Who Ends Up Losing Their Job Under a Higher Minimum Wage?

The effects of a higher minimum wage on employment is likely one of the most studied issues in economics with a surprising result being that employment losses are not that high. Well that is surprising to conservatives who think markets are very competitive. To those of us who recognize the potential existence of market power on the hiring side, standard economic theory says that wage floors may actually increase employment in some markets. But let’s turn the microphone over to a couple of conservatives starting with a Grumpy Economist who must do empirical research as he feeds his children fast food:

A sturdy hike in the minimum wage, in today's economy, is basically an industrial policy subsidizing the transition to low-skill service industry automation.

And Greg Mankiw says this is a nice post? OK – I’m citing Greg as he cites a paper by David Lee and Emmanuel Saez:

This paper provides a theoretical analysis of optimal minimum wage policy in a perfectly competitive labor market and obtains two key results. First, we show that a binding minimum wage – while leading to unemployment – is nevertheless desirable if the government values redistribution toward low wage workers and if unemployment induced by the minimum wage hits the lowest surplus workers first. Importantly, this result remains true in the presence of optimal nonlinear taxes and transfers. In that context, a binding minimum wage enhances the effectiveness of transfers to low-skilled workers as it prevents low-skilled wages from falling through incidence effects. Second, when labor supply responses are along the extensive margin only, which is the empirically relevant case, the co-existence of a minimum wage with a positive tax rate on low-skilled work is always (second-best) Pareto inefficient. A Pareto improving policy consists of reducing the pre-tax minimum wage while keeping constant the post-tax minimum wage by increasing transfers to low-skilled workers, and financing this reform by increasing taxes on higher paid workers. Those results imply that the minimum wage and subsidies for low-skilled workers are complementary policies.

Greg’s reason for not buying this argument is:

Rather than providing a justification for minimum wages, the paper seems to do just the opposite. It shows that you need implausibly strong assumptions, such as efficient rationing, to make the case. I cannot see any compelling reason to believe that in the presence of excess supply of workers, the market will somehow manage to efficiently ration the scarce jobs.

Hang on a second – a conservative economist arguing that markets are not efficient? Puzzling!