Business Insider

Peter Crabb: Boosting the minimum wage next month will hurt, not help

We may be shooting ourselves in the foot. The bond market continues to predict that inflation will rise, as evidenced by a widening spread of long-term interest rates over short-term rates. At the same time, the unemployment is at levels not seen in decades.

Prices today, however, are stable. The Bureau of Labor Statistics of the U.S. Department of Labor reported Wednesday that the Consumer Price Index increased 0.1 percent in May 2009 on a seasonally adjusted basis after being unchanged in April.

Over the past 12 months the index has fallen 1.3 percent, the largest decline since April 1950, but the last three months have shown more stable prices, rising in both January and February and falling only 0.1 percent in March.

By our own actions, we are likely to bring about higher prices and further worsen the employment situation.

In July, the federal minimum wage will to increase to $7.25 per hour from the current $6.55, a 10.6 percent increase. This change in the law was enacted in the spring 2007 when the economy was strong, growing in real terms at a 4.7 percent annual rate with unemployment at only 4.5 percent.

The most recent reports say the economy today is declining in real terms at a 5.7 percent annual rate with unemployment at 9.4 percent. Furthermore, the national jobless rate for teenagers today is 22.7 percent.

It is just these teenagers who will find it more difficult to land a job when employers must increase their base rate of pay more than 10 percent.

When the financial crisis began in earnest last fall, many argued that we should avoid responding with trade restrictions. Economists generally agree that free trade goes a long way to benefit us and others.

Another strong area of agreement among economists is that minimum wage laws hurt those most vulnerable in our economy.

The market for labor acts similarly to markets for any other service. That is, demand is higher if the prices are lower and supply is greater when prices move up.

The price in this market is the wage. When the minimum wage is set above the equilibrium wage in the labor market, more people look for work than would otherwise and unemployment rises.

More importantly, however, the minimum wage is only a problem, or constraint, in markets where the equilibrium wage is already low. Setting a minimum wage at $7.25 is not going to affect the market for engineers, lawyers or any other skilled workers. The minimum wage law has its greatest impact on the market for young workers (e.g., teenagers) and other unskilled workers. The higher required price for these services will raise unemployment and drive prices higher.

With stable prices today but expected inflation rising, and unemployment at record levels, raising the minimum wage will only hurt us.

Since 2000, Peter R. Crabb has been a professor of finance and economics at Northwest Nazarene University in Nampa. He earned his doctorate in international and financial economics from the University of Oregon.