Bob Murphy on Minimum wages and a textbook graph to illustrate it

One of the unfortunate consequences of this crisis is increased political backing for “reforms” that have negative impact on aggregate supply. In the US in the 1930s it was the horrible National Industrial Recovery Act (NIRA) and in today’s US it is higher minimum wages. I find it incredible that anybody seriously would question the negative supply side consequences of higher minimum wages. This is not a political issue, but a simple question of understanding the laws of supply and demand.

Anyway Bob Murphy explains it well in this Youtube video.

Of course you can also just look at a standard textbook graph. It should be pretty easy to understand.

Minimum wage

W eq is the equilibrium wage that would emerge in an unregulated labour market with no minimum wage. In such a market employment would be N eq.

W min is the minimum wage, which is higher than the equilibrium wage (W eq). In such a world the demand for labour will be only N2, while the supply of labour will be N1. The difference between the N2 and N1 obviously is the level of unemployment caused by the minimum wage.

You really don’t need anything else than that to understand this issue…Or as Paul Krugman once said:

“So what are the effects of increasing minimum wages? Any Econ 101 student can tell you the answer: The higher wage reduces the quantity of labor demanded, and hence leads to unemployment.”

PS Paul Krugman apparently no longer thinks that a higher minimum wage increases unemployment, but I will leave that to David Henderson to explain.

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25 Comments

  1. Petar Sisko

     /  February 23, 2013

    One of the unfortunate consequences of this crisis is increased political backing for “reforms” that have negative impact on aggregate supply.

    so true and so sad, when you see what kind of logic and interpretation of recent events is behind it.

    Reply
  2. Lars you know I love you but I never can get over how worried all these guys who make six figure salaries get about some poor person getting $9 an hour. Is it really going to blow up the econmic system?

    No doubt Henderson would accuse me of making a political rather than an econoimc comment.

    “So how did Krugman handle the economics of the minimum wage? By talking about the politics of the minimum wage. Krugman tries to establish that the Republicans are shedding crocodile tears because they don’t really care about the workers who might lose their jobs if the minimum wage were increased.

    I wondered if any of his commenters on his web page would catch Krugman changing the subject. So I started reading through the comments, something I don’t generally recommend because most of the commenters are sycophants.

    I’ll say this for Henderson he doesn’t worry about sounding condesceding. Are most Krugman readers sychopahnts? Probabaly he thinks they’re mostly on the minium wage too.

    Wehter or not the GOP is crying crocodile tears is there any doubt that Henderson is? Who cares if some syncopahnts lose their jobs?

    On the economics of it, I wasn’t so impressed with Murphy’s argument.His main argument is that if a $9 MW won’t hurt employment why not a $100 MW, which is a redution absurdem. It’s like if I say 2 asprins will help you that I most be also saying that 100 asprins will really really help you.

    As even the worthy people-econoimsts ot syncophants-are at best split on what the MW does, isn’t at least arguable that the effects are not cataclysmic?

    Reply
    • Dear Mike,
      First, I’m glad you love Lars. I think it’s always important not to let our differences get in the way of our affection.
      Now to your point about my concern for people making $9 an hour. You missed the point. My concern is for people who are productive enough to make $7.25 an hour but not productive enough to make $9. They will be out of a job. So the real test of my consistency is not to compare my, as you say correctly, 6-figure salary, with the $9 an hour guy but, rather, to ask the following: “If my employer were forced to raise my salary by 24 percent and were allowed to fire me (I have tenure), would I favor such a move.” Aside from the issue of force, looking simply at the economics, I say NO. I would be tossed out on the street and I would be upset at someone messing with my work life.

      Reply
    • Mike thanks, but again – this to me is very simple. Minimum wages are simply anti-economics. Economic analysis clearly tells us that it is helping nobody – other than maybe union workers at the expense of unskilled labours.

      I feel the same way about minimum wages as about protectionism. It is anti-economism and foolishness. I don’t care about the motives of those who advocate it. Are the GOP hypocrites? Well yes, but show me a politician who is not.

      Reply
  3. Becky Hargrove

     /  February 23, 2013

    Raising the minimum wage is also one of the most vivid examples of social exclusion we have, and it further upsets the equilibrium overall, in the sense that everyone has to try harder just to meet expected outcomes. The more difficult equilibriums become for economic access, the harder it gets for a nation to convince its residents to allow immigrants.

    Reply
  4. It seams the hole discussion is not about economics at all. Sure everybody makes economic arguments but in reality a minimum wage that small will have a minimal impact either way. Its really a discussion on price controlls in generall, the left wing economist want to have it so they justify other stuff, while the right dont want to give them that.

    Reply
    • Nickikt,

      Yes you are probably right that the increase in US minimum wages likely is having a minor impact on the US labour – whoever we don’t know for sure and surely we know that the impact is not positive. So why increase minimum wages?

      And yes, people who think increasing minimum wages likely also are in favour of all kind of other insane interventionist policies like farm support and rent control.

      Reply
      • nickikt

         /  February 23, 2013

        Im aggree that it should not be raised. My point really is the there are hunderdes of economic policys that have about as much impact as the minimum wage. We dont spend as much time on those, why? Becuase its not really about the impact of the policy itself.

        Im in full agreement with you on the economic side of it.

  5. The bad effects of minimum wage are huge.

    It’s always easiest to think of it this way:

    http://pegobry.tumblr.com/post/21427545322/morgan-warstler-via-steve-randy-waldman

    Reply
  6. Jonathan hopkin

     /  February 23, 2013

    Wow. This is all you can come up with?

    Reply
  7. jayarava

     /  February 23, 2013

    I didn’t understand it all but I read Steve Keen’s critique of supply and demand in Debunking Economics. Clearly the model only works in made up examples for undergraduate text books. It simply cannot work in the real world.

    Reply
  8. Even by the most basic of your own econ101 neoclassical theories, what you have written would be true only when the labour market was a “perfect market” – when the employers have no “market power”. The second there starts to be significant “market power”, a minimum wage can do exactly the opposite – DECREASE unemployment.

    In order for the labour market to resemble a “perfect market” it has to be the case that a worker who quits on Tuesday morning can get another job, no hassle, on Tuesday afternoon. It has to be the case that if the boss lowered the wage a penny below the “going wage”, their entire workforce would quit. It has to be the case that there are loads of identical employers and workers in any area. It has to be the case that nobody cares about who they work for, or who works for them, because workers and employers are all identical. And many, many other conditions besides. Does this sound like the labour market to you?

    Actually I disagree with the whole neoclassical model, but even according to the strictest neoclassical ideas that you can find in an entry level textbook, the accurate statement is “depending on the nature of the particular labour market, a minimum wage can sometimes decrease employment, sometimes increase it and sometimes have no effect.”

    Reply
    • josie100, sorry to say it, but that is all made up excuses for bad policies. The idea that there should exist a monopsony (a buyer’s monopoly) on the US labour market – or any labour market in the developed world is ludicrous. If anything the problem is union monopolies – I don’t believe that is a serious issue in the US. but it is certainly more likely to be a problem than a monopsony.

      Reply
  9. David and Lars, here’s the thing though. The economic analysis is at best inconclusive. David you said yourself that the median economist would probably say there are some negative effects but these are small.

    On the ohter hand those who recieve the hike benefit considerably. To repeat myself, I think Murphy’s YouTube arguemnt in partiuclar was weak. After all I can rationally argue for a small increase or even a considerable one and still not mean that it can rise to any level.

    Becuase I say raise it to $9 doesn’t mean I’m saying that $100 would be even better.

    Reply
    • Mike, sorry this is ludicrous. Supply curves are slopping upwards and demand curves are slopping downwards. It is that simple – also in the US labour markets. Therefore ANY minimum wage is reducing employment. The only thing that seriously can be debated is how much the minimum wage is reducing employment.

      You know I have been very critical of US economists on “the right” that have been making crackpot argument for political reasons and been overly partisan – people like Allan Meltzer and Art Laffer. However, Paul Krugman is doing the exact same thing – unfortunately very often.

      I don’t give a damn about the war between the Dems and the GOP. My don’t make up my views on economics issues based on what two political parties in the US think. However, on this issue the GOP is 100% right. The increase in minimum wages is damaging for US employment.

      Concluding, this is not a question where you can say there are ECONOMIC arguments for and against. No, all the arguments in favour of increasing minimum wages are made up for political reasons. Period.

      There are numerous areas where economists can come up with arguments for interventionists economic policies – mostly to do with issues concerning collective goods and externalities and where we rationally as economists can debate whether more or less government intervention is appropriate, but minimum wages is not such an example.

      That said, no I don’t think this is a huge issue, but it unfortunately tells us quite a bit about the sorry state of economic thinking in the US today. Far too many economists have become wildly partisan – people like Art Laffer, Allan Meltzer, Brad Delong and Paul Krugman.

      Reply
    • Saxie, it’s important you be intellectually honest.

      If I asked you if you’d buy more steak for $1 a lb. you’d simply agree.

      If I asked you if you’d buy more yard work, massage, yoga classes, for $1 per hour, you’d simply agree.

      What you REALLY MEAN is that you don’t think people can live the way you prefer on $1 per hour.

      And that isn’t the problem of economics. That’s an anti-problem with your preferences. You are right to worry about other people.

      BUT, that is NOT economics. Worrying about if other people live is not the job of economics.

      Economics is cold brutal math, 2 + 2 = 4 is supply / demand, every single time.

      YOUR PROBLEM is that you don’t admit the above, and admit that your preferences for people having more than they are worth is a NOBLE SOCIAL ENDEAVOR.

      It’s just not economics.

      This is WHY my GI plan to auction the unemployed is so perfect and so potent.

      I LET YOU tax people and give those who cannot cover their own nut, the ability to do so, in return for them finding out what they are really worth, in a global market.

      Saxie, the knowledge problem is real. And not only is central state decision making flawed, keeping people at the bottom from understanding what is worth $2 per hour, and what is worth $5 per hour, an what is worth $8 per hour…. this is similar and it is just as bad.

      Reply
  10. nickikt,

    You are right – there a lot more important issues in the US today. I certainly think that the massive spending on the military in the US is a bigger economic problem than minimum wages. I think that farm support is massively damaging to the health of the US economy. I think protectionist measures in the auto and steal industry is extremely negative. I could go on and on.

    However, the debate over minimum wages is telling us that American economists are to a large extent not acting as economists, but rather as partisan pundits.

    Reply
  11. josie100

     /  February 24, 2013

    “…is ludicrous”. Right. Well that settles that then. No need for evidence or logical argument or anything.

    Actually I didn’t say that the labour market was a monopsony. A “monopsony” is a theoretical abstraction, a model, just the same as a “perfect market”. No real market is either of them. All markets posses some features of both (and of neither). The point is that according to neoclassical economics, which you are quoting, a minimum wage can be expected to either increase or DECREASE unemployment, depending on the extent to which a particular labour market resembles one or the other.

    If you want to argue that a minimum wage will increase unemployment, then you need to present evidence that the labour market, in the crucial ways, resembles a “perfect market” more than a “monopsony”. Plenty of people argue, for reasons such as those I suggested in my last post, that out of the two of them (which are both gross simplifications of reality) a monopsony is likely to be a much better model for a labour market. So you need to demonstrate why that is wrong.

    That would be the evidence based approach anyway. But alternatively you could just say “that’s just wrong, cos it is, like yeah”, which is certainly easier.

    Reply
  12. You could argue that the idea that economics be totally aloof from moral concerns and factors is itself uneconomic. On moral grounds we arguably should view the labor market differently even if on economic grounds there is no difference. Indeed, at one time there were a whole host of reasons given for why slavery was more economically efficient.

    Yet morally speaking we shouldn’t allow the question to be decided solely on technocratic economic grounds; otherwise I could tomorrow come up with an economic argument for slavery. What if no one could show how I was technicaly wrong. Does this mean we would go back to slavery? No, soceity wouldn’t allow it, as we have ethical and social objections to it.

    One difference with the labor market is that if you pay your workers more they will have more to buy your products.

    Lars if it’s as simple as simply arguing about the supply curve then why is there so much difference among economists? Even David Hederson admitted that the consensus among econoimsts is that while there may be a negative impact it’s small.

    There are many economists of stature-thinking of Sumner’s argument that only the opinon of econoimsts matters on economic issues-that don’t think the minimum wage reduces employment. Kruger, et. al.

    Here’s another one.

    http://www.irle.berkeley.edu/workingpapers/157-07.pdf

    I haven’t seen anyone explain how it is that from the 40s to the 70s we had a correlation of a high minumum wage and low unemployment.

    Reply
    • Saxie, you are not being intellectually honest. I gave you PROVEABLE personal decisions above, and you are hiding from them.

      You’d eat more $1 steak, pls stop saying economics is something other than that fact.

      There are OTHER WORDS than “economics” for your concerns. Do you get angry that math is 2 + 2 = 4?

      Reply
  13. Bryan

     /  March 4, 2013

    “stop saying economics is something other than that fact”

    When intellectuals were somewhat honest about “reality” they would call it what it truly was, “political economy.”

    Now is it just the facts!

    It must be so easy to sleep at night when the world in all its complexity is revealed to you.

    Reply

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