Does raising the minimum wage really help workers?
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(MoneyWatch) Is President Obama's call this week to raise the minimum wage a good idea, or is there a better way to help low-income workers?
An increase in the minimum wage raises the income of those who are employed, but it also raises the cost of hiring unskilled labor and can potentially reduce the number of people hired by businesses. So there are winners and losers from this policy. Those who remain employed and receive higher incomes are better off, and those who would be employed if not for the increase in the minimum wage are worse off.
Overall, the impact on workers is uncertain: Does the gain for those who remain employed more than offset the loss to those who cannot find work?
By contrast, if the employment effects turn out to be small, then we can be much more certain that an increase in the minimum wage is a net positive for the households we are trying to help.
What does research on this issue tell us about the minimum wage's employment effects? It depends on which set of research studies you believe. One set of studies -- the most cited is by the University of California, Berkeley's David Card and Princeton University's Alan Krueger, who is also head of the White House Council of Economic Advisers -- finds that increasing the minimum wage does not have significant effects on employment.
Other studies reach the opposite conclusion, notably the work of David Neumark and William Wascher. They claim that workers are made worse off overall when the minimum wage goes up. More recent work such as this paper by University of Massachusetts economist Arin Dube tends to support the view that the minimum wage has minimal employment effects and is beneficial to workers, but the debate on this issue is far from over. (There's a nice summary of the empirical work on this issue, including a full set of citations to the work mentioned above, at the beginning of this paper by economist John Schmitt.)
Since the employment effects of the minimum wage appear to be small, but there is enough counter-evidence to raise questions about this conclusion, an obvious question is whether there is a better way to raise the incomes of low-income workers, one that does not raise these questions.
In fact there is: the Earned Income Tax Credit, a solution that finds support among both liberals and conservatives (Milton Friedman, for example, was a strong supporter of "negative income tax" policies). Democrats favor the EITC because of its ability to lift families out of poverty, and conservatives like its incentives for people to work relative to traditional poverty assistance programs.
So why not increase the EITC instead of increasing the minimum wage? For two reasons. First, and most important, any program that would increase spending and increase the federal debt has little chance in this political environment. An increase in the minimum wage -- which does not involve federal payments -- is more attractive to politicians. Second, the EITC has high administrative costs, while the administrative costs of mandating a minimum wage are very low. As economist Brad DeLong of UC Berkeley says: "The EITC is a good program, but it is a costly program to administer, and it is administered imperfectly to say the least. The minimum wage, on the other hand, is nearly self-enforcing: its administrative costs are nearly nil, for workers (legal workers, at least) have a very strong incentive to drop a dime on bosses who violate it. From a government-administrative and error-rate perspective, it's a very cost-effective program."
Thus, although the EITC has better economic properties and has worked well in practice, the chances of it being expanded on a scale that an increase in the minimum wage would achieve are very low. The same is true for most other government-funded, government-administered poverty reduction programs, there's little chance of expansion in the current budget and political environment.
That leaves the minimum wage as the only realistic option for those who want to increase the income of households at the bottom of the income distribution. It may not be the best approach, but if the recent work suggesting that an increase in the minimum wage does not have significant employment effects is correct, it's an approach that can work.
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