A year or so ago, I was asked to give a talk. The topic was going to be on minimum wage. It seemed a very timely topic as proposals to increase the minimum wage either at the State level or at the National level were starting to gain some momentum. The speaking engagement fell through, and I was left with a set of not-quite-completed research.
Fast forward to present day, and the minimum wage is among the top headlines. The release of a Congressional Budget Office (CBO) report has reinvigorated the political battle.
The minimum wage debate often boils down to a single argument. The pro-raise side seems to accept the benefits of increased wages without criticism. The possibility of a down side is often dismissed, as the White House is doing with the CBO report. For the anti-raise side of the argument, the relationship couldn’t be clearer – a higher minimum wage equals lower employment.
These latest headlines have thrown the pro-raise side into a bit of a spin. Trying to piece together the discussion, it sometimes seems like they are claiming, simultaneously, several contradictory things. First, as the White House is arguing, is the claim that other studies showing no net job loss are in fact still correct and the CBO is incorrect in their analysis. Second, that even if there are job losses to the tune of 500,000, this figure is small and it will get lost in the noise of hirings and firings. Third, it is in the interest of the greater good to raise the wages of some 900,000 who will be lifted out of poverty, even at the cost of unemployment for 500,000.
The anti-raise side is pleased with the report, as the the CBO (which seems to be more often than not over-optimistic) has got the trend right, even if the magnitude might be lower than they’d like to see.
In a future essay, I will look harder at the link between employment and minimum wage. I’ve gone through some of the data behind the claim that raising the minimum wage will increase the number of jobs, and I have my concerns. But for today, I want to work through an example.
Let’s imagine that I run a sandwich shop, which we’ll call La Sandwich Shoppe. La Sandwich Shoppe is jointly owned by myself and two partners. I pay myself to run it, as well as pay dividends to my partners. My business is running pretty smoothly. I have a good, steady clientele, I can afford to pay all my obligations, and I’m satisfied with the way things are.
One day, the baker who supplies all my bread tells me that his prices are going to go up. It’s only a few cents per loaf, but since I’m making sandwiches, it turns out it’s going to cost me $10,000 more per month.
My first reaction is to look for a new bread vendor. But suppose that the baker, himself, is only reacting to market forces and all vendors are raising their bread prices. So after looking around, I remain convinced that my baker will continue to be the best for me, just now he is going to cost more.
Now what, use less bread? Depending exactly how I run my businesses, that might be easy or it might not. I could slice my bread a little thinner or use smaller rolls, but if my customers notice and decide that it makes for lesser sandwiches, I may lose them. Let’s just say that for $10,000 per month, I’m not going to change the makeup of my menu.
My next reaction is to do some hard analysis of my business. If I’m smart (and you should take me at my word – I am), I’m not going to let the reason I need to make changes affect the kind of changes I need to make. My problem is that my business is going to be incurring and additional $10,000 per month in expenses. To solve this problem, I need to cut $10,000. My brainstorming has come up some options which seem promising:
- 1 less employee
I’ve got 12 employees, and figure around $22,000 per year per employee in wages and associated costs.
When I look at how the work is done, I could probably get rid of the least productive worker and still be able to keep the business humming along. Getting rid of more than one person, though, is probably going to require getting a lot more out of the staff that remains.
Eliminating one position doesn’t come close to saving enough money, and trying to figure out how to increase productivity is something that I’ll have to come back to if needed. But for now, I’ll move on.
- Less dividends
One might assume that my investors are pretty well off, and it would be better to ding them with any economic hardship rather than my customers or my workers. So here, I have another obvious source of savings if I can’t come up with anything better. However, as I’ve said, I had things pretty well in balance before this increase, so coming up with some genuine cost savings is still the preferred approach.
- Reduce loan payments
Another significant cost to my business is servicing the financing on my equipment and my building. As it turns out, I took out loans at a time when interest rates were much higher. After calling up a couple of banks, I realize that if I restructure all of loans into a single payment, and refinance it at the currently-available low rates, I can actually save $12,000 per month in payments!
So… problem solved, right? I’ve managed to make up for the bread price and then some, without cutting any people or services. I bump up the dividends and all is well.
- The next time I am thinking about raising prices (maybe in response to price changes at my competitors), I remember that my costs have gone up. It makes it that much more likely that I add a little bit to my price.
- The next time an employee leaves, I remember that I figured out a way to do the work with one less, and maybe I don’t replace him.
In the short term, the increase in bread prices had a positive impact on my business. It forced me to revisit my financing costs, and the net savings meant more profit for my partners. Yes, that savings came out of the pocket of whoever held the paper on my old loans, but in the scheme of things that extra money in our local pockets seems to be worth more than a change to the books of some giant bank somewhere. But in the long term, the increase in costs is going to be a contributing factor to price increases or reductions in the work force.
Of course, the point here isn’t to hold forth on the impacts of the price of bread on a restaurant’s business. I wanted to talk about minimum wage.
The thing is, the analysis is the same. Let’s say I pay my employees an average of $8.50 per hour. The minimum wage goes up to $12.00*. That’s an average of $3.50 per hour. Multiply that by all 12 employees, factor in increases in payroll tax, benefit costs, it comes out to around $10,000 per month.
While my first instinct may be to fire someone to make the payroll balance out, if I’m smart (and I am, remember?) I’m going to look at the big picture and make up for the increase in minimum wage with a reduction in financing costs. in the long term, however, I’m going to come back to take a look at whether I need all 12 employees. In particular, that “worst employee” who looked worth keeping on at $8.50 per hour looks a lot less favorable at $12. The negative effects on employment may well only show up in the long term, making them impossible to measure in the kind of analysis that the CBO does.
For someone opposing the minimum wage hike, this negative force is apparent. It’s so obvious that it almost seems unnecessary to explain. So that seems to lead to simplifying the argument and saying that the jobs lost will be immediate and directly related to the wage increase. Of course, in some cases, I’m sure they are. In other cases, the effects will be over a much longer term.
I’ll return to those longer term effects in a future essay. Until then, enjoy every sandwich.
*Yes, that’s higher than the national proposal, and many of the State proposals. But it made the math easier.