It ain't over yet.

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Everything We Don't Know About Minimum-Wage Hikes

Megan McArdle is a Bloomberg View columnist. She wrote for the Daily Beast, Newsweek, the Atlantic and the Economist and founded the blog Asymmetrical Information. She is the author of "“The Up Side of Down: Why Failing Well Is the Key to Success.”
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A lot has happened in America this year. But economics columnists might well dub this "the Year of the Minimum Wage." The year started off with a hike to $15 an hour in the area around Sea-Tac Airport; by June, Seattle's City Council had followed suit, passing a similar increase that phases in gradually. Chicago is raising its minimum to $13 an hour. Los Angeles has been considering going to $13.50, though so far, it has only raised the minimum wage for hotel workers (hotel owners sued). Various other state and local legislatures have either enacted, or are considering, hikes.

So it's not surprising that we've spent a lot of time talking about the minimum wage this year. What's surprising is how we've been talking about it: confidently, as if we know for sure what will happen when these laws take effect. Mark Bittman, my favorite food writer, has boldly opined that "the credibility of those who argue that employers 'can’t afford' to raise pay ... is nil." Liberal journalists crudely eyeball statistics and proclaim that the idea that minimum wages can kill jobs have been "debunked"; conservative pundits equally claim to have debunked the debunkings.

Minimum Wages

Alas, if only economic analysis were so easy. In fact, it's very hard to study what happens when we raise the minimum wage. The people confidently proclaiming their ability to see the future are often what I like to call "one-study wonders": people who have gotten their hands on a single study that confirms what they already believe (or would very much like to) and then proceed to wave it around while ignoring the rest of the vast, conflicting, suggestive but hardly definitive economic literature on the subject.

One-study wonders are always dangerous. A single study, no matter how well done, is never proof of anything. It's too easy for something to accidentally go wrong. Imagine, if you will, a bunch of German researchers constructing a broad representative sample of U.S. retail establishments to study average store traffic on weekdays -- and unwittingly scheduling it for the day after Thanksgiving. Reality is complicated and full of spurious correlations, and even brilliant researchers are unable to anticipate all the ways that things will go wrong, all the hidden variables that confound their results. That's why replication is one of the most important tasks in science; it's how we check to see whether results are solid or a fluke.

But studying the minimum wage is particularly difficult, because it's hard to construct any study that tells us what we really want to know: Does raising the minimum wage cost jobs? Does it cause, in economics jargon, "disemployment"?

Why does that matter so much? Because being unemployed, especially for a long time, is about the worst thing that can happen to someone in a modern democracy, short of death or dismemberment. People adjust even to terrible life events such as divorce or widowhood; five years after the loss, research shows that happiness levels recover to about where they were before. But five years in, the unemployed are nearly as miserable as they were on the day they got the sack -- and this research was done in Germany, which had a quite generous unemployment compensation program.

Moreover, the people affected are most likely to be low-skilled workers, who are most in need of jobs, not just for the money, but also for the skills that employment provides. The job market is like a ladder, and the lowest rungs are where people gain the critical skills and experience to climb that ladder. If you keep someone off those bottom rungs, studies show that their future employment and salary prospects can be permanently harmed. 

If a big hike in the minimum wage also results in a significant increase in the unemployment rate, that's a bad bargain -- so it's important to figure out the effects on jobs before we start demanding a big change. A lot of economists have tried, and I think it's fair to say that the consensus reading of all those papers is that the minimum-wage increases they studied probably caused some unemployment ... but not all that much.

Unfortunately, even that result isn't as useful as you might think in the current debates over the minimum wage. For one thing, a lot of those studies examined relatively small increases in the minimum wage. For example, the famous Card and Krueger study, which is probably the single paper most frequently cited by advocates of a higher minimum wage, involved a 1992 increase to $5.05 an hour from $4.25 -- the equivalent of raising the minimum to $8.50 from $7.15 today.

It wouldn't be all that surprising if a small hike in the minimum wage had little effect on unemployment. But that doesn't mean that you can extrapolate that result to very high minimums, like the Sea-Tac law, which hiked the local minimum wage by more than 50 percent from a level that was already well above the national average. To illustrate the problem, imagine raising the minimum wage by a penny. It's extremely doubtful that anyone would fire workers in order to save 40 cents a week. But you'd be foolish to conclude that it would therefore be safe to raise the minimum wage to $100 an hour. The size of the increase matters.

That's not the only problem, however. It's not even the biggest one. The hardest part about studying the minimum wage is trying to figure out what will happen over the long run.

Let's go back to Card and Krueger. The reason that that paper is so justly famous is that they exploited a neat little natural experiment: New Jersey raised its minimum wage, while Pennsylvania didn't. So the economists compared employment at fast-food establishments in New Jersey to nearby stores in Pennsylvania. What they found is that employment actually rose slightly in New Jersey compared with the control group across the state line.

Pretty neat, huh? Here's the problem: That study only covered what happened to 410 stores over a period of less than a year. I'm not quarreling with the design of their study, mind you; there are very good reasons to stick with a limited sample over a short period of time. Over longer time periods, more and more extraneous factors will start to swamp your results: changes in state labor law or tax policy, local recessions, a municipal ordinance banning cheap restaurants with lurid signs. 

The problem is not that the study was bad; the problem is that the study was very limited in what it can actually tell us. Even if we assume that the results are correct, they don't "debunk" the possibility that the minimum wage costs jobs; they just tell us that a 20 percent increase in a relatively modest minimum wage will not produce massive unemployment in the short term.

Over the long term, however, things might be very different. For example, Card and Krueger kept careful track of store closings. But they had no way to track stores that might not have opened because the new minimum-wage law lowered the potential return on investment. Or the aspiring franchisees who decided to open a Subway, which employs only a few people, instead of a McDonald's, which employs many more. Even if Card and Krueger had tried to track those effects, most of those decisions would not have shown up during the time period they studied, because it takes longer than a few months to open a new restaurant.

Nor did their study track longer-term impacts on the establishments they did include in their sample. Did more restaurants run into financial trouble over the long run and decide to close down? Did they abandon expansion plans or decide to invest in labor-saving equipment, such as drink stations where customers can fill their own cups rather than having a drink filled by a server? These are the sorts of effects that take years to materialize; if you just stare hard at a short period, you'll miss them. But if you try to broaden the time period, you run the risk of finding spurious effects that were actually caused by some completely unrelated change in the local laws or economy. The shorter the time period of a study, the more I tend to trust its results -- but the less I'm willing to generalize those results to broad statements about the effects of increasing the minimum wage.

These problems are well known by economists. But very little of this made it into the wider public discussion. Instead, we got utterly confident, and completely conflicting, assertions about what would happen -- and unsurprisingly, activists, politicians and voters simply decided to believe the prophecy that best matched what they wanted to be true. 

The good, and the bad, news is that we may be about to find out. A number of local governments are running bold experiments in completely uncharted territory. Like intrepid explorers before them, they may be about to strike policy gold -- or get shipwrecked on the hidden reefs. It's a good thing when local governments experiment with new policies, but it would be better still if everyone understood just how little we know about where they're headed.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Megan McArdle at mmcardle3@bloomberg.net

To contact the editor on this story:
Brooke Sample at bsample1@bloomberg.net