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Australian economy: unions, minimum wages and unemployment
Gerard Jackson
Fallacies about the desirability of minimum wages are like noxious weeds, they just keep on returning. The ACTU (Australian Council of Trade Unions) is now pushing for another rise for the low-paid. In early 200 Grant Belchamber, the ACTU’s chief research officer argued that a study by the British Low Pay Commission had found that the last rise in the minimum wage had caused no “overall” effect on the country’s employment level. According to Belchamber the report was “the most authoritative and compelling report anywhere on minimum wages and employment”. This kind of economic nonsense is par for the course for Belchamber, and it’s basically what the ACTU is still serving up
Let’s be crystal clear on what genuine economics has to say about minimum wages. Effective increases in minimum wages will cause unemployment. The greater the increase the greater the effect on those the increase is supposed to help. An effective minimum is one that raises labour costs above market clearing levels. Therefore if any increase in the minimum wage still leaves it lagging behind market rates no unemployment will emerge.
Belchamber’s argument can only have any substance if wage rates are indeterminate, at least over a significant range of wage rates. The existence of such a zone would mean that wage rates could be increased without any detrimental effect on employment until they reach the zone’s maximum point beyond which the demand for labour becomes price sensitive. This reasoning could be used to argue that in the absence of union pressure employers could use their ‘superior bargaining power’ to force wage rates down to the bottom of the zone.
If such zones existed then employers would drive wage rates up to the maximum point and down to the minimum. The reason is that a gap between the maximum point and the wage being paid represents a pure profit to the firm. The more workers hired within the zone the more revenue for firms and the greater their output.
So they will compete against each other for workers until the wage rate reaches the top of the zone, i.e., the market clearing rate. The present situation of non-unionised subcontractors in the building industry, i.e., bricklayers, testifies to the fact employers will bid up wage rates when market rates exceed payments.
Whether indeterminacy or marginal productivity theory is used it is clear that below-market wage rates create labour shortages. Is there a shortage of low-paid workers? Quite the reverse. Large numbers of unskilled workers have been priced out of the market place. Attempts to effectively raise minimum rates will only add to their numbers.
This brings us to study by the British Low Pay Commission. There is only one thing to say — these studies are not only worthless they are destructive in the hands of unions. That the study found that the last rise in the minimum had no “measurable impact on overall employment” is what discredits it. There is no reason why every increase in the effective minimum should have a general effect on unemployment.
Minimum wage rates usually apply to a small section of the workforce. Even a marginal increase in this section’s unemployment rated can be concealed by rising employment elsewhere. But this kind of thing is bound to happen when dealing with aggregates. So the study would have to deal directly with this section. Even then a number of factors would have to be taken into account.
If demand for this type of labour is increasing then even an effective rise, if it is not too large, might not cause any unemployment if employers expect demand for their products to continue rising. This is because increasing demand would cut the real cost of labour and hence the increase in the minimum wage rate. If, however, employers’ expectations of demand are disappointed then people will be laid off. The time, if long enough, between the increase in the minimum and the rise in unemployment could lead some to conclude that the two are not connected.
Another factor is location. Demand for this particular type of labour could be rising in one region and literally be stagnant in another. The result of an effective increase in the minimum could apparently still see unemployment fall in the former region and rise in the latter, ironically giving the statistical impression that there had been no “measurable impact on overall employment”. Moreover, increases in labour costs can frequently be eliminated by inflationary policies designed for that very purpose. This is the key to Keynesian full-employment policies.
Fortunately we can call on economic history (the economist’s laboratory) to put some flesh and blood on our analysis. America provides us with abundant examples of the damaging consequences of effective minimum wage rates. In 1948 the minimum wage in the US had been effectively repealed by war-time inflation, a fact was reflected in the very low levels of unemployment for teenagers, with the black teenage unemployment rate being 9.4 per cent and 10 per cent for white teenagers. The minimum was raised in 1950 and again in 1956 causing youth unemployment to leap, with the greatest increase being among black teenagers.
Pro-union economists still argued that the rise in teenage unemployment had nothing to do with minimum wages. Professor Orme W. Phelps (Introduction to Labor Economics, 1978 edition) cited The Monthly Labor Review, 1950, which based its findings on Southern sawmills. This actually showed that there was a general increase in investment and wage rates shortly after the minimum was introduced. Also cited was Studies of the Economic Effects of the $1.00 Minimum Wage, U.S. Dept of Labor, March 1997. This too was based on Southern sawmills and claimed that the increase in the minimum had little or no effect on output.
In language uncannily similar to the British report, the American study stated that “the minimum wage increase had not, by December 1956, resulted in any substantial changes in the economic situation of the nation as a whole, as measured in terms of employment, [or] unemployment . . . .” But as with the British case, free market economists did not say it would. What they did say is that marginal workers would be hit — and they were. Youth unemployment leapt in the US after these rises. A fact that Phelps carelessly omitted.
Returning to the first study will show just how defective this approach is. No sooner did Congress raise the minimum wage than the Korean War exploded. To finance the War the US government resorted to the printing press which in turn sparked off an inflationary boom that saw prices rise and unemployment dive from 5.9 per cent in 1949 to 2.9 per cent in 1953.
It was the boom and not the increase in the minimum wage that stimulated the Southern sawmills. The monetary brakes were rapidly applied pushing unemployment up to 5.9 per cent in 1954. Money supply was then relaxed and unemployment fell again, though not as low as previous levels.
These studies did not take account of monetary changes and their effect on the demand for labour, such was the Keynesian environment at the time, and that makes them as worthless as Belchamber’s comments. Unfortunately, to bring these facts to certain leading lights in the Liberal Party is to risk being insulted by some rich arrogant twit. No wonder it is losing the Labour Market Wars.
Gerard Jackson is Brookes’ economics editor
BrookesNews.Com
Monday 26 September 2005