Minimum Wage and Prices

Most commentators probably realize that there are various ways a firm can respond to increases in the minimum wage. But, from what I’ve seen in the media (not in academic circles), most people only consider what the minimum wage will cost to the consumer if firms respond by increasing the prices of their product. But, thinking about, this strikes me as a strange way to talk about the costs of the minimum wage.

We know that how much of the minimum wage the firm can pass on to the consumer depends on the elasticity of demand,

demand elastic and inelastic

In the illustration above, the graph on the left has a demand curve that is inelastic relative to the graph on the right. Suppose each graph represents a different firm. The left-hand firm will be able to pass on more of the minimum wage cost to the consumer, because quantity demanded will fall to a lesser degree than for the firm represented on the right. (By the way, this is why labor unions are more effective when they’re unionizing labor for competitive monopolists. This is also why labor unions lobby their government to pass regulations — e.g. tariffs — that offer their industries monopoly rents.)

The demand curves for the industries most likely affected by the minimum wage — e.g. fast food, other restaurants, grocery stores, et cetera — are probably relatively elastic. What this means is that the firm’s ability to pass on the additional cost of the minimum wage to the consumer will be rather limited. This is one reason talking about product price and the minimum wage doesn’t make much sense to me.

The effects of a minimum wage are most likely seen elsewhere. Unemployment is the obvious alternative, but factors that give firms the ability to exploit labor may mitigate this to some extent. (“Exploit” has a specific, positive — not normative — definition: [MRP-W]/W; or the inverse of the labor supply’s elasticity.) Increasing the cost of labor can also reduce profits, which may be a disincentive to investment in the firm. One way or the other, the consumer is hurt by the minimum wage, but the least likely route is the direct one between increased input cost and increased output price.

2 thoughts on “Minimum Wage and Prices

  1. Pingback: Minimum Wage and Prices | Economic Thought | Un...

  2. Pingback: Minimum Wage and Prices | Economic Thought | Ec...

Leave a Reply

Your email address will not be published. Required fields are marked *