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Yes, Worker Pay Does Reflect Worker Productivity

One of the oddest arguments used in attempts to shoot down the standard economic case against minimum-wage legislation reared its head in a comment by Chris Oliver over at my friend Janet Neilson’s Facebook page.  (I do not know Mr. Oliver.)  Here’s Mr. Oliver reacting to Janet quoting my statement (from here) that “Employers, therefore, can afford to raise their workers’ pay only if their workers become more productive”:

This statement is flat-out untrue. It assumes that each and every business is running either right at absolute peak efficiency, or at the brink of inviability. Employers don’t pay employees what they can afford to pay, they pay what they can get away with paying.

The last sentence of this quotation from Mr. Oliver is true.  No serious economist has ever denied it.  But Mr. Oliver is mistaken to believe that the truth of his last sentence implies that my statement (quoted above) is wrong.  Employers raise workers’ pay in order to keep and to attract the best possible workers for the positions employers wish to fill.  The New England Patriots football team pays its starting quarterback, Tom Brady, millions of dollars a year not because the owners of the team are generous people but, rather, because they wish to keep Brady’s talents on their team and not see him flee to another employer.  What employers “can get away with paying” rises to reflect the value of the what employees produce.  (To my economist colleagues: please forgive me for here using rather lose language in not speaking about “marginal product” or “the marginal worker.”  My audience here isn’t economists.)

What’s true for Tom Brady is true for all nearly all workers in a competitive economy.  As long as workers have the option to leave one job for a competing job, worker pay gets bid up to reflect workers’ productivity.  (Ten months ago in the Wall Street Journal Liya Palagashvili and I summarized some of the empirical evidence on this matter.)

It’s tempting, I gather, for many non-economists to disbelieve this claim when it is made about low-skilled workers.  That is, many non-economists say that they believe that most, or at least very many, low-skilled workers are consistently paid less than the market values that they produce for their employers.  Yet not only is this stated belief difficult to square with high rates of bankruptcy of restaurants and other small businesses that employ lots of low-skilled workers, it is also difficult to square with the overwhelming inaction of the people who profess this belief to enter the market to take advantage of this allegedly large pool of consistently underpaid workers.

Remember, key to Mr. Oliver’s argument is his insistence that the economy is characterized chiefly by firms operating consistently inefficiently.

If Jones tells you that countless $20 bills are lying on the ground in a nearby park because the park’s current visitors are just too inefficient, too stupid, too bull-headed, too inattentive, too psychologically distorted, too whatever to seize these bills, surely you would ask Jones why he, himself, isn’t in the park scooping up these easy gains.  Surely the very fact that Jones is merely telling you about available profits without himself acting in a way that reveals that he really believes what he reports would spark in you great suspicion of Jones’s perception of reality.  Such suspicion would certainly be sparked in me were Jones to bring such intelligence to my attention.

Jones, of course, has a ready reply: “Oh, but I don’t have the knowledge, skills, or experience to go to the park to take advantage of the profit opportunity there.”  To which, were I you, I would respond: ‘Then why should I believe your report that these profits exist?  If you, Jones, are too inept to act profitably in this real-world setting, what reason is there to believe that your assessment of the details of this real-world setting is accurate?  The very lack of knowledge, skills, and experience that you plead as an excuse for your not taking advantage of the alleged profit opportunities mean that your insistence that these profit opportunities exist is untrustworthy.’

Note that if all that Jones reports is that from time to time, and in random places in the park, there are a few $20 bills on the ground, that would be believable.  As Janet says in her reply to Mr. Oliver, the argument isn’t that the real world is perfect and always, or even ever, optimal.  Rather, the argument is that in real-world markets inefficiencies tend to get competed away.  Some exist at every point in time, but huge inefficiencies do not last for long barring any government prohibition on the actions necessary to compete such inefficiencies away.  I’m quite certain, for example, that literally a few $20 bills are lying somewhere on the sidewalks of Washington, DC, near where I live.  But these profit opportunities are so few and their location ever-changing that it’s not worth my while to scour DC in search of them.  I would, however, swim across the Potomac if I had to if I truly believed that goo-gobs of $20 bills were lying unclaimed all across DC.

To be continued in a later post….