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Minimum Wage: Can Government Fix the Economy?

The story we’re telling ourselves about this presidential election is that Americans are angry. We aren’t paid enough and housing and health care costs keep going up.  Meanwhile, the rich get richer and the system tilts toward them and away from us.  Somebody ought to do something.

Since people don’t have an obvious target to lash out at, many are taking it out on “establishment” politicians. Hence the rise of Donald Trump and Bernie Sanders.  Meanwhile, a growing number of people support unprecedented hikes in the minimum wage.  New York and California and the City of Seattle have put in motion minimum wage hikes of up to $15 an hour.  If the past is an indicator, more states and cities will soon follow suit.

Many Americans are legitimately dissatisfied with their economic progress.  The tepid recovery has left too many workers unemployed and it has held down wage increases for those with jobs.

Still, do we really think mayors, governors and presidents will solve our economic problems? Neither Trump nor Sanders nor Hillary Clinton can deliver the jobs they promise. The economy just doesn’t work that way.  It doesn’t care who is in the White House or the governor’s mansion.

Perhaps the most troubling manifestation of this popular angst is the minimum wage hike. While it’s painted as a hand up to the working poor, it’s really about raising everyone else’s wages. Research shows, and the politicians know, that most of the benefit of hiking the minimum wage “trickles up” to the much larger number of workers making more than the minimum wage. One possible explanation for this is that as the lowest paying firms raise wages to the new minimum, firms further up the ladder will have to raise wages to be able to compete for workers.

The bigger problem is that raising wages by government fiat can really screw up labor markets. The cost burden falls disproportionately on small- and mid-sized retailers, restaurants, low-skill manufacturers and nonprofit social service agencies with low margins. These business owners already are struggling to cover the rising costs of health insurance, workers’ compensation and regulatory compliance.  They also have to compete with big box retailers, restaurant chains and overseas producers.

The weak economy and strong competition make it hard to pass cost increases on to consumers. If wages rise faster than product prices, many small and mid-sized companies will reduce labor costs by investing in machinery and other labor-saving strategies.  How many new self-service lanes have you seen open up in your local grocery store?

But lost jobs will not be the worst part for low-skilled workers.  Setting a high minimum wage creates a moral hazard for them.  Large numbers of working poor will be conned into thinking they don’t need to build up their human capital to earn a decent living. They will avoid the time and expense of extra training that might help them advance. They will find themselves trapped in low-skill jobs.

If politicians truly wanted to help the working poor there are much more effective strategies. For example, states could institute a refundable earned-income credit for qualified workers.  Or, they could reimburse low-wage workers for the federal payroll taxes they pay.  Approaches like these would send the benefits directly to the working poor, minimize labor market disruptions, reduce overall costs, and distribute those costs across all taxpayers, not just low-profit margin business owners.

But that is the political appeal of these big minimum wage hikes. Who wouldn’t want a pay increase when someone else pays for it?

We just shouldn’t kid ourselves that this is for the working poor.

Blaming politicians for our problems and then looking to them to solve them is not a promising strategy.  The hard fact is the only ones who can improve economic conditions for ordinary Americans are ordinary Americans. Real economic change won’t come from politicians. It will come from employers who help their workers become more productive and competitive. And it will come from ordinary people themselves, doing the hard work of boosting their human capital.

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