Explaining the non-effect of the minimum wage on employment: Could bosses screwing even themselves over by setting wages “irrationally” low be part of the explanation?

A substantial literature suggests that minimum wage increases have no negative effect on employment. The most popular explanation for this in economics is the theory that employers have monopsony power over their workers for a variety of reasons ranging from firm concentration to the difficulty and uncertainty navigating the job market and getting another job. 

I have no doubt that the theory of monopsony power is correct, but I want to throw another idea into the mix as a possible second factor- what if employers are, for several reasons, biased towards paying employees less than they should, even from the point of view of their own (narrowly conceived) financial interests? What if they depress wages to such a degree that raising them could actually improve profits, by reducing staff turnover, increasing morale etc. If this were true, we might expect no negative effect of increasing the minimum wage on employment, or even a positive effect. Here are three reasons we might think this is true: relative income effects, direct control over wages relative to other costs and worker-boss antipathy.

1. Relative income effects

A lot of literature suggests that income satisfaction is determined not only by our own income, but by the comparison of your income to the income of your peers. Your workers are certainly your peers. Presumably then, there is a satisfaction which comes from earning quite a bit more than those you employ, or manage. This might give employers and managers an incentive to depress wages even to levels that are not profit maximising if it makes them happier with the overall ratio.

2 Direct control over wages relative to other costs

It’s notable that employers control their wage costs more directly than they control many other sorts of costs. A business might choose between raw materials and locations to rent, they might choose the size of the budget they allocate to rent, materials, capital goods etc., but they don’t generally speaking get to set the price of each available option. They don’t get to set the price of workers either- at least not exactly- but they can come much closer to doing so. This makes labour costs the natural candidate to be “controlled”- employers have more freedom in setting wages than other sorts of costs, and so they reach for the lever closest to hand.

Moreover, factors like lower staff turnover, better morale and higher worker quality are intangible, hard to quantify, and may seem like a chancy gamble- even more so than other intangibles like quality of location, which one can at least inspect in advance, or quality of materials or capital goods (likewise). Dollars saved per hour per worker are very tangible and easy to add up, indeed I suspect that business owners, particularly small business owners, couldn’t stop doing these sums even if they tried.

The combined effect is to tempt employers to find savings in the wages budget moreso than elsewhere.

3. Innate antipathy

It’s no secret that workers tend to dislike, or at minimum, distrust, their bosses. Is it not reasonable to think that this ill will is likely to be mutual? We do tend to mirror the feelings others have about us back at them. If bosses tend to dislike or at least distrust workers, they will probably be motivated to pay them less- we don’t want people we are at loggerheads with to succeed.

A more subtle form of antipathy that might also be at play is sentiments about justice. Anyone who has ever talked to a business owner knows that they typically believe they are much, much harder done by than their employees, struggling with enormous workloads and risk to “make ends meet” and “keep the doors open”. For such people, a larger wage for one’s employees might not only seem like a lost opportunity to increase their own earnings, it might violate their sense of justice. This sense of what they “justly” deserve relative to their employees might lead them to set wages at a rate which is ultimately even to their own detriment.

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