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Economists Have Long Been Aware of the Theory of Monopsony

Here’s a letter to a new correspondent:

Mr. C__:

Thanks for your e-mail.

You call my defense of Phil Magness – and his defense of the late Nobel-laureate economist James Buchanan – “unconvincing.” Your assessment springs from your belief that both Phil and I “cherry pick examples” of the mention of monopsony by economists who wrote prior to the 1994 publication of David Card’s and Alan Krueger’s famous paper. “Fact is,” you conclude, “almost nobody paid attention to labor monopsony until Card and Krueger’s paper appeared.”

With respect, I disagree.

I took intermediate microeconomics at Nicholls State University during the Fall 1977 semester. My professor, Lloyd Elliott, taught the monopsony model and explained how it can be used to justify minimum-wage legislation. I don’t recall which textbook was assigned, but this model was taught as a regular part of undergraduate economics instruction. And I’ve no reason to believe that my instruction at Nicholls State was in this regard unusual.

But you can be forgiven for putting little stock in my long-ago experience as a sophomore. More difficult to dismiss is another source of discussion of the monopsony model – one not mentioned in my earlier letter – namely, the famous textbook by Armen Alchian and William Allen, University Economics. I own the 1972 third edition. Discussion of the monopsony model and its implications for minimum wages appears on page 439. Using the familiar monopsony graph, Alchian and Allen explain how in theory a minimum wage can increase employment. These scholars then identify three reasons why minimum wages in reality are unlikely to have this happy effect. The third of these reasons is this:

[F]ew employers are large enough relative to the market from which they draw labor to have significant long-time effects on wages by individually varying their rates of employment. Over a longer period, the flow of workers from other employers and areas makes this case of little significance.

This third reason explains why few economists prior to the mid-1990s paid attention to monopsony: It’s a theoretical curiosity that’s not remotely descriptive of reality. I believe that the passion that some economists have, over the past quarter-century, developed for writing about monopsony reflects not an increase in monopsony power but a decrease in economic understanding among people who sport economics degrees.

If you disagree with my conclusion, then I put to you the same challenge that I put to others who claim to identify evidence of widespread monopsony power: Exploit this reality for your personal gain. Underpaid workers, like all under-priced assets, are profit opportunities. If you truly believe that American labor markets are widely infected with monopsony power, then prove it by putting your money where your mouth is. Start a company and hire underpaid workers on the cheap, but at wages above those that these workers are now paid. You’ll do well (by becoming rich) while doing good (by putting upward pressure on wage rates).

Donald J. Boudreaux
Professor of Economics
Martha and Nelson Getchell Chair for the Study of Free Market Capitalism at the Mercatus Center
George Mason University
Fairfax, VA 22030

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