So Los Angeles is raising its minimum wage to $15 an hour by 2020, and then indexes the wage to inflation, so that it will never fall below this level in real terms.
The politicians who have passed this law are understandably very excited that many low-wage workers – perhaps almost half of the city’s labor force – will be getting raises, some from the current minimum of $9. I’m sure the workers themselves are pretty excited about having more money in their pockets. What’s less clear is what happens next.
The existence of studies that seem to show minimal economic impact from minimum wage increases has caused many policy advocates to act as if we can assume that very high increases, like this one, can transfer money from the pockets of the affluent into the pockets of the poor without causing big disruptions. This is wildly beyond what that evidence shows, or could show.
The studies in question covered small increases in the minimum wage over short time frames. They cannot tell us what will happen with big increases over longer time frames (and neither can flat international comparisons, which get influenced by local economic conditions– for example Australia, frequently cited by proponents of the minimum wage, has been having a decades-long commodity boom that is now ending).
This matters. It is over longer periods that a minimum wage hike is likely to be most disruptive.
When the minimum wage goes up, owners do not en masse shut down their restaurants or lay off their staff. What is more likely to happen is that prices will rise, sales will fall off somewhat, and owner profits will be somewhat reduced. People who were looking at opening a fast food or retail or low-wage manufacturing concern will run the numbers and decide that the potential profits can’t justify the risk of some operations.
Some folks who have been in the business for a while will conclude that with reduced profits, it’s no longer worth putting their hours into the business, so they'll close the business and retire or do something else. Businesses that were not very profitable with the earlier minimum wage will slip into the red, and they will miss their franchise payments or loan installments and be forced out of business.
Many owners who stay in business will look to invest in labor-saving technology that can reduce their headcount, like touch-screen ordering or soda stations that let you fill your own drinks. These sorts of decisions take a while to make. They still add up, in the end, to deadweight loss – that is, along with a net transfer of money from owners and customers to employees, there will also simply be fewer employees in some businesses.
The workers who are dropped have effectively gone from $9 an hour to $0 an hour. This hardly benefits those employees. Or the employee’s landlord, grocer, etc.
There are secondary effects beyond the employment market. Proponents of a higher wage are claiming that this will boost the local economy by putting more money into the pockets of workers. This is the same sort of argument you frequently hear for the construction of massive new sports complexes. But of course, the money has to come from someone else’s pocket – the customer and the employer.
What were those people doing with it? If the answer is “buying stuff from Amazon,” then maybe diverting more money to wages is a net gain for the Los Angeles economy. But if the answer is mostly “buying stuff produced in LA” – for example, paying rent, or buying services performed by low-wage workers – then this is like trying to get rich by picking your own pocket.
There’s no question that the wage increase will transfer money around within the economy – out of the pockets of commercial landlords, for example, and into the pockets of folks who own real estate in low-rent districts. But little evidence has so far been offered that any boost in local spending will cancel out the deadweight loss, much less exceed it.
This is not a prediction that the new minimum wage will turn Los Angeles into a howling commercial wasteland where survivors pick over the corpses of the fallen because there’s nowhere to buy gas or groceries. Economists tell us we have to think on the margin – not ask whether everyone who currently makes minimum wage will become unemployed, but to ask whether some jobs will be forced out of existence, and if so, how many.
There’s no way to say until the new wage is fully phased in and we have years of data. But it seems unlikely that you can increase the minimum wage by 65 percent, mandating higher wages for almost half of your workforce, and be confident that the other effects will be small.
If I had to lay money, I’d put it the other way: The effects will be significant. The long-term result will be higher wages for many low-wage workers, but the desperation of unemployment, or a forced relocation, for many others.
Megan McArdle is a Bloomberg View columnist who writes on economics, business and public policy.