Acton Institute Powerblog

Paying Higher Wages Is Smart—Forcing Everyone to Do So is Dumb

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gaplogoThe furniture store Ikea has announced they will begin to base their minimum pay on what’s considered to be a “living wage” in each local area, rather than on what competitors are paying. Similarly, the clothing retailer Gap says it will set $9 as the minimum hourly rate for its United States work force this year and then establish a minimum of $10 next year.

This makes good business sense — but will lead to a lot of bad economic reasoning.

A prime example is the latest column by Slate’s business and economic writer, Jordan Weissmann:

Notably, Ikea isn’t raising prices on its furniture to pay for the raise. Instead, the company’s management says it believes the pay hike will help them compete for and keep talent, which is of course good for business. The Gap used a similar justification when it announced it would raise its own minimum to $10 by 2015.

Which I think hints at something about what would likely happen if the U.S. raised the federal minimum. Conservatives who argue that higher pay floors kill jobs tend to assume that businesses are already running at pretty much peak efficiency, and so forcing them to spend more on labor will lead to less hiring. But left-leaning economists see it differently. They tend to argue that increasing wages can lead to savings for business by reducing worker turnover, for instance, and forcing managers to make better use of their staff.

Both the conservatives and the left-leaning economists are largely correct. Higher pay floors do tend to kill jobs and increasing wages can lead to savings for business by reducing worker turnover. But where Weissmann and other liberals go wrong is in assuming that businesses can still prevent worker turnover when the minimum wage is increased.

The assumption is that paying higher wages increases worker satisfaction, thus reducing turnover. This is a reasonable assumption only it there is a price disparity between similar jobs. If I’m a teenager working at the mall getting paid $10 an hour to fold sweaters at the Gap, I’m not likely to leave to take a job at American Eagle for $7.25 an hour. But if every store in the mall (and every other job in my area) is required to pay $10 an hour, then I will make the decision to leave based on non-monetary factors (e.g., the girls working at American Eagle are cuter).

But there is another element that is often overlooked in discussions about minimum wage increases. Because of the labor price differential, Gap can be more choosy about who they hire; their willingness to voluntarily pay a higher minimum pay gives them an advantage over other employers since they’ll have more applicants to choose from. Unless their store managers are incompetent, Gap will only be hiring people whose labor is truly valued at $10 a hour. In other words, they will be getting what they are willing to pay for.

That is why conservatives are right when they say government-mandated pay floors kill jobs. Not only will businesses that were willing to pay more lose their advantage in hiring, those not willing to pay more will fire/not hire people whose labor is valued at less than $10 an hour. Once minimum wages are raised, turnover rates also increase as people decide to stick with or leave a job based on other factors. And the people who will never be hired (e.g., low-skilled workers, new immigrants) are shut out of the labor market completely.

So Gap and Ikea are making an intelligent business decision. But it’s only smart because they are free to make that choice for themselves. Mandating the government require a “living wage” is not only economically dumb, it’s uncompassionate and counterproductive.

Joe Carter Joe Carter is a Senior Editor at the Acton Institute. Joe also serves as an editor at the The Gospel Coalition, a communications specialist for the Ethics and Religious Liberty Commission of the Southern Baptist Convention, and as an adjunct professor of journalism at Patrick Henry College. He is the editor of the NIV Lifehacks Bible and co-author of How to Argue like Jesus: Learning Persuasion from History's Greatest Communicator (Crossway).