingly, British employment was at an all time high of 31m. OK, male manufacturing employment is far off its peak, but unless you are protectionist (and even then) that structural change will happen.

    I like the idea of unskilled workers gaining skills on the job – but I think that is just as likely in higher-capital jobs. In fact, more likely. I can afford 6 burger flippers not 7, so I train the 6 to be better at it.

  15. FTE: Sure, you might train the 6 better, but what about the 7th who is unemployed? And if you have spent money on more capital, and wages are higher, then employment must fall by definition, since GDP = K + L, where L = wages*employment. So with K up and wages up, employment must be lower.

    At one point you said “a quid higher” dismissively, as though this were small change. But that is £1800 a year, plus about £200 in employers NI, or £2000. Are you sure that raising the cost of unskilled labour by £2k a year is nothing? Assuming that you can borrow at 10%, and that machines last 6 years, you could spend about £7.5k on machinery just with the extra MW cost.

  16. I don’t mean to be dismissive of the quid – of course not, though I’d love to know what the economics of burger bars etc at a micro level look like. It would be nice if MBA case studies did more of that and lless General Electric

    It’s impossible in the abstract to say which way it would fall. In my first job, garlic picking, it would definitely have hurt profits, there would be no training to do (it’s pulling up garlic), and the extra cost of a min wage (though it was piece work, 8p per yard), would have fallen on the employer, and then possibly either on his customers, or on his export position (Isle of Wight, biggest garlic farm in Europe). Then your case would definitely have been true – lower L, and the skilled itinerant labour would have driven us out.

    For other industries, it might be different – I find the idea of a monopsony buyer of labour intriguiing,can imagine it in construction, for example, but don’t have the data to know if it were a serious possibility. My general case at the start of the post was simply that to reach a conclusion you need more than just one type of S and D curves for labour – which I think your excellent details help show.

  17. The MW went up 80%. Let’s say garlic picking goes up from 8p to 14p. Option 1) Garlic price increases, people buy less garlic and some garlic pickers lose their jobs. Option 2) Garlic price increases, people buy as much, have left money for other things and so buy less of something else, so someone else loses their job. Option 3) British garlic prices increase, so UK and foreign consumers buy more french garlic. UK garlic pickers lose their jobs (partly mitigated by a fall in the £ as imports exceed exports, leading to an increase of other exports in lieu). There is definitely a rise in unemployment here.

  18. There is definitely a rise in unemployment . . . in that hypothetical example where UK industry is all like my experience of garlic picking (in which case, god help us).

    But is there in the UK as a result of the MW?
    http://www.esrcsocietytoday.ac.uk/ESRCInfoCentre/Plain_English_Summaries/econ_performance_and_development/economic_growth/index175.aspx

    don’t think so. Of course, there COULD be. I reckon a minimum wage of £20 would be bad for unemployment, going out on a limb. I reckon £3.50 probably not so much. There is some “right” level, and it can’t be fixed by reference to a simple D-S curve or hypothetical veg picking examples. And I think it has an effect on longer-term dynamics – decisions to invest in human or other capital.

    All I was saying was: the libertarian “look I’ve proved the MW is a terrible terrible idea using an S-D curve” is too simple.

    I have to speak in 3 hours alongside Kate Green on After the Crunch, poverty etc. I expect to disagree with her on most matters regarding redistribution – but probably not so much on the subject of the minimum wage

  19. But if you accept my argument about garlic pickers, what we are now arguing about is the scale of the effect, since you are acknowledging that there is an effect on some sectors. This is progress.

    Saying that there is evidence of no effect in a boom is as meaningless as saying that banks sub-prime loans had not turned bad in 2007. We need the result over the cycle.

  20. No, I always accepted the idea for any industry well characterised by one-period games like garlic picking – just that this did not characterise the situation throughout the country, for all industries, and across time. So it seems not to have had an effect during 8 years of 2.7% growth. Bet that’s not what the detractors at the outset predicted.

    I’m quite happy to accept the result “Minimum wages: no effect during a boom” . Rob Waller’s original post never entered that caveat: it was “minimum wages should never be used: they interfere with markets and therefore are a bad thing”.

    Clearly if the entire period of its operation doesn’t count because it was all a boom, then we are beyond the realm of empirical confirmation or otherwise (even when it rises 80%). But personally I’m encouraged by the ESRC result.

    Cheers

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