Minimum Wage as a Price Floor: Arguments for Keeping It

Introduction: The Minimum Wage as a Price Floor

The minimum wage was created in 1938 with the enactment of the Fair Labor Standards Act. The hourly wage was initially set at twenty-five cents per hour. Today, the minimum wage sits at $7.25, up from just $5.15 in 2006. While some have pushed for increases to the minimum wage, others have argued for it to be repealed altogether. Both sides utilize a myriad of arguments — both economic and non-economic — to justify their positions. This paper argues that the minimum wage floor should not be repealed.

No matter what view of the minimum wage is taken, the floor represents a distortion in the price of labor, which for many businesses is one of their key inputs. In light of the near-limitless other market distortions present in the United States — including ones that directly impact the cost of labor, such as the structure of the health care system — it is unreasonable to single out the minimum wage for particular scorn. However, any distortion will have an impact on the way the market functions. Deciding what to do about the minimum wage ultimately boils down to an examination of the benefits and costs of the floor.

Impact on Employer Costs and Labor Demand

The price floor impacts the cost of doing business for employers. In a perfect market, a worker's wage would be determined by that worker's productivity. If the minimum wage is increased without a corresponding increase in worker productivity, then more workers at the low end of the wage scale become unprofitable. The predicted result is a decrease in demand for such low-end workers (Henderson, 2006).

This trend is often depicted with a gently sloping concave curve. A surface-level analysis concludes that demand for minimum wage workers would fall to zero if the minimum wage were raised to a sufficiently high point. It is worth considering, however, the point at which demand for minimum wage workers reaches its minimum. Minimum wage workers tend to be employed disproportionately in service industries. Their jobs cannot be easily offshored, so there is a demand floor for minimum wage workers. If current demand is above that floor, an increase in the minimum wage would result in a slight decrease in demand for minimum wage workers. However, that decrease in demand is mitigated to a significant degree not only by the demand floor but also by the lack of unskilled workers willing to fill minimum wage positions. In many parts of the nation — the current recession notwithstanding — even fast food outlets must pay higher than the minimum wage to attract workers. Companies that benefit in other ways from higher wages are already paying those wages (Krugman, 1998).

For workers, an increase in the minimum wage means better wages for most. In areas where unemployment rates are already high, some minimum wage workers would not only lose their jobs but may have difficulty finding new ones. The hardest hit by unemployment are young workers.

Effects on Workers and Long-Term Equilibrium

This raises an interesting point about long-term equilibrium. If young workers struggle to find work at the minimum wage, more will be encouraged to further their education so that they can find jobs in sectors where positions do exist. For companies, raising the minimum wage makes them less competitive on the world market. But American companies competing against China and the developing world on the basis of cost are ultimately doomed to lose. Increasing the minimum wage forces American companies to adopt a differentiated strategy, competing on the basis of innovation, development, and creativity. This is the case in northern Europe and Canada, where minimum wages are more or less reserved for students. Over the long run, American companies are compelled to turn to innovation, and American workers are driven to improve their education. Only in the short run does one see suffering in terms of job losses among workers who refuse to upgrade their skills and companies that insist on competing solely on price against foreign firms with deeply embedded cost advantages.

If the price floor were eliminated, the American economy would ultimately suffer. In the short run, firms would be able to hire more people, but at lower wages. This would create jobs, but would have a negligible impact on purchasing power, as companies would not spend more on wages overall — they would simply spread the same wage expenditure across more workers. There would be significant downward pressure on real wages. For many firms, however, competing on cost is a non-starter. Manufacturing companies often cannot sell at lower prices than their Chinese counterparts even if they paid their workers nothing. There is little economic value in winning the race to the bottom, at least not for an established economy.

For unskilled workers, the downward pressure on real wages would likely drive many to the welfare rolls. Aside from young workers, minimum wage workers are not the most motivated of employees even under favorable conditions. Reducing their wages would convince many to drop out of the workforce altogether — and this would not come through an increase in skills. The resulting shortage of workers would make it difficult for firms to expand. Those who do remain in a low-wage environment are often caught in a vicious cycle of high turnover and low productivity (National Council of Churches, 2006). The psychological impact of a downward drift in the minimum wage would only exacerbate that problem, as workers find themselves and their labor devalued. There is little incentive to work harder if doing so will ultimately price them out of a job.

Conclusion: Why the Floor Should Be Maintained

No author. (2006). Business owners, CEOs say higher minimum wage good for business. National Council of Churches. Retrieved November 5, 2009, from

Krugman, P. (1998). The living wage. Retrieved November 5, 2009, from