Minimum wages are intended to help lower-paid workers increase their incomes. Do
ID: 1110117 • Letter: M
Question
Minimum wages are intended to help lower-paid workers increase their incomes. Do they?
A minimum wage boosts the wage employers must pay for unskilled workers above the equilibrium wage. If the equilibrium wage is $4 per hour, a minimum wage of $5 per hour reduces the quantity of labor demanded. If the demand for unskilled labor is elastic, then the higher wage reduces not only employment opportunities but the total income of unskilled workers as a group. (The higher minimum raises the incomes of those workers who keep their jobs, of course, but it cuts the incomes of workers who lose their jobs to zero. With elastic demand, this latter effect dominates, and the total income earned by unskilled workers falls.)
If, however, the demand for unskilled workers is inelastic, then a higher minimum wage will increase the incomes of unskilled workers. It will still reduce their employment, but because their wage rises by a greater percentage than employment falls, total incomes rise.
Evidence on this important point is mixed. Studies that look at the impact of higher minimum wages on particular demographic groups, such as teenagers, generally show that increases in minimum wages tend to increase incomes, suggesting inelastic demand. A study of higher minimum wage by Peter Linneman of the University of Pennsylvania, however, looked at the impact of higher minimum wages on those workers whose wages would be affected when the minimum was increased. For those workers, Mr. Linneman found the demand to be elastic, so the higher minimum wage lowered their incomes.
1. Relate the alternative effects of a minimum wage in this reading to the substitution and income effects
2. The argument is made in this article and in the text that an improvement has occurred if the total income of unskilled workers increases even though many formerly employed workers are now unemployed. Is such a situation better in your opinion?
Explanation / Answer
2. These types of situations are not better as the advantages of having an increased total income resulting from the increased wage rates will be advantageous to only a handful labours only when the demand of labour is inelastic in nature. If the demand of the labour is inelastic in nature, then the effect of increasing the wage rates will be greater as it will improve the total income of a greater number of people than the negative impact of this practice on the number of labours. Thus these benefits will be enjoyed by those workers who are able to retain their jobs but the negative impact will be experienced by those who lose their jobs and thus the advantage for them will be zero.
The above-stated opinion depends on the assumption that the nature of the labour demand is inelastic and the percentage if an increase in total income is more than the percentage of loss of jobs.
References
Linneman, P. (1982). The Economic Impacts of Minimum Wage Laws: A New Look at an Old Question. Journal of Political Economy, 90(3), 443-469. doi:10.1086/261069