Economics and the minimum wage

Most people think that economics is a highly mathematical science, abounding with spreadsheets and eyeshades and complex computer models.  That it is, but only because it tries to understand human behavior, a nearly unfathomable task. 

Economics is the study of how we humans decide to spend or save our hard earned money. It deals with demand and supply, and how business owners choose what to produce, and how much, depending on signals that they divine from consumers. It tries to understand what incentivizes job producers to hire workers and how to encourage them to hire even more.  But it’s all about human behavior, human thought, human decisions.

Government often tries to influence economic behavior.  They seek to assist the downtrodden, to regulate business, and to pick winners in new, exciting technologies. But do not neglect to recognize that government is a collection of humans who are governing humans and regulating businesses made up of humans.  So it is a true wonder that government seems to neither understand human behavior nor economics.

Here’s an example.  There is an ongoing effort to increase the minimum wage (currently $8.00 in Massachusetts).  The reasoning is that $8.00 per hour, or $16,640 per year, is not a “living wage”.  You may agree, or you may disagree.  Perhaps we should increase the minimum wage, or perhaps we should not.  But in any case, before making the decision, let’s try to understand what it’s all about. 

First of all, lets recognize that the minimum wage is paid to workers that are completely interchangeable. That is, they have no significant skills. If you are a minimum wage worker, it means that absolutely anyone can replace you. Once you have gained some expertise, such as how to operate a CNC milling machine, it is clear that not “absolutely anyone” can replace you, and you will earn significantly more than the minimum wage.

Now, a thought experiment.  Let’s assume that increasing the minimum wage is a good thing.  Further, we decide that it should be a very livable wage, so we set the minimum wage at $40 per hour ($83,200 per year). Let’s explore the consequences of this decision.

•  Imagine that your morning cup of coffee at Dunkin Donuts will now cost $8. 
• The neighborhood grocery store will install more self-checkout lines, reducing staff, and increasing unemployment.
• Manufacturing concerns will find that roboticized assembly lines are much more economically feasible, allowing them to shed workers.
• Service providers and call centers will determine that outsourcing of jobs overseas is increasingly prudent. Domestic employees can be dispensed with. 
• Overseas wages will be become drastically cheaper in comparison. Imports will increase, exports will decrease, and joblessness will inexorably creep up.
•  Students will determine that dropping out to earn this new, high minimum wage makes more sense than laboriously studying to learn new skills.

That’s pretty crazy, increasing the minimum wage to the point that it spawns inflation, demotivation, and increased unemployment.  Nothing good here.  But this is just a thought experiment.  What if we were to only increase the minimum wage to $10? The truth is, all of the above ills would still occur, but to a lesser, proportional, degree. 

Another way to attack the social issue of the minimum wage is from the other side.  Instead of artificially increasing the wages for unskilled labor, let’s increase the ranks of skilled laborers. By training and tutoring those at the bottom of the labor pool, we empower them to participate in our increasingly technical 21^st century economy. As a side benefit, this approach would result in workers with much higher, and well deserved, self-esteem and satisfaction. 

And by decreasing the supply of unskilled workers, we would, oddly enough, cause them to be in more demand with attendant higher wages.

That can’t be a bad thing. 

Socialization and social comity

President William Howard Taft

The CDC has spoken and we are fat. The worst state, Mississippi, has an obesity rate of 35%. Massachusetts, the third best, has nothing to brag about with nearly one out of four citizens tipping the scales at “unhealthy.” This 2011 study was based on self-reporting and people tend to gild the lily. Another more rigorous report which involved weighing participants estimates that 36% of all Americans are overweight.  We are in the midst of a true epidemic.

Obesity is serious because it increases the incidence of diabetes, heart disease, cancer, and stroke among other ailments. Quality of life is worsened and mortality rate increased. Obesity results in significantly elevated health care costs.  And while it is easy to make rationalizations, obesity is a choice. What and how much we put in our mouths, whether and how frequently we exercise; these are personal choices.

We hear the term “socialization” tossed about frequently. By this, we don’t mean the process of making your puppy play well with others, but rather, the spreading of risks and costs across a large group of people.

It is a familiar concept.  One common example of socializing risk is automobile insurance.  Every driver (at least in Massachusetts) is required to carry automobile insurance.  In a given period, not everyone will have an accident, but everyone pays premiums.  The unlucky few who actually suffer a loss are compensated from the pool.

But this is not, in itself, socialization of risk.  If a 19-year-old from Roxbury paid a premium based on his actual risk of loss, it might be $10,000 per year.  Meanwhile, a 50-year-old woman in rural western Massachusetts might pay only $400.  But that’s not how we do it.  The state, in its wisdom, has deemed that we should all pay more so that the young scofflaw in Roxbury pays less.  This is true socialization of risk, the salient point being that it is actuarially unfair. (Unfair in that the woman from western Mass, along with most of us, pay more than we should while the young man pays far less than he should). This leveling of risk premium removes from the young man in Roxbury the incentive to drive exceedingly carefully.

In other words, socialization of risk distorts our decision making process and leads to more risky behavior (because risk, and hence cost to the individual, is subsidized).  It is always true that to get less of something, tax it; to get more, subsidize it. Subsidizing risky behavior is a sure fire way to get more.

Any form of national health care is another variety of risk socialization. Our increasingly socialized health care system does not charge premiums based on risk factors.  For instance, an inveterate rock climber does not pay higher health insurance premiums than you do, but she takes much greater risks.  Likewise, a motorcycle racer, skier, pilot, scuba diver, or lumberjack do not pay higher premiums than you do.  Health risks are subsidized.

It was different in an earlier era.

William Howard Taft, our 27th president, served from 1909-1913.  He was morbidly obese, suffered from high blood pressure, severe sleep apnea, and died of a heart attack. But at that time, each was responsible for his own behaviors and the resultant consequences. Taft ate richly and drank to excess, did not exercise, packed on the pounds, and suffered poor health as a result. But no one had to pay Taft’s physician except Taft.

In this day of increasingly socialized medicine, where poor personal choices engender no individual costs but burden the public fisc, it is difficult to observe such profligacy without comment, or at least smoldering resentment.  Socialization is making us downright rude.

But government, which is adept in creating such a mess, can further intervene. A recent article in The Telegraph (London) offered such a solution:

“Ridiculing someone as 'fat' or 'obese' could become a hate crime under an idea being floated by a group of MPs and a leading charity.”

This is a solution of sorts.