Wage Laws - Are They Good for Us?

Wage laws, including so-called living wage laws, have been getting a fair bit of attention and political consideration lately.  The President advocates a federal increase of the minimum wage to $9/hr and the city of Seattle has gone even further by contemplating a $15/hr "living" wage.  Surprisingly, economists almost unanimously disagree with wage laws.  Personally, I believe higher minimum wage laws would be exceedingly dangerous.

            One of the biggest issues with the government setting wages is that increasing wages does not increase the value of labor.  "Forcing" a business to pay someone a certain wage does not make their labor worth that particular wage, and when a product is not worth its price, there is no transaction as the transaction would not be mutually beneficial.  This means employees could be laid off or not hired in the first place.  Alternatively, price levels could simply rise to accommodate the increase in input costs, which means those to receive the higher wage will also see a rise in their cost of living.  Another thing to consider is that the more productive workers who make over minimum wage currently will lose their incentive to be more productive because it is very unlikely that they would make more than the new wage and thus would have little reason to be more productive than the less productive workers who are now making the same wages.

            Typically we think of jobs subject to the minimum wage as being entry level food service or retail jobs.  I contend that these types of jobs are not the type of jobs that people who need to be self-sustaining should be working.  If wages are high, employers look for more qualified laborers.  This means that students, young people, and underprivileged people, who generally occupy these low-level positions, may begin to be passed up for people with more work experience.  This is dangerous not only because it leads to high youth unemployment, but also because it can create a generational gap.  Since young people may not get into the workforce and learn basic skills, these skills will be non-existent when they need them to get higher paying jobs in the future.  We already have evidence of these problems being created by the issues youths face in Europe. 

            So, in summary, these wage laws will likely create high youth unemployment, less employment overall, less productivity, higher prices, or any combination in between.  So what could politicians do to raise wages without causing all of these horrible side effects?  The answer, I believe, is most to undo several key regulations they have already built upon.  Politicians could study the industries where the minimum wage is most prevalent and then attempt to make creating new businesses in those industries as easy as possible.  By reducing or eliminating things like licenses to sell food, zoning laws, or any other barriers that firms face in entering markets in order to make it as easy as possible for them to go into business.  If this approach worked, it would benefit literally everyone.  Businesses would fight for laborers, driving wages and employment up while simultaneously driving costs to consumers down. 

The Role of Risk in Free Markets

As we move even closer to the big election, I continue to hear people voicing opinions, often in angst, about how big business and big banks are evil.  Many point to the idea that capitalism is evil because it is a system that takes advantage of people and operates on greed.  I find these notions absolutely astonishing, but at the same time, I can understand how people could arrive at these conclusions.

Capitalism is a system that is fueled by what some may call "greed."  While I prefer to call this motivating force "self interest," the money or satisfaction attained from pursuing self interest is simply a measurement of earned success.  The word greed implies taking something that does not belong to you, but the free market operates on a system of voluntary transactions.  Those who prosper by providing goods and services must do so by satisfying the needs and wants of their customers.  However, some people fail to realize that innovators put themselves in jeopardy by trying to provide new goods and services to their consumer base.  This is where risk comes into play.

When an entrepreneur wants to develop a new product or service, they must take on risk by underconsuming and saving in order to invest in the development a new product.  They temporarily take on risk with the hopes that their new product will be successful, or they face a failed investment and the consequences that come along with that.  If they do succeed, they get the benefit of profiting from their business venture and these profits symbolize a measure of earned success.  The system works quite well, but the United States has seen great decline in true capitalism.

Unfortunately, the federal government and Federal Reserve are undercutting the risk that businesses are supposed to take on.  Keeping interest rates for investment banks at 0%, subsidizing risky companies, and bailing out failed companies makes it much easier for entrepreneurs to attempt business interactions that would be far too risky in a free market.  Since the Federal Reserve is continuing to give out money at 0% interest rates, it allows big banks to keep loan rates fairly low.  This sounds like a great thing, but in actuality it is a form of price fixing.  Sometimes the market needs to raise rates to encourage saving instead of rampant spending.  If money is too easy to attain, it is less risky to invest.

We have seen just recently that the federal government thinks it knows what companies should have the burden of risk removed, but they have once again illustrated that government intervention rarely works.  In the case of A123 Systems Inc., the $249.1 million dollars granted by the Obama administration was not enough to prevent this company from filing for bankruptcy.  Although instead of A123 Systems dealing with the consequences of a failed investment, it is the American tax payer that bears the burden.  Government subsidies prevent companies from restructuring into efficient business models.

We also see very low risk in the banking sector, which make consumer's decisions about who will hold their money far too easy.  When the FDIC is ready to refund you if your bank goes under, you do not really care if they are making bad investments with the leverage they get from your deposits.  This leads consumers to make uninformed decisions about what banks they should be using.  The Federal Reserve and federal government also played an obvious role in reducing the risk of investment banks when they decided to bail them out after the banks took on too much risk and their investments failed.  By bailing them out, the government essentially erased the consequences of their malinvestment, which will likely lead to further moral hazard in the future. 

By listening to people attack capitalism, it becomes clear that they do not really seem to understand it.  Many of the problems that people attribute to capitalism actually arise due to government intervention in the system.  There are countless more examples of how government intervention in free markets negatively impacts the American people, but these problems are near the top of the list.

-Bob