Author:Bourne, Ryan
Position:ECONOMICS - Minimum wage

The economic case for increasing the Federal minimum wage is quite dubious.

TRADITIONALLY, government interventions tend to be justified as helping correct "market failures." In certain situations, the private interactions of companies and consumers are said to produce economically inefficient outcomes. Policymakers often imply that a regulation, tax, or subsidy can improve matters, raising societal welfare.

Labor markets theoretically can suffer from market failures, too. One example is a monopsony--an instance where one firm is the single purchaser of labor. As the sole buyer, a monopsony company's demand for workers is the market demand. Rather than hiring the staff it needs at the prevailing wage, the monopsonist's hiring decisions actually determine the market wage. This power leads the company to hire fewer workers than it would in a competitive market and at a lower wage rate.

Why is this? Since the supply of workers is sensitive to the wage the firm offers, increasing pay to attract an additional worker would mean having to pay this wage increment to all current workers, too. For a monopsonist firm, the total marginal cost of hiring someone exceeds the marginal cost of the additional worker's wages alone.

A profit-maximizing monopsonist therefore only will hire to the point where its demand for workers is equal to the total marginal cost of hiring. In other words, to maximize profits, the company will hold down the wage it pays to all its workers by limiting the number of people it hires. This results in economic inefficiency--workers do not find employment even where their productivity for the firm would exceed the individual marginal cost of hiring them. Wages and employment are below those seen in a competitive market.

Where monopsony power exists, a minimum wage floor skillfully set at the competitive wage rate therefore can improve economic efficiency. By removing the monopsonist's wage-setting power, it both will end pay suppression and actually raise employment (since the firm now will have no reason to restrict how much labor it hires).

In the past two decades, there has been extensive empirical back-and-forth on whether minimum wage increases reduce employment (as the competitive model of the labor market would predict). Although minimum wage campaigners exaggerate the balance of the literature, some studies have found that modest minimum wage hikes can have very small to no apparent negative direct effects on employment levels. Monopsony power is held up as a potential explanation for these results, although very few papers find a positive impact on employment, as the monopsony model would imply.

However, those advocating for a Federal minimum wage hike to $15 per hour today do not argue for higher wage floors on the basis of monopsony power, probably for good reason.

Bureau of Labor Statistics data shows that 80.3% of employees who are paid at or below the Federal minimum wage work in three industries: retail, leisure and hospitality, and education and health services. These industries do not tend to be characterized by companies dominating local labor markets. Indeed, using monopsony power as justification for a substantial Federal minimum wage hike necessitates a much broader claim: that all U.S. employers of low-wage workers have a degree of monopsony power.

No, Federal minimum wage hike advocates today argue that the level of the wage floor should be raised to fulfill other social policy objectives, such as reducing poverty or...

To continue reading