by Jack Roviere

Created on: March 09, 2007   Last Updated: July 25, 2008

Whether you are Republican, Democrat, Independent, believe minimum wages should be higher or that they should be lower are all political distinctions. Fortunately, the fact is that minimum wages have an empirical impact on the economy regardless of the party politics surrounding them.

Oddly enough, minimum wages, which are generally designed to help people move above and away from the poverty line, tend not to pull many out of poverty. How is this possible though? People are getting more money, right? So this is always a good thing, right?

Economics has a few answers. Minimum wage is an example of the economic term "price floor" - that is, an artificial rate that sets the lowest price a commodity can be traded for. In this case, the government is setting a price floor on labor and is establishing that $5.15 (which will be quickly rising to $7.25 as a result of new legislation) is the lowest that consumers of labor, businesses in the country, can offer the supply of labor, everyone in the labor for.

The problem with this type of price floor and all price floors is that, already, the demand curve for labor slopes downward (as wage rates increase, employers will demand less workers), and the supply curve for labor slopes upward (as wage rate increase, yes, there will be more people searching for jobs). The two oppositely sloping curves make an "x" and the center of that x is the happy equilibrium: just the right number of people demanded and supplied at the right wage. However, with the price floor, instead of having an equilibrium between the numbers of workers and the amount of people employers want to hire, a price floor makes more people want to work and makes employers want to hire less people.

Quite simply, you have a surplus of labor, which means greater unemployment.

This doesn't explain, however, why a higher minimum wage does not directly affect poverty as well as it should. Remember that a minimum wage raises employers' costs; it is not free money to workers. Because employers have to pay more, they must express this increased cost by raising the prices of the goods and services they provid, so because a company (such as Wal-mart) must pay their workers more, they have to also raise prices to cover the extra costs. In summary, minimum wage actually just inflates the prices of goods in such a way that instead of pulling people above the poverty bar, the poverty bar simply moves up with the people.

Minimum wage, however, has a long-term economic issue: it decreases people's willingnesses to specialize, which is important because specialization is the way that people most directly pull themselves from poverty. If a plumber is paid $8.00/hour (just hypothetically), and a grocery store bagger is paid a minimum wage of $5.15/hour, then the bagger now has an incentive of going to school to become a plumber and making more money. There then becomes a kind of hierarchy of jobs by their pay-grade, however unfortunate that is. However, if minimum wage is 7.25/hour (hypothetically), remember that the wages a plumber makes would not increase as well, so a person no longer has any incentive to gain more education or skills and advance.

Minimum wage is not all negative however. Going back to the downward sloping curve of the demand for laborers, realize that if employers can get labor for as cheap as possible, they would prefer to and will. This has explained slave labor in the past and now it explains current trends at providing illegal immigrants with work visas or outsourcing to countries with lower wage rates. The minimum wage serves as a regulation that keeps these employers from selling at high prices, paying their workers little, and making exorbitant profits.

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