Tuesday, February 19, 2013

Two cents on the minimum wage

Once upon a time, the minimum wage, like free trade, was a basic test of whether you were awake in the first week of econ 1. We put a horizontal line in a supply and demand graph. Minimum wages increase unemployment of poor people.

It's  back of course. I won't review here the debate over Card and Kruger's provocative results, diff in diff estimators, empirical work without theory (is there really no substitution to capital or high skilled labor? Is the price elasticity really zero?) and so on. This is all low-hanging fruit. (See Greg Mankiw, who asks if $9 why not $20,  David Henderson's nice post with great quotes from Paul Krugman on just how bad minimum wages were before evil Republicans didn't like them, the Becker-Posner Blog, and Ed Glaeser, noting how minimum wages are hidden taxing and spending and better ways to achieve the same goals, and this clever Steve Chapman oped asking, why not fix prices lower instead?.)

Let's presume for the sake of discussion that a rise in the minimum wage would indeed not much change the demand for labor, the costs would just be passed on in the form of somewhat higher prices, with little decline in output -- as usual in non-economics, assume that all elasticities vanish.

It still strikes me, that like much of the current policy discussion, we're asking the wrong question. The question is not "is this great" or "is this terrible" but "does this have anything to do with current problems?"  The fiddling while Rome burns is worse here than the belief in minor economic magic.


President Obama's state of the Union Address  was to me, an interesting peek into the Administration's thinking, and a revealing piece of political rhetoric (I mean that in the good sense of "rhetoric," i.e. "what arguments we use to persuade people") 
...today, a full-time worker making the minimum wage earns $14,500 a year. Even with the tax relief we’ve put in place, a family with two kids that earns the minimum wage still lives below the poverty line. That’s wrong....

Tonight, let’s declare that in the wealthiest nation on Earth, no one who works full-time should have to live in poverty, and raise the federal minimum wage to $9.00 an hour. This single step would raise the incomes of millions of working families. It could mean the difference between groceries or the food bank; rent or eviction; scraping by or finally getting ahead. For businesses across the country, it would mean customers with more money in their pockets....
What caught my eye is the "family with two kids,"  "...millions of working families." It paints a grim picture: mom, dad, two kids, trying to survive one wage earner's full-time minimum-wage job.

My thought: What planet do the president's advisers live on? Come take a look, say, at the south side of Chicago, where I grew up and live, and where President Obama spent many formative years as a community organizer and so knows it even better. Is the first-order problem of these neighborhoods that its residents live in intact families with two kids, one full-time wage earner, trying to live on the wages from a full-time minimum wage job, but  having a tough time making ends meet? Is there anyone like this?

The tragedy of the neighborhoods around where I live, and President Obama used to live, is the vast number of people with no job at all.  How does raising the minimum wage for the few who have a minimum-wage job help the vast majority who have no job at all?

Minimum wages are about teenagers and young adults, most still living at home. It's about the "dating" phase of work-force attachment, where people learn the skills and habits, and make connections by which they can move up to better jobs when they are ready to have families.

"Families" is an interesting word as well. Marriage among lower-income Americans is rare, as President Obama made clear when he came back to talk to students at Hyde Park High school and made some controversial remarks about the absence of fathers.

For example in zip code 60619, just south of the University, there are "4,967 married couples with children, and 12,745 single-parent households (2,655 men, 10,090 women)." Here's the marital status chart.

What "family" means in this speech is, by and large, a single woman with children. I'm not starting a Murphy Brown argument, but it is an interesting use of the word. I wonder how many of the Republican ears in the audience listened to "working families" and heard "single women with children and no father in sight?" More worthy of our sympathy, indeed, but a very different picture of what kind of policies might actually work.

And even then, the modern Scrooge ("are there no workhouses?") might ask, "Is there no earned-income tax credit? Is there no home heating subsidy? Are there no food stamps? Is there no schip or medicaid? Have they not applied for social security disability? Are there no section 8 housing vouchers?"

The point is not to be heartless -- government programs or not, life on the lower end of America's economic and social spectrum is pretty awful.  The point is, if we seriously want to address the problems of the "working poor," if we want policies that actually work rather than spew a lot of TV time and make us feel good, let us paint a vaguely realistic picture of what their life is like. Absolutely nobody (except perhaps illegal aliens) is trying to support a family on $14,500 from a full time minimum wage job, period.  The actual economic life of the "working poor" is a welter of government programs, transitory employment, and a lot of illegal activity

And, one huge problem facing  people who do work full time and earn minimum wage is the astounding marginal tax rates that our various social programs imply.  In fact, much of the raise from $7.25 to $9.00 will be taken away. Even more of a raise to $20 an hour will be taken away. The structure of our programs that are supposed to help people are instead trapping them. (Previous posts here and here.)

Yes indeed, let us help families to "finally get ahead!" Let us talk about lousy schools, incentive-destroying social programs, horrendous violence, life-destroying incarceration, and the war on drugs run amok. The minimum wage may slightly help the few who can get such jobs, and put such entry-level jobs slightly more out of reach for many others. But it's just irrelevant to the real, first-order problems such families face.

The final line also caught my eye: "For businesses across the country, it would mean customers with more money in their pockets."  I wonder who signed off on that one.

Even if the Administration's theory works, it is exactly the same as a tax on sales of local businesses (i.e. cost passed on as higher prices) to subsidize employment. This is an interesting harbinger of things to come in the politics of budgets: Passing a national sales tax on businesses that employ minimum wage workers, to fund an on-budget subsidy of those workers' wages, would obviously go nowhere politically, and would count on the budget. But forcing businesses to do it, though economically equivalent, makes it looks as if the government is not taxing and spending as much as it is. 

And of course, that tax comes out of the very pockets it's going back in.  Back to Greg Mankiw's question about how much the wage should be: on this theory there is no limit!  If you pay them $20, then customers have $20 more to spend. If you pay them $50, then they have $50 more to spend.

Now we really have crossed the line, from serious economics, to fiddling while Rome burns, to believing in magic.

58 comments:

  1. Great insights. My main problem with the minimum wage debate is that I'm seeing a lot of economists and other econ bloggers use arguments that rely on theories of monopsonist employers, efficiency wages, etc. Using these arguments to defend the proposed minimum wage hike requires the assumptions that (a) the government is capable of determining the optimal wage implied by those theories, and (b) that optimal wage is basically uniform across industries and geography--for the entire United States! Both assumptions are laughable. The world isn't representative agent--if those models are in play here, there will be far more than just one optimal wage, and it's unlikely that $9/hour matches the knife-edge case for even a few of them.

    Further, while supporters are citing these models in defense of the policy, they aren't what motivates the choice of minimum wage. As you describe above, policymakers justify their choice by creating a hypothetical family and targeting its annual income, then working backwards to choose an annual wage. What is the probability that this approach will happen to land on the optimal figure implied by the theories? Zero, of course, so these arguments in favor of the policy are nearly irrelevant.

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    1. My concern is that ignoring laws of economics in one area leads to ignoring laws of economics in other areas (price caps, compensation caps, production volumes directives, etc). This coupled with the disregard for certain legal laws and regulations by the admin/govt (bankruptcy, transparency, immigration enforcement, information provision deadlines, etc.) places us in very uncomfortable territory.

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  2. My son didn't do well in high school (straight C grades, just enough to keep out of trouble). But the best thing that happened to him was that at about 16 he got a minimum wage job in a local (upmarket/trendy) toy-shop. It was pretty much minimum wage. Within 2 years he was the buyer for all their Legos and a shift-manager whenever he worked, around the holidays managing lots of 50-60 something women who just liked to work that period for a bit of extra money. Now, ten years later, he is a manager at a video game company.

    If he'd never got that job I'm not sure how well things would have turned out. I think that is more typical of a minimum wage job than the mythical breadwinner of a family.

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  3. Professor, great post as always.

    I'm glad you brought up the drug war and "first order problems". I hear the words spending, poverty and gun violence in the MSM and am stunned that liberals and the President refuse to put "rethinking American drug policies" on the front burner. It saddens me that someone in the admin (probably correctly) calculated that suggesting an assault rifle ban and an increased minimum wage would win more votes than decriminalization and rehabilitation. You would figure someone who knew South Chicago would know better.

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  4. On this subject as on the income tax, the Ironman of Political Calculations has done a lot of work. Here is link to a page with his essays on the subject of the minimum wage:

    http://politicalcalculations.blogspot.com/search/label/minimum%20wage#.USPKhjfpo1I

    His most recent piece, contains some good insights:

    http://politicalcalculations.blogspot.com/search/label/minimum%20wage#.USPL5Dfpo1J

    "But when we adjust for the effect of inflation, we see that the total amount of money paid out to 15-24 year olds in each year is almost identical! In a sense, it is almost as if the employers of U.S. teens only have a fixed amount of revenue that they can use to pay them."

    "Because the employers of 15 to 24 year old Americans don't have any more money available in real terms to pay their workers than they did in 1994, an increase in the minimum wage forces a reduction in the number of hours in which those Age 15-24 can be employed below their 1994 level."

    There can be little doubt that an increase in the minimum wage would have a very serious and negative impact on the employment prospects of young people.

    The real question is political. The people who the proposal would hurt are a group that supported Obama by a large margin. Is he advocating this policy because he has only contempt for them, or is that he is so deluded about the economy that he thinks he is helping them?

    Ignorance? or Malice?

    Either answer is frightening.

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    1. Empirical data for the effect of minimum wage on teen unemployment.

      http://consultingbyrpm.com/blog/2013/02/i-get-empirical-on-minimum-wage.html

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  5. What is motivating the President here? Who exactly is calling up representatives and demanding support for higher minimum wages? There must be someone.

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    1. there are 330 million people who are behind it, who look up at a political avenue to feel good about themselves.

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  6. Well, what about Australia? The minimum wage there is about 16 CAD ($15,80). The current unemployment rate is 5.4%. Care to explain? Good luck! Furthermore, any extra money minimum wage employees earn, they will spent immediately (workers do not save, they spent). Oh, and they have universal health insurance in Australia (single-payer, called Medicare). Paul Krugman is absolutely right. Market-based solutions are not always the best. It is more complicated.

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    1. There are other factors to account for. Australia is doing better than the US, but also has a more market based economy according to the Index of Economic Freedom. Their government controls a smaller portion of their GDP than ours. and is less burdened by regulations and bureaucracy. Still, Australia would likely be better off if they abolished their minimum wage and liberalized their healthcare market.

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    2. The minimum wage in Australia is much lower for younger workers, which limits its damage. See here.

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    3. and a can of coke cost $1.67 in OZ vs. $0.72 in the US which is 230% higher and is the also about the difference in wages...

      it's all nominal.

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    4. 5.4% Unemployment in Australia. In what universe? Hop on a website and talk to someone living in Australia. Ask about Junior wages, how long it has been since they worked, if ever... Australia is crumbling. And the universal healthcare? Ask an Australian citizen. Aboriginal people have free healthcare. The FEW employed foot that bill.

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    5. Nothing you said is actually factual.

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  7. I think the lesson to take from all this, is that in order to get a seat at the table (Kruger being a US President's economist) you have suspend logical thought and spout magic. That study on min wage got him a seat. He picked 1 instance, in 1 state, in 1 industry and rode that to the top simply b/c he told a politician (ie the people) what they want to hear...make me feel good about myself after my crappy day at work and sitting in traffic staring at bum in an intersection.

    I no longer blame individuals, I blame the system. It's amazing to me how the state can require conformity and subservience to dine at its table of divine power. We are getting an upfront seat of how Rome burned, enjoy the view...

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  8. I always scratch my head that the president and other democrats can't really think like this. Can they be that stupid? The alternative is far worse, that they prefer policies that destroy our economy, hoping to be able to pick up the pieces and reconstruct the society they want.

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  9. http://oregonstate.edu/instruct/anth484/minwage.html

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  10. President Obama is a great magician from Chicago. The art of magic is misguided attention. Magician Obama has shown a great ability to discern what mercantile, populist nostrums, class envy and any form of divisiveness can be stimulated, and to play those divisive sentiments for his political gain. Obama knows that public opinion polls supports minimum wage legislation, they always have and he’s using that to show that his opponents are heartless plutocrats who should be deprived of political power. Meanwhile, his oponents are distracted into economic analysis of his proposal rather then his voodo economics. He’s opened the campaign for Congress and his proposal is not a misguide attempt to help the poor but a bold attempt to demonize those who understand economics as heartless and greedy, unworthy of political power.

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  11. John, so what is your solution? Your point is minimum wage is irrelevant, but that is only a part of what Obama proposed. Do you disagree with all 3?

    "...The Chicago visit completes the president's three-state tour to promote the proposals and themes he laid out in the State of the Union, including: universal pre-school; raising the federal minimum wage to $9 an hour; and the revitalization of neighborhoods—including 20 to be labeled "Promise Zones"—with the help of federal assistance.

    "

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    1. I'd rather let the whole country be a promise zone - but focused more on the federal government getting out of the way than "federal assistance", thank you.

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    2. It would be interesting if you could elaborate on why scandinavian countries have significantly fewer of these problems, despite their governments being heavily involved

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    3. Unlike some bloggers I don't claim to know the details of every country on earth, and have diagnosed all their problems (aah, "but in Ecuador in 1962, they tried that..."). The only thing I know about Scandinavia is the great "European unemployment dilemma" by Tom Sargent and Lars Ljungqvist
      http://www.jstor.org/stable/10.1086/250020
      As I remember, they made a great point: Sweden's unemployment insurance came with a stick, you have to sign up on a national job registry, and if an offer came through you took it or lost benefits.
      As I think about the US, limiting benefits in time seems the only way to both offer substantial help to the unfortunate but not turn it in to lifelong 100% + marginal tax rates.

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    4. Didn't we have welfare reform in 96? I thought our benefits are also limited in time

      It seems quite relevant to the conversation regarding helping the poor to know in detail how other countries have done it or are doing and what sort of effects they experience on both poverty and economic growth

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    5. John,
      Quit debating the lowest common denominator and use those TV appearances to explain how the min wage does more harm than good regarding the poor. Understanding the min wage helps peels back the political curtain.

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    6. Who says Scandinavia is doing well?

      Norway's household debt to disposable income ratio is over 200%. Denmark over 300%. Finland 100%. Sweden is about 175%, almost double since the mid-90s.

      Housing prices in Sweden have tripled since 1995. Half the mortgages are floating rate. Unemployment is close to 8%.

      Meanwhile exports to the EU have - as one might expect - fallen considerably.

      Canada, another bastion of socialism, isn't doing much better. Both Canada and Scandinavia are bugs looking for a windshield.

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    7. Last time I checked, nobody is getting shot in downtown Stockholm or Montreal on a regular basis, unlike Chicago

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  12. When you cited, "For businesses across the country, it would mean customers with more money in their pockets", and proceeded to ask, "I wonder who signed off on that one", it occurred to me that shame may be one solution to why otherwise intelligent reasonable economists (Romer comes to mind - never mind that she happens to come from the People's Republic University) - transform themselves into political hacks automatically after stepping into the White House.

    If we could make it imperative that each economic assertion, theory or plan be signed and duly endorsed by name from the economist that suggested it or approved it, their red faces will give them away in the next faculty or alumnae meeting.


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  13. I generally agree with your skepticism of the minimum wage--first, the minimum wage is primarily about people whose living expenses are paid by someone else (ie, teenagers); second, the arguments for a welfare-improving minimum wage are rather dubious, even if its true that it doesn't reduce employment.

    To debate a couple of points though:
    "Is there no earned-income tax credit? Is there no home heating subsidy? Are there no food stamps? Is there no schip or medicaid? Have they not applied for social security disability? Are there no section 8 housing vouchers?"
    Actually, for the most part no. Most of those are state-level programs that have been scaled back. If you are a working childless adult you can qualify for food stamps and, in most states, nothing else, regardless of income. The ACA medicaid expansion would have let childless adults also qualify for medicaid, but this was struck down, so most states won't enact it.

    " the costs would just be passed on in the form of somewhat higher prices,"
    This is not what most advocates seem to think will happen. Their analysis basically presumes a pervasive monopsonistic wage-setting, so we will see corporate profits fall, with no change in prices. I will add that if you take New-Keynesian models literally, if prices did rise, then this would, in the current liquidity trap, also increase output and employment (see paradox of toil).

    As a final point, Krugman seems to believe that complementary policies are even better than stand-alone policies. So the existence of EITC (which childless adults generally don't qualify for!) is no reason not to hike the minimum wage. In a world where all policies have imperfect enforcement, two is better than one.

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  14. www.nmtelegram.com/2013/02/20/mayor-says-it-isnt-up-to-city-hall-to-enforce-minimum-wage/

    I've been in NM for the past few days and happened to see this on the local news. Albuquerque citizens voted to raise the minimum wage. The owner of the Route 66 Malt Shoppe refuses to comply. The mayor and the city attorney are giving it the same treatment Eric Holder gives the TBTF banks, while the owner of the restaurant drapes himself in MLK's civil disobedience speeches.

    Furthermore, the employees agreed to work for less than the new minimum wage to keep the restaurant open and save their jobs. Consenting adults can't enter into wage contract to save their livelihoods.
    http://www.kob.com/article/stories/s2935132.shtml

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  15. Greg Mankiw has hit the nail on the head. Does the administration believe that a rate higher than $9 will harm employment? If yes, they have conceded on a main debating point. If no, why not go higher? Is Congress holding back their target? What rate would they choose if they could guarantee its passage into law?

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  16. Thanks for the post. There is a typo in "See Greg Mankiw, who asks if $9 why not $02," where "02" should be "20".

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  17. Have you seen the recent Boston College study linking a 1% rise in minimum wage to an over 2% increase in violent crime?

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  18. John

    You have convinced me.

    Instead, why don't we let workers set their wages by the same means as the boss does.

    Take your favorite restaurant, McDonalds. The head of that outfit has appointed several of his friends to a committee that sets his compensation, with full access to all the books of the Company.

    Let's just let the workers at the local McDonalds do the same: form a committee of their friends and set their own wages. Force McDonalds to open its books and let employees set their own wages.

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    1. That's what unions used to do. The fact they are irrelevant in the US today is one of the main reasons for falling worker pay and "free trade" with China...

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    2. If the workers at McDonalds were capable of doing the financial analysis you suggest, they wouldn't be working at McDonalds, nor would their wages be a concern.

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  19. It seems to me that the picture of South Chicago is exactly what one would expect from a policy of free trade. There are no jobs, for they have all been shipped to China.

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  20. The one price that the public and government's are completely in love with fixing, is also the one price that can be fixed without causing waste. Must be destiny.

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    1. Paying wages above the market rate does not cause waste?

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  21. Many incomes at the low end are based on the minimum wage. Hotel housekeeping staff, Walmart employees, etc.

    Since we produce roughly 2% more per year on average, consumption must also increase about 2% per year. The only way this is sustainable is if incomes of consumers increase about 2% more than inflation. The fact that lower/middle incomes haven't kept up with production is a big part of our economic problems. Until 2007, consumers borrowed to make up for lagging incomes. Now that they are deleveraging, the economy is weak - and will continue to be weak until incomes increase or borrowing resumes. Which is sustainable?

    There is no getting around the fact that low consumer incomes = low consumption = weak growth. Legislation isn't a perfect way to achieve higher incomes but the only other realistic options isn't ideal either - more unionization and more strikes.

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    1. Your view is simply not reality. The way to increase incomes is through productivity increases. A mandated rise in the minimum wage, on top of not really helping anyone since it will only increase prices, would do nothing positive to increase productivity.

      Furthermore, I think that the actual buying power of the low wage workers has actually increased in the last twenty or so years, certainly as a result of both technology and the lowered consumer prices due to globalization. You cannot simply look at income but you have to also look at what that income can purchase.

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    2. Which part of my view is not reality? Productivity is increasing, but incomes for the middle class aren't going up as fast. Why do you think they have so much debt?

      Sure, incomes for most people have outpaced inflation. But remember what inflation measures - the price of the same basket of goods and services over time. The only way living standards can increase is if incomes also rise with productivity. Otherwise, you fall behind.

      If you have an income that is the same (adjusted for inflation) as it was in 1980, you can only afford a 1980s lifestyle. No cell phone. No internet. No MRI. No Airbags in your car, etc.

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  22. Please sign the We the People! petition: Raise minimum wage to $19 per hour.
    http://wh.gov/ve6g

    If the petition meets the signature threshold, it will be reviewed by the Administration and the Administration will issue a response.

    The petition applies relevant aspects of the White House rationale for raising the minimum wage to $9 per hour.
    http://www.whitehouse.gov/the-press-office/2013/02/13/fact-sheet-president-s-plan-reward-work-raising-minimum-wage

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    1. Normally I would delete obvious spam like this, but I thought blog readers might enjoy the humor. Greg Mankiw says "why not $20?" I guess these guys took it seriously!

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    2. Heck why not $100 ? I know I want to eat $500 steaks and drive a 3 million dollar car, doesn't everyone?

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    3. It is bad for one person to consume 100 apples in 1 hour. By your logic, it would also be bad to consume 1 apple in 1 hour

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  23. It's all about the unions:

    http://online.wsj.com/article/SB10001424127887324048904578318541000422454.html?KEYWORDS=minimum+wage+union+support

    Berman explains that many (unknown exactly how many) union contracts are tied to the minimum wage. That is, raising the minimum wage will force increases in union wage levels for many industries. The effect -- less employment across the board, but a victory for unions. Is this President political? Nah, that would be too simple an explanation .....

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    1. If unions were bad for the economy, it should be booming right now! The economy also should have been struggling when union membership was at it's peak in the 1950s and 1960s. Unfortunately for union bashers, the opposite is true.

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  24. Here's another theory -- Obama wants to raise the min wage in anticipation of the Bernanke inflation hitting. Why wait for inflation to raise nominal wages when you can do it ahead of time? Maybe the $20 nominal wage, with a real of $6.50 in today's money, is not far ahead? Care to take a bet on that?

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    1. I would love to take a bet on that. Too bad you are anonymous (like me).

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    2. OK, you're on. I'll bet you two rounds of caipirinhas to be taken at the Veloso Bar in Ipanema, where we can watch for a moça dourada or some other equally beautiful sight. See you there in four years when the dismal presidency of Obama is finally over. I'll be the unemployed dude drinking at the bar. Saude!

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  25. "Minimum wages are about teenagers and young adults"

    That is contradicted by BLS statistics:
    http://www.bls.gov/cps/minwage2012.pdf

    "Minimum wage workers tend to be young. Although workers under age 25 represented only about one-fifth of hourly paid workers, they made up about half of those paid the federal minimum wage or less. Among employed teenagers paid by the hour, about 21 percent earned the minimum wage or less."

    So your thesis seems to be incorrect from a few angles.:

    1. Because young adults make up half of the low wage earners it as much about young adults as it is about older workers.

    2. Only 20% of working teenagers get paid minimum wage(or less). So to make a general statement about how low wage jobs is crucial to teenage work experience is just not matching the numbers.

    3. Is older worker, who needs a job, taking a job that a teenager would otherwise get really a bad thing?

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  26. Just want to say that the idea that minimum wage is just for "teenagers and young adults" is BS. Look at small towns in rural areas and find that the only employment besides educators at the local school and the farmers way out in the sticks are: Wal-Mart, grocery stores, gas station/quick shops, fast food joints (and one feed store in my home town). Grown adults working many to all of these jobs with teenagers struggling to find a part time work through high school because the employers know the adults need the work more. I know this because that's where I grew up and many others scattered across the country are as well. I worked along side these adults with 2-4 kids. I saw them scraping by to afford payments on their trailers and beat up cars that were rusting away.

    The idea you want think that allowing the employer the chance to pay them less is ridiculous! All it does it pad the employers' wallets with very little trickle down. Many times the argument is, "If they aren't going to pay what you want, then go somewhere that pays better." Well what if there is no alternative? What if all these places, that know they hold the only chance of employment, offer spare change for a full day's work? Tell the workers, "Take it or leave it"? Of course they'll take it! Because they have to. This would lead to the sweat shops and what is practically slave labor.

    Basically, minimum wage="I'd pay you less if I could".

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  27. What ever may be the wages the question rises whether its meeting the requirements of the labors or not. After struggling for a long while if the minimum wage would not be able to meet the requirement of the labor then its kinda no use at all. Any contractor employing labors under his supervision has to follow up with the latest terms and conditions legally which keeps utmost importance with the segment. Here is one web link I encountered that defines the latest and updated norms for the legal terms. Check it out here - http://www.replicon.com/labor-law-compliance

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