$10 > $5 (although sometimes some people believe that $10 = $5)

by Don Boudreaux on April 22, 2017

in Reality Is Not Optional, Work

Earlier today I reconnected in Dallas with my old friend Charlie Steen.  Charlie was a year ahead of me in law school at UVA.  He also has a PhD in economics from UVA.  His undergraduate degree, in economics, is from George Mason University.  Charlie has practiced law in Dallas for the past twenty or so years.

Charlie today reminded me of a mental experiment offered either by Thomas Sowell or by my colleague Walter Williams.  The mental experiment is designed to show the job-destroying impact of minimum wages.  Here it is (in my words).

Imagine that you’re given the option of buying ten-dollar bills for $5 a piece.  How many will you buy?  The answer is obvious: as many as the sellers of these discount-priced ten-dollar bills will sell to you.  Of course, in reality $10 bills are never available for sale at $5 a piece.  Or are they not?!  In a very real way, reality does indeed sometimes offer such deals.  If a worker who can produce $10 per hour worth of output is currently paid by his or her employer only $5 per hour, a competing employer can profit by hiring, at some wage higher than $5 per hour, that worker away from his or her current employer.  Indeed, employers will compete for this worker until this worker’s hourly wage is bid up to $10.  (If you doubt this outcome, the burden is on you to explain why this worker’s wage will stop rising at some amount less than $10 per hour.  It’s a surprisingly difficult burden to meet.)

Now imagine that you’re offered the prospect of buying five-dollar bills for $10 a piece.  How many $5 bills will you buy at this price?  The answer again is obvious: none.  Even if you’re a billionaire, you have no incentive to spend $10 to buy a $5 bill.  The fact that you might be able to “afford” to do so is irrelevant.  If someone is asked to predict how many $5 bills, say, billionaire Nick Hanauer will buy if each of these bills is priced at $10, that someone would surely say “none.”  And that someone would surely be correct.

The minimum wage is economically identical to a scenario in which government prohibits the sale of Federal Reserve notes at any price below $10 each.  No bill worth less than $10 would be purchased.  No one will knowingly buy something worth only $5 for a price higher than $5.

The above example involving Federal Reserve notes is easy to grasp.  Yet change the item for sale from “five-dollar bill” to “low-skilled worker who can produce on average no more than $5 worth of output per hour,” and many people – including even some economists – somehow mysteriously find reason to believe that people will pay for $5 worth of value some price greater than $5.



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