Most economists dislike the minimum wage for a simple reason: Raise the price of anything, whether it's lettuce or labor, and buyers can afford less of it. Such elementary logic convinces economists that jacking up the wage floor prices some workers out of a job.
But there's more to the subject than that. Because the relative prices of labor and capital influence corporate investment decisions, minimum-wage levels may affect productivity. If pay rates fall, employers have a greater incentive to buy labor instead of new technology. As a result, productivity growth, the key to higher living standards, slacks off. By the same token, raising pay can spur efficiency.
PAY FOR ITSELF? As long as it's not overdone, lifting the minimum wage may create overall economic gains that outweigh any short-term job losses. In fact, if it keeps productivity rising, slowly boosting labor prices may actually be good for the economy in the long run. "Most economists oppose the minimum wage because they haven't thought through the connection to productivity," says Northwestern University economist Robert J. Gordon.
The best way to see his point is to look at productivity growth, which has slumped to about 1% a year since 1973 from 3% in prior decades. One reason for the decline is the shift in prices of labor and capital, say Gordon and other economists. Baby boomers and women flooded the economy with cheap labor in the 1970s, they argue, and then the price of capital exploded in the 1980s, when interest rates went through the ceiling. The result: Employment boomed in low-wage service industries, but productivity sagged as new technology became more pricey. "This is one possible explanation for the slowdown in technological progress," says Paul M. Romer, a productivity expert at the University of California at Berkeley.
If this argument is correct, raising the minimum wage might not hurt the economy and could even pay for itself. Economists have preached the virtues of productivity growth since the Luddites and before. Yes, jobs are lost when employers swap technology for labor. But the extra efficiency lowers prices, so consumers buy more goods and expand output--and the economy gains in the long run. Economists applaud fast-food chains that install automated french-fry cookers and lay off workers. Why should the result be different just because the employer was jolted into action by higher labor costs?
Of course, a minimum wage pegged too high would be a problem. A minimum of $13 an hour, say--the average wage for the economy as a whole--would be a disaster. Everyone still working would be in high-wage, more productive jobs, so the economy would produce more per worker. But half the workforce would be unemployed, so total output would collapse.
EDUCATION. One solution: peg the minimum wage to a fixed percentage of average wages. That way, employers have a steady incentive to search out the most efficient methods of doing business. Yet the incentive isn't likely to become a hurdle that companies can't figure out how to overcome. "If raising the minimum spurs technical innovations, it could make a real difference in productivity and leave the economy better off," concedes David B. Neumark, a Michigan State University economist who writes on the minimum wage.
Neumark and other skeptics still oppose an increase, however, because they doubt that the economic gains would materialize. Their fear: some low-skilled workers will never work again. If so, efficiency gains might not offset the output lost from their labor.
That's why setting a wage floor in today's high-skills economy must be combined with policies aimed at helping young people--who comprise half of all minimum-wage workers--to complete their schooling or vocational training. "Yes, raising the minimum would lift productivity, but then you have to help those on the bottom to keep up," says Harvard University economist Dale W. Jorgenson.
A rising wage floor may boost living standards. It also ensures that low-wage workers aren't left behind. That's good for the economy and society alike.