The True Cost of a Higher Minimum Wage

It's clear that income inequality is a crisis worth addressing. It's not clear that a higher minimum wage would address it.
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Reuters

In his speech at the Center for American Progress this week, President Obama devoted considerable time to an issue suddenly much in discussion: the minimum wage. This is not a new debate. In fact, it neatly echoes the last time Congress raised the minimum wage, in 2007, which echoed the debates before that. Few economic issues are such sweet catnip to ideological camps, and there is precisely zero consensus about whether these minimums have positive, negative or no effect.

Supporters say that a higher minimum wage will give people a better standard of living and boost consumption. Detractors argue that it will lead companies to hire fewer workers and kill job creation. One thing no one addresses, however, is that regardless of whether the government raises the minimum wage, our society can’t endlessly coast with a system that includes wage stagnation for the many and soaring prosperity for the few, nor can the government snap its legislative fingers and magically produce income. Someone will pay for these increases; nothing is free.

You wouldn’t know that from the tenor of the debate. In Obama’s speech, he stated that, “it’s well past the time to raise a minimum wage that in real terms right now is below where it was when Harry Truman was in office.” He acknowledged that many resist the idea of mandating a wage above the current $7.25 an hour. “We all know the arguments that have been used against a higher minimum wage.  Some say it actually hurts low-wage workers — businesses will be less likely to hire them.  But there’s no solid evidence that a higher minimum wage costs jobs, and research shows it raises incomes for low-wage workers and boosts short-term economic growth.”

It was a robust, populist speech, and it triggered an inevitable retaliation on the right. “Mr. Obama wants to raise the minimum wage to please his union backers,” harrumphed a Wall Street Journal commentator. Jennifer Rubin of the Washington Post decried the idea as just more government wealth transfer, and she countered that rather than raising wages, “One way to lessen income inequality would be to stop transferring wealth from young to old.”

There is growing income inequality in the United States, which has accelerated in the past few decades. Wages for labor have flattened while capital has flourished. As Goldman Sachs chief executive officer Lloyd Blankfein recently remarked, “This country does a great job of creating wealth, but not a great of distributing it.” And he would know. The top 10 percent of earners in the United States have gone from constituting a third of all income in the U.S. in the 1970s to half today. The top 1 percent accounts for 20 percent of the nation’s wealth.

Meanwhile, the minimum wage of $7.25 an hour is actually much less than it appears, relative to the past. In 1996, the minimum wage was $4.75 an hour. Today’s $7.25 is only a few cents above that, when adjusted for inflation, and both minimum wages were significantly below the equivalent wage in the 1950s, 1960s, and 1970s. Today’s lower minimum wage has contributed to the rise in inequality over the past thirty years.

What’s not clear, however, is whether mandating a higher wage will do anything to change that. Nearly 20 states have a higher minimum wage than the federal rate. That means that the federal law has little effect in wide swaths of the country. What’s more, according to the Bureau of Labor Statistics, only 5 percent of all workers are paid at or less than the current minimum wage. Thus, increasing it will make precious little difference in most people’s lives.

Even an increase to $10, which is what Obama and others have proposed, would leave a family of two that depends on it with less than a living wage. Various programs, ranging from food stamps to the earned income tax credit to Medicaid, exist to close that gap. The proposed increase would only marginally improve the lives of minimum wage earners.

The oft-repeated warning that businesses will hire fewer workers or reduce wages is also unclear. Yes, businesses have already begun to cut hours in order to avoid paying workers various benefits, including healthcare. Under a higher minimum wage, a significant number of companies would likely trim payrolls in order to maintain profits.

Yet such actions are both short-sighted and inimical to collective prosperity. They are short-sighted because you can’t build a vibrant service- and consumer-oriented society with fewer and fewer people earning enough income to pay for the goods and services they need and want. They are inimical to collective prosperity because a dynamic society depends on a compact, often unwritten, that the proverbial deck will not be so unevenly stacked. That is not just true in a democratic society. In China today, one of the primary issues is the widespread revulsion against the corruption and enrichment of the elite. American companies may be profit engines, but they have a responsibility to the communities in which they operate.

The real problem with the minimum wage debate, however, is that it is a simple argument that masks some uncomfortable realities for all sides of the ideological spectrum. You cannot reduce inequality by the simple working of the unfettered free market, nor can you reduce inequality without money coming from somewhere. You cannot mandate an increase in the minimum wage without a concomitant increase in spending.

Other countries that have less income inequality possess characteristics that Americans of all stripes seem to reject. Germany, Japan and Scandinavian nations all have more government spending; higher costs of goods and services; higher taxes on goods, income, and services; and/or less wealth at the very top.

Americans, however, can agree on none of these trade-offs. Only a small percentage of people are willing to pay more for their goods and services — like organic food or artisanal goods. Americans always resist higher taxes, even when they only impact the rich, and the idea that incomes might be capped raises howls of protest.

In short, the black-and-white nature of the minimum wage debate obscures the fact that money doesn’t come from nothing. An increase in wages would require higher costs somewhere, lower incomes for the rich or larger amounts of debt. Those may be legitimate costs to bear, but we shouldn’t pretend that they aren’t an integral part of the equation. We also shouldn’t pretend that increasing the minimum wage is a good proxy for the debate over these issues.

We’d be better off starting this discussion about inequality and its consequences, the nature of a global capital system that sees capital pooling among the wealthy, and an expanding global middle class that is seeing its income increase even as affluent societies see theirs stagnate. Instead, we are left with the hollow symbolism of a minimum wage that few people actually earn, and which, if increased, will leave us no closer to addressing these issues. As the beginning of a discussion, it is welcome; as the end of one, it is one more distraction.


This post originally appeared on Reuters.com, an Atlantic partner site.

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Zachary Karabell is Head of Global Strategy at Envestnet, a financial services firm, and author of The Leading Indicators: A Short History of the Numbers that Rule Our World. More

At River Twice Research, Karabell analyzes economic and political trends. He is also a senior advisor for Business for Social Responsibility. Previously, he was executive vice president, head of marketing and chief economist at Fred Alger Management, a New York-based investment firm, and president of Fred Alger and Company, as well as portfolio manager of the China-U.S. Growth Fund, which won a five-star designation from Morningstar. He was also executive vice president of Alger's Spectra Funds, which launched the $30 million Spectra Green Fund based on the idea that profit and sustainability are linked. Educated at Columbia, Oxford, and Harvard, where he received his Ph.D., he is the author of several books, including Superfusion: How China and America Became One Economy and Why the World's Prosperity Depends on It (2009), The Last Campaign: How Harry Truman Won the 1948 Election, which won the Chicago Tribune Heartland Award, and Peace Be Upon You: The Story of Muslim, Christian, and Jewish Coexistence (2007), which examined the forgotten legacy of peace among the three faiths. In 2003, the World Economic Forum designated Karabell a "Global Leader for Tomorrow." He sits on the board of the World Policy Institute and the New America Foundation and is a member of the Council on Foreign Relations. He is a regular commentator on national news programs, such as CNBC and CNN, and has written for The Wall Street Journal, Newsweek, Time, The Washington Post, The New Republic, The Los Angeles Times, The New York Times, and Foreign Affairs.

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