Of the proposals in President Obama’s State of the Union address, the one that’s perhaps getting the most attention is his push to have the federal minimum wage raised from $7.25 to $9.00 per hour. There are many reasons for this. First, it was one of the few concrete proposals to come out of the speech; and unlike many of the President’s industrial and tax policy ideas, it is easy to understand: Pass a law saying businesses can’t pay workers less than $9 per hour.
But does the law make sense for the low-income workers it aims to help? For years the conventional wisdom among many economists was that higher minimum wages actually reduced employment — for the simple reason that if you make something like labor more expensive, firms will purchase less of it.
But research in the 1990s, specifically a study authored by economists David Carr and Alan Kreuger, seemed to prove otherwise, or at least to poke holes in this theory. Carr and Kreuger studied the effect of an increase in the minimum wage in New Jersey from $4.25 to $5.05 per hour in 1992. They surveyed 410 fast food restaurants in New Jersey and nearby counties in neighboring Pennsylvania, which saw no increase in the minimum wage. Their study found that New Jersey’s minimum wage hike didn’t negatively affect employment — in fact, they found, employment increased.
Since this 1992 paper, several other studies using similar methodologies have come to similar conclusions. A review of this literature by the left-leaning think tank Center for American Progress summed up the logic behind why a minimum wage hike wouldn’t reduce employment:
“Studies generally find that policies that increase the compensation of low-wage workers significantly reduce turnover, boost worker effort, encourage employers to invest in training for their workers, and can increase demand for goods and services—all of which help balance out any potential negative effects.”
For proponents of minimum wage hikes, this is the end of the debate. But it turns out that a considerable amount of research has come to the opposite conclusion. In 2006, economists David Neumark and William Wascher conducted a comprehensive review of the economic literature on the subject since the early 1990s. They concluded that the data on the subject was decidedly mixed, which “makes it difficult to draw broad implications of the new minimum wage research.” Nearly two thirds of the studies, however, did show that minimum wage had negative effects on employment.
But given that there’s a good chance that minimum wage laws actually hurt the people they are designed to help, isn’t there a more effective way to help the working poor? Way back in 1998, Princeton (then-MIT) economist Paul Krugman came to the conclusion that there is. Krugman wrote that a much better method for raising the living standards of low-wage workers would be to increase worker incomes through policies like the earned income tax credit, under which workers who make less than a given amount of money receive money from the federal government rather than paying taxes.
This is a more efficient way to redistribute money. While a minimum wage is basically a tax that discriminates against businesses that use cheap labor — like fast food restaurants — the earned income tax credit could be financed through a broad-based tax that doesn’t encourage one business model over another. A tax credit could also be targeted at the people who most need it: the working poor, who are on their own or raising a family. A minimum wage hike, on the other hand, would benefit some people it’s not intended too, like middle-class teenagers with after school jobs.
So why are we still so hung up on the minimum wage when better tools are available? Krugman gives two answers:
“One answer is political: What a shift from income supports to living wage legislation does is to move the costs of income redistribution off-budget . . . But I suspect there is another, deeper issue here–namely, that even without political constraints, advocates of a living wage would not be satisfied with any plan that relies on after-market redistribution. They don’t want people to “have” a decent income, they want them to “earn” it, not be dependent on demeaning handouts.”
The first point seems particularly applicable to our current political environment. The near constant battle over the budget is already savage and melodramatic. Why add another wrinkle when we can just sign into law a redistribution program that doesn’t effect the federal budget and will at least help some deserving low-income workers?
While this impulse may be understandable, it doesn’t make a minimum wage hike the best policy. And since a Republican Congress would likely be more amenable to expanding tax credits than to raising the minimum wage, this proposal seems more like a political gesture than a serious attempt to improve the lives of the working poor.