What Will Happen to the Economy If We Raise the Minimum Wage?

Today, fast food workers in 150 cities in 33 countries all over the world are protesting for higher wages and the right to unionize. In the US, those workers are demanding a bump in their salaries from $7.25 — the federal minimum wage — to $15. Meanwhile, horrified CEOs sputter prophecies of economic doom on cable news, and researchers snipe about methodology in academic journals.

The latest fight over the minimum wage in America is on, and it is ridiculous.

Convincing publicly held fast food behemoths to more than double the base salaries of its employees may be a pipe dream. But there's a government-mandated, across-the-board minimum wage hike that actually is on the table. A proposal from President Barack Obama and Congressional Democrats would raise the federal minimum wage from $7.25 to $10.10 an hour. That's a 39 percent increase, which sounds like a lot, but in real dollars it would make the minimum wage about what it was in the late 1960s. Local campaigns are seeking even higher minimums in 23 states and cities including Seattle, where a mayoral panel is debating a $15 minimum wage to be implemented over several years. Business groups and economic libertarians oppose the hikes and, in some cases, the legally mandated minimum wage itself.

Aside from the moral and philosophical dimensions of the issue, both sides argue that raising the minimum wage would have sweeping effects on the economy. Proponents on the left say it will help ease our worsening income inequality and stimulate consumer spending. Last December, the progressive Economic Policy Institute released a report claiming that Obama's proposal would create 85,000 jobs. The following month, 600 progressive economists signed a letter calling for the increase to $10.10 in part because it “could have a small stimulative effect on the economy.”

It's on: The biggest fast food strike in world history has started. Read more here.

Meanwhile, opponents on the right warn of higher prices, job losses, and small-business collapse. Former McDonald's CEO Ed Rensi summed up this viewpoint when he told Fox News host Neil Cavuto last August that a $15 hourly minimum would “absolutely” kill jobs, and that 15 percent to 20 percent of small businesses would “go away.”

So who's right and who's wrong? Nobody and everybody.

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“This is a political debate, not an economic debate,” says Christopher Thornberg, founding partner of Beacon Economics, an independent research and consulting firm that advises local and state governments in California. “You've got two groups of poseurs out there, one on the right, one on the left, who claim to be doing real economic research. But the answers have been handed down to them by their donors. What you're really getting fed is a big pile of crap from both sides of the fence.”

The economics of the minimum wage are complex enough, and the historical record inconclusive enough, that economists can make arguments either way. So they do.

A controversial February report from the Congressional Budget Office (CBO) was widely publicized as estimating that the $10.10 minimum wage would kill 500,000 jobs. But the report actually said the net job loss could be anywhere from zero to 1 million — not exactly a helpful estimate. The CBOs conclusion wasn't even based on original research — it was "synthesized" from existing studies of state-level minimum-wage raises in the past. Some of those studies found there were negative effects on employment. Some didn't.

While nearly all economists accept the general (but not always true) principle that increasing the price of something — in this case, labor — results in fewer people purchasing it, low-wage employers don't have that much payroll fat left to trim. In other words, staffs are already extremely lean, workers are laboring at higher capacities than ever, and someone will still have to flip burgers. “I think everybody who's reasonable on the issue realizes that it doesn't really have all that much of an impact," Thornberg says. "I look at Australia, where the minimum wage is $19 an hour, and the economy is fine. They don't have high unemployment, widespread small-business loss, none of that."

Rather than cutting jobs, businesses employing low-wage workers offset wage increases in other ways, says Michael Reich, professor of economics at the University of California, Berkeley, and coauthor of one of the two studies on which the CBO primarily based its estimates. When wages are higher, employees stay longer in their jobs, and that saves employers the expense of hiring and training new workers. “Employee quits fall substantially in what are often 100 percent turnover industries.” Or, as he put it in a piece on Politico, “We do not find evidence that raising the minimum wage kills jobs, but we do find evidence that it kills job vacancies.”

But businesses will raise prices! Not really, actually — there's little evidence of the kinds of across-the-board inflationary increases that conservatives fear. “Restaurant prices increase on a one-time basis of about 0.7 percent for each 10 percent increase in the minimum wage — not enough to affect sales,” Reich says. “Prices do not increase by detectible amounts in any other sectors.”

Let's say a Big Mac costs $5 now. Raise the minimum wage to $10.10, and it'll raise the price of the Big Mac to about $5.14.

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If a higher minimum wage isn't going to destroy the economy, it's not going to be a magic pill, either.

“There's only a fuzzy relationship between a wage rate and the income of a family,” says Richard Burkhauser of Cornell University and the American Enterprise Institute, one of seven economists invited to comment on the CBO report before its publication.

Although about 16 million workers would get a raise under the $10.10 proposal, some of those workers are already making something near the new minimum, so the raise would be extremely small. In addition, some of the workers live in households that are already above the poverty line — teenage children of working parents, for instance. And in some poor families, the wage-earners already make more than $10.10 an hour when they're working. The problem is that they aren't working enough.

“If you care about the working poor having enough income, just affecting that wage rate is not a very effective way of increasing the income of the people that you want to most help," Burkhauser says. "There's a much better way to reduce poverty that will have no negative employment effects: the Earned Income Tax Credit.” The EITC is the federal program that pays a refundable tax credit to the lowest-income households, especially those with dependents.

Along with the much-touted projection of 500,000 jobs lost, the CBO report estimates that, on balance, about 900,000 people (or roughly 300,000 households) would be lifted out of poverty by a $10.10 minimum wage. Which is great, but that's less than 2 percent of the 47 million Americans who currently live in poverty.

“[The CBO's] best judgment was that it would have a modest negative effect on employment and a modest positive reduction in poverty rates,” Burkhauser says. “So while I agree that the minimum wage is not going to be a disaster that will throw multiple millions of people out of work, it's also not going to be very effective in fighting poverty. We have much better mechanisms for doing that.”

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Raising the annual income of the lowest-paid workers to $20,200 is not exactly going to narrow the gap between them and the 1 percent.

“This has nothing to do with the Koch Brothers and the Romneys of the world,” Thornberg says. “Don't pretend for a second that this is going to fix inequality problems.”

Most anything that would potentially fix those problems isn't currently politically feasible in the US. As a symbol, as an ideological tenet, and as a point of principle, raising the minimum wage remains a subject of passionate debate. Which is not to say it would be without consequence — it will certainly affect many low-wage workers and the small businesses that employ them. But when it comes to the economy as a whole, don't expect a higher minimum wage to change much of anything.

“I don't think the center of this should be the macroeconomic debate,” Thornberg says. “The center should be, is there a group of people out there who really deserve a leg up? I think the answer is yes. But I can't believe the junk that comes out on both sides of this thing."

Follow Jason Toon on Twitter: @jasontoon

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