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  • Writer's pictureOren Levin-Waldman

Contrary to the Neoclassical Model of Competitive Markets, Wages are not Set Naturally

Some small businesses, primarily restaurants, including fast food chains, still complain that they cannot find workers because of government programs that have effectively raised the reservation wages of their workers. This, of course, has created a moral hazard as workers have less incentive to return to work because they get more from non-work. Even if there was legitimacy to this claim, it begs a question: is it government’s responsibility to guarantee employers will be able to pay low wages for the sake of their profits?

One might think that as a matter of the public interest, the goal ought to be good wages that enable workers to live in dignity, and to be able to support their families. Defenders of the contrary opinion argue that minimum wage jobs are beginner jobs that enable young workers to get their initial experience in the labor market. This argument rests on the premise that most minimum wage workers, especially in the fast food industry, are for the most part teenagers. And yet, if the statutory minimum wage is nothing more than a reference point for wages around it in the larger low-wage economy, then the data in no way supports the alternative position.

On the contrary, “effective” minimum wage workers now comprise close to twenty percent of the labor force. And most of these workers are young single mothers. That they may be beginner jobs for many of these people only tells us that they lack skills. But lacking skills hardly constitutes a moral argument for why they should not be paid decent wages.

Low-wage workers are poorly paid because they are often working for labor monopsonies that have the market power to exert a downward pressure on their wages. Because most of these workers work for franchises, they are not in a position to be organized into labor unions that would afford them a measure of market power. In short, they have no power in a market where the balance of power between employers and workers is asymmetrical.

Defenders of the alternative position claim that wages are set naturally by neutral market forces of supply and demand. The greater the supply of low-skilled workers, the lower their wages will be. Labor market institutions like unions and minimum wages, as well as other government programs, only artificially inflate wages. But this assumes that wage-setting is a natural process. The neoclassical model of competitive markets, upon which this so-called natural process rests, does not account for power. On the contrary, there is no place in this model for power.

Low-wage workers work for low wages because they don’t have sufficient power to negotiate higher wages. The purpose of labor market institutions is to afford them a measure of market power. And this is a bad thing because employers may have lower profits? One might think from the language they use, especially given enhanced unemployment benefits, that they are entitled to workers willing to be paid their low wages.

One policy suggestion that falls under the rubric of wage policy, is for the government to be an employer of last resort. Here the government would create jobs along the lines of the 1930s Work Progress Administration for all those who want to work but are unable to find work. The wages they would be paid by ELR, as it has come to be known, would effectively be the putative minimum wage. This would effectively inform wages elsewhere.

If employers are arguing that public programs effectively force them to compete against the government for workers are not entirely wrong. But if they are really facing a labor shortage, they have the option, according to the same laws of supply and demand that they like to tout, to offer them higher wages and better working conditions to entice them to work for them.

Contrary to a popular mind set that might picture economics as being about unemployment rates, wage rates, productivity, and Gross Domestic Product, it is really about behavior and how actors in the marketplace respond to incentives and/or disincentives. By claiming that they cannot find workers because of government programs, they are only looking for somebody to blame.

We shouldn’t as a matter of public policy look for ways to force workers, especially the low-skilled, to take whatever jobs are available regardless of wage rates. This, after all, only works to boost the profits of employers. Moreover, it does not really support the public interest, especially if government is forced to subsidize these workers’ low wages in the form of social supports. These subsidies are effectively a subsidy to employers’ profits at the taxpayers’ expense.

Still, the question remains: why is it that when employers are effectively given inducements to keep wages low because they know that their workers are receiving subsidies, that nobody points out the obvious that this is not at all natural? Subsidies to workers may come out of a public altruistic sense that workers cannot sustain themselves on low wages and that the public needs to do the right thing. But more often than not, policies in this country are the result of interest groups and pressure politics.

The minimum wage has not been raised because business interests oppose it and low-skilled workers lack a serious constituency that can lobby on their behalf. And it is for these reasons we don’t have universal healthcare and daycare, both of which would be a boost to workers. The argument that wages are set naturally by the marketplace is nothing more than a rationalization of the status quo that preserves the current asymmetrical power imbalance.

If we as a society seek to create a just marketplace whereby workers can earn wages that enable them to live in dignity and support themselves, then we need to take measures that effectively boost wages. Many years ago President Clinton ran for office on a platform that those who work and play by the rules of the game deserve to live in dignity. The current claims of employers that government is now responsible for the current labor shortage only illustrates that we have a long way to go to achieving that objective. But please don’t insult our intelligence by insisting that wage setting is part of a natural process.

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