Minimum Wage COLAs: Overstated Benefits & Hidden Costs

Support for minimum wage increases is based on the idea that a higher minimum wage will “help the poor” by increasing their pay and lifting them out of poverty. However, this perception is far from the reality. Minimum wage increases do not target the poor, they do not improve the lives and income of low-skill workers to the extent proponents claim, and they have many negative consequences—including lost jobs, reduction in workers’ hours and benefits, and higher prices for consumers.

In considering increases in the minimum wage, including an annual “cost-of-living” adjustment, lawmakers must consider both what is seen and what is unseen. Minimum wage increases have many unintended consequences. As basic economics teaches, when something costs more, we get less of it. The same is true for the cost of labor.

Lost Jobs, Lost Opportunities

An increase in the minimum wage raises the cost of doing business for employers. Where do employers come up with the additional money needed to pay these costs? Contrary to Marxist philosophy, most employers do not hoard money, refusing to pay workers unless government makes them. Employers are faced with several options—reduce their costs in some way (such as cutting workers or work hours or reducing benefits) or raising prices. For small business owners, their limited profit margins almost certainly force them to pass these added costs onto workers, or close shop. Even large, profitable businesses will either pass along these new costs to shareholders (including individual investors along with pensions and other retirement funds) or to consumers with higher prices.

Since Pennsylvania increased the minimum wage in January, there has been substantial evidence of employers responding to the minimum wage by reducing employment. I would point to a collection of stories compiled by the Pennsylvania Chamber of Business and Industry of employers laying off or hiring fewer workers. A recent Patriot News story also highlights Harrisburg-area employers struggling with a higher minimum wage, hiring fewer workers and increasing prices. The Lincoln Institute’s Business Climate Survey found that many employers are hiring fewer workers or cutting hours. I would also point to the actions of the General Assembly, led by Rep. Dwight Evans, to try to provide taxpayer funding to the Philadelphia Youth Network to pay the cost of the higher minimum wage—this organization offers summer jobs for teens, but cannot afford the cost of the higher minimum wage without taxpayer subsidy.

This anecdotal evidence of the effect of the minimum wage increase is useful as the effects are frequently lost in broader economic data, as I will discuss below. A common response for businesses with minimum wage workers is to not hire as many new workers, and often to avoid higher younger workers with few skills and little experience, along with raising prices. These are the “unseen” effects of a minimum wage increase—it isn’t easy to determine how many more jobs there would be, were it not for the minimum wage. The costs of a minimum wage increase are born by everyone—including minimum wage workers—through fewer hours, fewer benefits, and higher costs of goods and services. These effects diminish any positive effect a mandate higher wage may have.

Answering denials of negative effects on jobs

There has been a great deal of rhetoric put forth by proponents of raising the minimum wage that there are no such negative consequences. But these claims are not backed by evidence, and even these proponents back off such claims when pressed.

Recently, Governor Rendell issued a news release noting the Pennsylvania’s unemployment rate dropped since January, when Pennsylvania’s minimum wage increase began to be implemented. He cites this as evidence that the minimum wage had positive effects on workers and on the overall job market. However, these unemployment figures come with a caveat. According to the data the federal government uses to calculate unemployment, not only did the number of unemployed persons decline—but so did the number of persons working. Overall, July 2007 data from the Bureau of Labor Statistics (BSL) indicate 28,000 fewer Pennsylvanians are “unemployed” while 46,000 fewer are “employed” than in December 2006—meaning 73,000 individuals have dropped out of the labor force. This is not the mark of a strong economy.

However, neither the change in unemployment rate nor change in jobs can be attributed primarily to the increased minimum wage, given the number of factors that affect the state’s economy. In a 2005 study, the Commonwealth Foundation estimated than an increase of Pennsylvania’s minimum wage would result in 10,000 fewer low-wage jobs in the state (along with an economic cost of over $300 million). But in a state with almost 6 million workers, these lost jobs are certain to be obscured by other trends. Yet basic economics and nearly every academic study conclude that a higher minimum wage results in lost jobs and other economic costs.

Even economists who support a minimum wage increase acknowledge these negative consequences, but argue that a “small increase” will only have a minor detrimental effect on the overall economy. This is why no economist, nor any politician, would ever propose a minimum wage for all workers of, say, $327,000 (the minimum salary for a Major League Baseball player). Such an increase would clearly lead to a massive jobs lost and hyperinflation, which would send our economy into a tailspin.

But there are several economists and scholars who believe that a small increase in the minimum wage will lead to greater benefits for retained workers than the cost to the economy and workers who lose jobs. But these benefits are certainly debatable and merit further discussion.

Who benefits

While many proponents of raising the minimum wage feel they are help low-income families, many minimum wage earners are not poor. In fact, a Commonwealth Foundation analysis of BLS data indicates that in 2005, 70% of workers earning under $7.15 came from families with income over $25,000 and 39% had family income of over $50,000. Furthermore, 56% of low-wage workers were under 24 years old, and 46% lived with their parents. Only about 10% of low-wage workers were the sole income source for a family with children.

A Congressional Budget Office study looking at a federal minimum wage increase reaches similar conclusions. It found that less than 20% of workers earning $7.25 or less were from families in poverty. Well over one-third were earning over three times the poverty line for their family size. Over 56% of the earnings gains (assuming no job loss, for ease of calculation) would go to families earning more than double the poverty rate. The CBO concludes that a minimum wage increase, unlike programs such as the Earned Income Tax Credit, does not effectively target low-income families.

Furthermore, despite the rhetoric of minimum wage advocates, wages increase without government intervention. BLS data on minimum wage workers indicate that the number of minimum wage workers in the US declined from 4.8 million in 1997 (when the last federal increase went into effect) to 1.7 million in 2006. This decline occurred while the total workforce is growing. And few of the minimum wage workers in 2006 were earning the minimum wage in 1997—in fact a majority was 15 years old or younger in 1997. Most workers entering at the minimum wage will receive a raise, without government mandates. This evidence even indicates that the starting pay for many positions increases, again, without government mandates.

While an increase in the state’s minimum wage may provide a raise for some, it will come at the cost of jobs for others. But workers getting raises were likely to get these raises even without the minimum wage increase. Instead of “helping the poor” a minimum wage increase merely gives to some worker a pay raise they would have earned in the near future, while preventing many from entering into the workforce at all.

Finally, as discussed previously, there will be jobs and hours lost due to a minimum wage increase. What is even more problematic for those seeking to “help” the neediest is that the job losses are almost certainly going to be concentrated among the least-skilled workers—those who can least afford to lose their current employment. Few employers will pay (including the costs of payroll taxes and other expenses) a worker more that what that employee produces in value. Thus, a minimum wage effectively bans low-skill workers from obtaining jobs.

As some of the anecdotal evidence indicates, younger workers with little or no experience are first to be let go, and least likely to get hired at a higher minimum wage. These negative effects are also born by other workers with less experience and education—high school dropouts, those looking to transition from welfare to work, and so forth. It is these low-skill workers that are most hurt by a higher minimum wage; while the benefits will be absorbed by those with greater education, skill, or experience, including those seeking part-time jobs or a second income and those from higher-income families. A minimum wage increase costs many low-skill workers the opportunity to take the first step towards financial self-sufficiency and economic prosperity.

It is important that legislators considering an annual increase in the state-mandated minimum wage consider the unseen consequences of their actions. They need to consider the jobs lost, and those never realized, along with the higher costs. A higher minimum wage leads to lost opportunities that harm the very individuals that proponents ostensibly want to help.

Additional Commonwealth Foundation Commentary on the Minimum Wage:

Minimum Rationality on Minimum Wage

Lost Jobs, Lost Opportunities: The Reality of the Minimum Wage Hike

Letter to Governor Rendell on Minimum Wage

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Nathan A. Benefield is Director of Policy Research with the Commonwealth Foundation (, an independent, non-profit public policy research and educational institute located in Harrisburg, PA.