Here’s another example of the “small truths, big errors” rightist rhetoric I wrote about recently: Sam Bowman says the minimum wage should be abolished to help the unemployed.
Now, unlike some on the left, I’m happy to concede that orthodox economics applies here, and that lower wages would create jobs. The question is: how many?
This in turn rests upon two questions:
1. How much would wages fall if the NMW were abolished? One possibility is that they’d drop a long way. There’s an excess supply of labour, and some workers would be willing to accept low wages, knowing that their incomes will be topped up by tax credits*.
On the other hand, though, the very fact that the NMW has existed has created a social norm that £5.93ph is an acceptable minimum wage. Workers would feel insulted to be offered less than this. And employers would be loath to cut the wages of existing employees below this, fearing that it would lead to widespread shirking.
2. What is the price elasticity of demand for labour? One thing tells us that it can’t be very high - the introduction of the NMW in 1999 did not price many workers out of jobs. On the other hand, though, something else tells us that it might be high; the increased supply of labour created by immigration did not bid wages down much**.
Let’s stick some numbers on these competing alternatives. In the best case, wages fall 30% and the price elasticity of demand is 1.5. We know that minimum wage employment, at the last estimate, was 747,000. Multiplying through then gives us job creation of 0.3 x 1.5 x 747,000 = 336,150.
In the worst case, there’s a 10% wage fall and a 0.5 elasticity, giving us new jobs of 0.1 x 0.5 x 747,000 = 37,350.
With official unemployment at 2.45 million, this implies that abolishing the NMW would cut unemployment by between 1.5% and 13.7%. The mid-range of these estimates is only slightly greater than the sampling error (pdf) of the official measure of employment.
Now, you might object here that I’m ignoring the possibility that abolishing the minimum wage would also lead to wages falling for those paid more than the minimum, so more workers would be priced into jobs. However, the evidence suggests that the introduction of the NMW did not raise wages for workers outside the bottom decile (fig 2.15 here), so it’s hard to see why abolishing it would lead to lower wages.
The notion that abolishing the minimum wage will create jobs is, therefore, a small truth. To argue otherwise requires some heroic assumptions.
What’s the bigger truth that it’s hiding? Simple - that unemployment is a much bigger problem than can be solved by free market remedies alone.
* Deficit fetishists take note: abolishing the minimum wage would add to the deficit by increasing the tax credit bill.
** Illiberal rightists note: you can’t be an elasticity optimist when it comes to arguing for abolishing the minimum wage, but an elasticity pessimist when arguing against immigration.