Atlanta Journal-Constitution, July 22, 2008: Opinion: Wage increase may backfire

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For the Journal-Constitution
Published on: 07/22/08

The federal minimum wage will rise to $6.55 an hour on Thursday, the second of three annual 70-cent increases passed by Congress last May. With housing markets collapsing, financial markets in disarray and the economy at a standstill, what may have been a reasonable plan a year ago seems ill-timed today.

Raising the wage floor for two years into the future irrespective of changes in economic conditions is a mistake. The businesses most affected by the wage hike – restaurants and retailers – are among the sectors worst hit by rising commodity prices, the falling dollar (which raises the cost of imported goods) and consumers’ pinched pocketbooks. Businesses try to raise prices to offset minimum wage hikes, which will add to the inflation rate in the short run and hurt consumers.

The law incorporates $4.8 billion in tax breaks over 10 years to help offset the adverse effects on businesses. But businesses are suffering right now, and hitting them with another wage increase this month and again next year compounds their pain. The tax breaks will be too little, too late.

One can argue that surging prices for gas and groceries make it especially important to help low-income families. About 11,000 workers will get a raise here in Georgia. Adjusted for inflation, the federal minimum wage is well below its level in the 1960s and 1970s. Even after the increase is fully phased in, a full-time worker earning the minimum wage will earn less than the poverty threshold for a family of three.

But most economists agree that raising the minimum wage isn’t the best way to help low-income families. When the minimum wage goes up, businesses cut hours or payrolls by first laying off their least productive workers. This tends to be inner-city teens and single moms making the transition from welfare to work. The tax breaks included in the minimum wage increase did include credits for employers that hire such workers. But disadvantaged groups face many obstacles to getting and keeping jobs, so further hampering their employment chances by raising the minimum wage at a time when the economy is slowing is ill-advised.

By making it difficult to find an entry-level job, increases in the minimum wage can reduce employment prospects and potential earnings for years. Although workers who do get and keep a job when the minimum wage rises will benefit from higher earnings, others will not be so lucky. If this summer lives up to forecasts that the proportion of teens who are employed will be the lowest in 50 years, young adults will miss a key opportunity to gain skills and experience, and some will feel the repercussions many years after the current round of minimum wage increases.

Further, my research with Pia Orrenius of the Federal Reserve Bank of Dallas, published by Industrial and Labor Relations Review this month, shows that a surprising group appears to reap the biggest benefits when the minimum wage rises: immigrants. Employers may substitute adult foreign-born workers for teens when the wage floor goes up.

It may seem heartless to oppose a mandated wage increase when gas is $4 a gallon and prices for food and other necessities continue to climb. But a higher minimum wage isn’t going to help people who can’t find a job because employers have cut their payrolls. Focusing instead on giving firms tax incentives to hire low-skilled workers and then using the Earned Income Tax Credit to boost the earnings of such workers is a more effective – and better-targeted – way to help low-income families.

Like the minimum wage, the EITC encourages work by boosting low earnings. It is a refundable credit given to low- and moderate-income workers and is designed to pay considerably more to families with dependent children than to childless adults.

Research shows that the EITC dramatically increases low-skilled women’s labor-force participation. And it doesn’t directly reduce the number of workers businesses can afford to hire.

Economists will take years to estimate the impact of these increases in the federal minimum wage, and the increases will have no direct effect in states that have opted to set a higher wage floor. But the unfortunate timing of the hikes should serve as a cautionary note against similar future legislation. As the minimum wage goes up this month, Congress should focus on expanding the EITC – and Georgia legislators on joining the 24 states with a state EITC – to help low-income workers instead of celebrating what has turned out to be a rather dubious decision.

> Madeline Zavodny is an associate professor of economics at Agnes Scott College in Decatur.

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