Greg Mankiw Battles the Minimum Wage

Print
Sunday, 05 January 2014 08:49

Greg Mankiw uses his column today to take on the minimum wage. He criticizes President Obama for citing studies showing that the minimum wage has little or no effect on employment and points to studies finding that a higher minimum wage will lead to modest declines in employment. (See John Schmitt's excellent paper for a quick review of the state of the research.) Mankiw says that we should think of the minimum wage as a hidden tax that hits low wage employers.

Mankiw argues that if we want to help out the working poor then the best way to do it is to have an explicit tax and use it to fund a higher Earned Income Tax Credit (EITC). He argues that the EITC is a fairer and more efficient way to help low wage workers.

Let's give this one a bit of thought. First of all, Jared Bernstein has already made the obvious point that the EITC and minimum wage should be seen as complementary policies. If we raise the minimum wage then the EITC costs us less. This should be important, especially to people like Greg Mankiw, who on other days argue for lower taxes because they create economic distortions and reduce output. Since the low tax Greg Mankiw and his allies are likely to reappear in public debates when the issue is not raising the minimum wage, we should be mindful of how much money the government spends on the EITC.

We can also think about the incidence of the burdens from a higher minimum wage versus a higher EITC. In the latter case we would presumably be looking at an increase in the income tax as the source of revenue. (Mankiw may want to cut Social Security and Medicare, but let's not make this more complicated than necessary.) Since we will probably not be getting too much more out of the one percent in the current political environment, the funding for the EITC would have to come from more middle class types.

By contrast, the money to pay a higher minimum wage comes from several sources. As John Schmitt discusses in his paper, some of the higher wage will be passed on in higher prices. That will be like a tax in its incidence, as we all will pay a bit more for fast food and other items purchased from employers with a large share of low-wage workers.

However some of this will come out of the record corporate profits that we have seen in recent years. The Walton family may see their net worth fall by 10-20 percent, perhaps even slipping below $100 billion. (Handkerchiefs are on sale in aisle three). And part of the higher cost will be made up in higher productivity as turnover drops and employers learn how to use workers more efficiently.

So Mankiw's EITC option has the middle class paying more through higher taxes, while the minimum wage route has much of the cost being met through lower corporate profits and greater efficiency. This distributional impact should be front and center on the table.

There is another part of the story that should feature in the discussion. Mankiw sees a higher minimum wage as a tax on low wage employers. However the reason that we have so many people who are willing to work for $7.25 an hour at places like Walmart and McDonalds is because they can't get better paying jobs elsewhere. And the reason they can't get better paying jobs is that we have a government policy to run budgets that are not consistent with full employment.

In other words, we could spend more and/or tax less and thereby increase demand in the economy. This would increase output and employment and give these low-paid workers more employment options. However as a matter of policy we decided to have federal budgets that led to higher rates of unemployment. Rather than seeing the minimum wage as a tax on low-wage employers, we can see the government's high unemployment policy as a subsidy to low-wage employers. (Yes, this is a sales pitch for the free book I wrote with Jared.)

The point is that we have no virgin markets where the chips just fall where they may without the heavy hand of government. The question is who does that hand favor. Mankiw wants it to help the one percent, Jared and I would rather see it work to the benefit of the rest of the population.