So Much For The Minimum Wage Scare

When Congress debated the minimum wage hike in 1996, critics warned that it would cost jobs, especially among the low-skilled. In theory, the free market was already paying what low-wage workers were worth. Raise the wage, and you price workers above the value they can add. An excessive price for labor yields a reduced quantity of jobs.

Well, the minimum wage was raised from $4.25 to $4.75 last Oct. 1; it will increase again, to $5.15, on Sept. 1. But the unemployment rate keeps dropping. A study by the Economic Policy Institute (EPI) finds no job losses. If anything, there is a slight job increase, even among teenagers and young adults, who would be the most likely to be displaced. The EPI also finds great economic benefits for the working poor. Prior to the minimum wage hike, 50.6% of working teenagers earned less than the new minimum of $5.15. All will now receive higher rewards for their labor. The two-thirds of minimum-wage workers who are adults will also benefit.

But isn't this just a case of lucky timing? Surely, unemployment is down because the economy is booming. In theory, the economy might have created even more jobs if employers didn't have to pay excess wages to the low-skilled. As we shall see, however, the theory fails.

UNDERDOG. This debate, of course, is ideological as well as empirical. Conservatives believe the market naturally prices things appropriately; they dislike regulation. Liberals believe market forces sometimes price things wrong and often take unfair advantage of the underdog; regulation can sometimes yield better and fairer rates. On the minimum wage, the empirical question is whether greater rewards to low-wage workers are in fact offset by higher unemployment.

As Congress debated the minimum wage, a parallel debate raged among academic economists. Princeton University labor economists David Card and Alan Krueger, in their 1995 book Myth & Measurement, collected data comparing employment effects of a state minimum wage increase in New Jersey with employment trends across the river in Pennsylvania, where no comparable hike had been legislated. They found that higher wages in New Jersey did not produce higher unemployment. Evidently, the new wages reduced turnover expenses (recruiting and training), and employers could also squeeze productivity gains out of the now higher-paid, better-motivated, and more stable workforce. These benefits offset the higher costs. The Card-Krueger research was widely cited by proponents of the 1996 minimum-wage hike.

Opponents of the minimum wage pointed to a study by a rival group of labor economists, Donald Deere and Finis Welch of Texas A&M University and Kevin M. Murphy of the University of Chicago. Their study examined the last minimum-wage hike, in 1990-91. They calculated that the earlier increase, from $3.35 to $4.25, resulted in job losses among all the demographic groups they studied, with pronounced negative effects among school dropouts, teenagers, minorities, and young workers generally.

VOLATILE. However, critics observed that 1990-91 was a recession, and faulted Deere et al. for confusing the effects of the business cycle with the impact of a higher minimum wage. The study had attempted to correct for this effect by using changes in employment rates for prime-age males as a proxy for business-cycle effects. But this particular variable likely understated the impact of the recession, since teen and minority employment is much more volatile and vulnerable to general downturns.

Now EPI economists have applied the same Deere-Welch-Murphy model to the latest hike, which occurred during a boom. The model that showed a higher minimum wage costing jobs in 1990-91 now shows the minimum-wage hike increasing employment--among teenagers, minorities, and dropouts. (The study, The Sky Hasn't Fallen, by Jared Bernstein and John Schmitt, is available from the EPI. Disclosure: I serve on the EPI's board.)

This research strongly suggests that Deere et al. were mistakenly attributing recession job losses to the minimum wage--and that economic booms can compensate for any slight negative effects of a minimum-wage hike (Alan Greenspan, take note). A $15 minimum wage might indeed be both inflationary and destructive of jobs. But a modestly higher minimum wage creates real economic benefits for the working poor without harming the larger economy.

A society with a work ethic needs jobs that pay a living wage. Sensible minimum wage laws and a Fed willing to tolerate growth can both help.