By John Weeks.

[Watch me discuss my new book right here on The Real News Network]

The minimum wage – lengthening unemployment lines or reducing poverty?

In case you missed it, the Congressional Budget Office (CB0), that impeccably independent and unbiased source, dropped a report on Congress that tells our dedicated representatives that if they raise the minimum wage to $10.10 an hour (currently $7.25), the result will be to increase unemployment by a half million people (read it here).  Delighted, of course, are the reactionary Republicans (there I go being redundant again) and more than a few Democrats.

This is exactly what you would expect, right?  Higher wages, higher labor costs, company profits squeezed, so fewer people will be hired.  Commonsense, isn’t it?  Indeed, it is, and as Stuart Chase said so succinctly, “commonsense is that which tell us the world is flat”.

But the world is not flat and increasing the minimum wage does not reduce employment.  I have dissected and trashed this argument in considerable detail in my new book.  Here I shall give only an expurgated version.  Let’s begin with the two reasons why the CBO thinks that increasing the minimum wage would reduce employment.  The first offered is that companies will raise prices to offset the minimum wage increase, which will reduce consumer demand, thus overall demand and overall employment (prices up, consumer purchases down, got it?).

The second reason that the minimum wage will reduce employment is that companies will substitute machinery and equipment for the more expensive minimum wage workers (price up, purchases down, in this case for employers).  We find both of these arguments on pages 9-10 of the CBO report.

Both are reactionary nonsense.  You do not have to have a degree in economics to understand why (on the contrary, having a degree in mainstream economics so pollutes the mind that understanding the fallacies in the argument is impossible).  For a moment reflect on the argument that higher wages lead to higher product prices, thus lower consumer demand for products.

According to the CBO the higher minimum wage will directly increase the incomes of 33 million employed people.  The total number of workers affected will be considerably higher because of the well-known process of the minimum wage increase working through the salary structure of companies (what might be called a “knock-on” effect).  When wages go up, family incomes go up, and especially for low-paid workers all of that income goes to consumption (see the CBO report pages 11-13).

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Therefore, when the minimum wage rises, consumer spending will increase, not decrease.  When companies raise prices that will reduce the real value of the increased consumer spending.  Now, which is likely to be the larger effect, the greater income of households (aka consumers) or the higher prices?  Put another way, what is the likelihood of the higher prices completely wiping out the income increase to households?

A moment’s reflection leads us to the conclusion that the likelihood of that happening is almost zero.  By the CBO’s own argument, the price increases would follow directly from wage/income increases to households.  At worst the absolute amount of the increase in household income would equal the absolute amount of all product price increase.  The fact that the minimum wage increase applies to many public sector employees (most of whom produce no marketed product) will by itself ensure that the income increase will exceed the price (inflation) effect.

The CBO cannot have it both ways – it cannot simultaneously argue that price increases will reduce demand for private sector products, and that household incomes will increase.  Increased prices mean increased money income – it really is that simple.

On to the second CBO argument, that the minimum wage increase will prompt private employers to replace labor with machinery.  Seems reasonable enough – labor more expensive, use machines instead.  The problem with argument is that it is straight from Cloud Cuckoo Land (found in a 414 BC play, The Birds, by Aristophanes, where he satirizes the politics and philosophy of Socrates).  The argument assumes that in their production processes companies have the flexibility to rapidly change the way they make their goods and provide their services.

The extent to which this is possible differs company by company and product by product.  No generalization is possible except the obvious one that for all companies taken together we cannot generalize.  Take the example of an iPad assembly line.  The likelihood that a new assembly process using less labor could be introduced in the same factory within a few months or even a year is very low.  Even in a supermarket switching to automated checkout requires considerable investment and reorganization, which cannot be done quickly.  Only in the imagination of mainstream economics (and the CBO) does each employer have an alternative production process that can appear in the factory or office like magic when wages change (see my book, The Economics of the 1%, chapter 2, for more detail on this absurdity).

Just to drive one last nail into coffin of the wage up, employment down argument, empirical research disproves it, most famously that by David Card and Alan Krueger of Princeton University (yes, the hyper-elite Ivy League Princeton).

If we scratch below the surface of the CBO report, we find that its estimate of a half-million lost jobs is more than a little dubious.  On page 9 of the report we read (with the CBO referring to itself in the royal third person),

The overall reduction in employment could be smaller or larger than the CBO’s central estimate.  In the CBO’s assessment, there is about a two-thirds chance that the effect of the $10.10 option would be in the range between a a very slight decrease in employment and a decrease of 1.0 million workers;  thus there is a one-third chance that the effect would be either above or below that range.

In statistical-speak this sentence means that we should have very little confidence in the estimate of employment loss.  The standard benchmark for taking statistical results seriously is not a two-thirds “chance” (“probability” is the correct word), but at least 90 percent “chance”, and more commonly 95.  In other words, you would not bet the ranch on a two-thirds chance.  For those who soldier on to the bitter end of the report, the CBO concedes as much (page 31).  It is worth mentioning that the report does not provide the details of the employment loss estimate, neither the methodology nor the numbers.

In contrast to the extremely dubious employment loss estimate is the robust CBO estimate of poverty reduction resulting from the “$10.10 option”, which is 900,000 people.  The CBO itself states that this estimate of poverty reduction might be an under-estimate.

So what message should we take from the report?  To put it in the proverbial nut-shell, a minimum wage increase to $10.10 would reduce poverty by close to a million people at the least, and have no significant employment-reducing effect.  Why doesn’t the CBO headline that conclusion?  It doesn’t because the high pay, lower employment ideology is a canon of the economics of the 1%.  Demonstrating that it is false fundamentally weakens arguments against paying people decently in Walmart, Amazon and MacDonald’s.

John Weeks

John Weeks is Professor Emeritus and Senior Researcher at the Centre for Development Policy and Research, and Research on Money and Finance Group at the School of Oriental & African Studies at the University of London.