VIEWPOINTS : Minimum Wage, Maximum Controversy : Raising Lowest Pay Rate Could Hurt Economy

ERIC RASMUSEN is an assistant professor at UCLA's Anderson Graduate School of Management. IVAN PNG, currently on leave from the UCLA management school faculty, is a lecturer at the National University of Singapore School of Management

California took center stage last month in a major national debate when its Industrial Welfare Commission approved boosting the state's minimum wage for most workers to $4.25 an hour, well above the federally mandated level of $3.35 an hour.

In Washington earlier in 1987, Sen. Edward M. Kennedy (D-Mass.) and Rep. Augustus F. Hawkins (D-Los Angeles) introduced bills to raise the federal minimum wage to $4.65 an hour. And the AFL-CIO has made the minimum wage one of its chief legislative priorities, along with the trade deficit.

These efforts raise several crucial questions: How does increasing the minimum wage affect the employment of minorities and women, who form a high proportion of those employed at the minimum wage? What is the effect on the United States' balance of trade? And what is the effect on the California economy? Unfortunately, the answers are bad on all counts.

Put yourself in the position of a restaurant owner in San Francisco, a clothing manufacturer in Los Angeles or a cotton grower in the Central Valley. You hire unskilled workers--busboys, production workers, agricultural laborers--at or near the minimum wage. Overnight, your labor costs would rise. How would you react?

You could respond in a number of ways: pass the increase in costs to consumers through higher prices; substitute machines and more highly skilled workers for the unskilled; hire illegal aliens at the illegal free-market wage, or, if all else fails, go out of business.

All four moves would increase unemployment among unskilled American workers, if not illegals. Even if employers simply raise the prices of their products, jobs ultimately would be lost. When the price of a product rises, the quantity demanded declines, and hence the amount of labor needed to produce it falls. Thus, the benefits of an increase in the minimum wage for unskilled workers would be short lived, on the whole.

Admittedly, the many unskilled workers who manage to keep their jobs after an increase in the minimum wage find themselves making more money. The key question, though, is whether the higher incomes of some workers outweigh the drawbacks of widespread price increases for consumer goods and lower profit for employers, along with the rising joblessness.

The decline in demand for unskilled labor has wider implications--for the AFL-CIO, for the trade deficit and, in the case of the recent increase, for California.

Why would the AFL-CIO make the minimum wage a top priority? Because one of the key options employers have is to hire more skilled labor, who ostensibly are more productive--and no longer much more expensive--than unskilled workers. Skilled workers make up the bulk of the membership of the AFL-CIO, so increased demand for skilled labor means higher wages for its members. The minimum wage helps older skilled workers in particular by prohibiting employers from training young workers in exchange for paying them a low wage at the start of their careers.

Given the vast size of the California economy, the nation's overall trade deficit will be widened by the state's minimum wage boost, which takes effect July 1. The extent of the damage hinges on how many California firms can pass on higher costs to customers. Businesses in China and Australia may not pose a threat to the San Francisco restaurant, but they do to the clothing manufacturer and the cotton grower.

If California firms raise their prices for garments and cotton, consumers everywhere--in California, in other states and throughout the world--will adjust by buying from other suppliers. Consequently, our exports will fall and our imports will rise.

To some extent, California firms are shielded from foreign competition by the cost of transport along with tariff and trade laws.

That is not true, however, of competition from other states. Nothing protects California businesses from clothing made in North Carolina, oranges grown in Florida or even vacations in Utah and Arizona.

We have seen how rising wages in the United States over the past decade have driven American industry to set up shop in foreign countries with cheaper labor. A unilateral increase in the California minimum wage has equally serious long-term implications for the state economy.

The higher cost of labor will make California less attractive to investors. More high-tech companies will set up in Oregon and Arizona, agricultural companies will gravitate toward Texas and Florida and so on. These negative consequences are a major reason most states prefer to hold to the federal minimum wage; any state that unilaterally raises its own minimum wage will only hurt itself.

Fortunately for the California restaurant industry, a "sub-minimum" wage of $3.50 an hour was adopted for workers who make at least $60 a month in tips.

This is an encouraging sign, indicating that the Industrial Welfare Commission is willing to make some exceptions. Perhaps in the future there will be more exceptions, for teen-agers or workers in industries most likely to move to other states.

Now that the special interests have succeeded in raising the California minimum wage and are pushing hard to raise the national standard, we need to watch out for the possible imposition of tariffs and other trade barriers against foreign goods.

Back in the 1890s, it was said that "the tariff holds the little man down so the trusts can go through his pockets." We hope that history will not repeat itself 90 years later.

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