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Minimum and Average Wages

Posted By Don Boudreaux On March 24, 2013 @ 2:02 pm In Data,Seen and Unseen,Work | Comments Disabled

Sam, a freshman at the University of South Florida, writes to me by e-mail with this question; it’s a question prompted by a discussion that Sam had yesterday with some of his fellow students:

You said somewhere that cutting the minimum wage can cause almost everybody’s wage to go up even if the average wage goes down.  I thought I got it when I read it but I must not have because I did not explain it well to my friends….  Can you please explain it one more time?

I can indeed explain it (although I must say that I don’t recall specifically when, or even if, I posted on this precise topic).  I’m in a hurry today, so I won’t bother to search the Cafe’s history to find (if such is to be found) the post that I assume Sam remembers.

Suppose the legislated minimum wage is raised to $100 per hour.  One result would be that lots of workers lose their jobs (in the formal, statistically measured economy).  Only workers who, at the margin, add at least $100 per hour to their employers’ revenues would keep their jobs.  The measured average hourly wage of all workers in this scenario would be something higher than $100 (because the minimum wage is $100).

Now let this legislated minimum wage be cut to its actual, current level today (in the U.S.) of $7.25 per hour.  One result of this reduction in the minimum wage would be that many lower-skilled workers – those who, at the margin, contribute less than $100 per hour, but contribute at least as much as $7.25 per hour, to their employers’ revenues – will be hired and now work in the formal, statistically measured economy.  The measured average hourly wage of all workers in this post-wage-reduction scenario will certainly be lower – and very likely very much lower – than was the measured average hourly wage when the legislated minimum wage was $100 per hour.

Clearly, though, nearly all workers are better off at the lower minimum wage than at the higher minimum wage.  While some peoples’ hourly wage will fall because of the minimum-wage cut,* many people who were obliged to earn a wage of $0.00 per hour when the minimum wage was $100 per hour now earn some positive hourly wage between $7.25 and $99.99.  Effectively, these workers’ wages rise as a result of the cut in the minimum wage.  Certainly, the now-earned and now-measured hourly wages of $10.00, $34.78, $7.25, $8.50, and the like, pull down the measured statistical wage aggregates (“mean wage”; “median wage”) even though the workers earning these wages now earn more money than they did when (and because) the minimum wage was $100 per hour.  So, many workers who formerly could not find employment (and, hence, who took in $0.00 per hour for their unwelcome leisure) now earn some positive wage – albeit a wage below the former average wage (when the minimum wage was set at $100 per hour).

In the above example, most workers’ wages rise as a result of the cut in the legislated minimum wage despite the fact that the mean (and the median) wage falls.

…..

The first ‘real’ job I ever had was at Avondale Shipyards during the summer of 1975.  Between my junior year and senior year of high school, I was paid the then-minimum-wage of $2.10 per hour.  (Is it significant that I was a white kid from New Orleans’s suburbs, and that both of my parents then worked at the shipyard?)  In 2013 dollars, my hourly wage during that long-ago summer was $9.12.

My sense is that the national, legislated minimum-wage in the U.S., despite several nominal increases, has indeed been whittled down by inflation from where it was in the mid-1970s.  This fact is a blessing for low-skilled workers.  To the extent that inflation has reduced the real value of the minimum wage, one consequence has been entry into the formal workforce of many workers who otherwise would either have remained unemployed (and, hence, earned $0.00 for each hour they spent in unwelcomed leisure) or who would have found work only in the underground economy.

I do not know just how much downward pressure has been put on measured mean or median wages as a result of the entry into the workforce of low-skilled workers who find jobs only because the real value of the minimum wage has fallen.  I’m confident, however, that some of the much-trumpeted stagnation or fall in inflation-adjusted wages for ordinary Americans is a statistical artifact of the happy reality that lower real minimum wages over much of the past 40 years has encouraged the formal employment of low-skilled workers who otherwise would have remained unemployed.

…..

…..

* I shed no tears for such workers because their wages, when the legislated minimum wage was $100, were made higher only artificially – only by government artificially protecting these workers from the competition of other workers and by government artificially restricting the number of workers that employers could profitably hire.  Anytime suppliers face more competition, the pay they receive, ceteris paribus, for what they sell falls.

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