Why raising the minimum wage won’t make prices go up

Seattle, March 15 march for $15 minimum wage Photo: Rachel Freeman

In response to our report “Seattle marches for $15 minimum wage”, reader James T. wrote: “A rich man told me if the government increase wages, his business is going to raise prices….How can the movement stop the corruption?”

This is a common argument against raising the minimum wage, and even wages in general. A major flaw in the argument is that it assumes that businesses have not already set prices to maximize their profits.

The fact is that businesses strive at all times to maximize their rate of profit so as to ensure survival against their competition. The main exception to this rule is when business owners calculate that temporarily lowering prices will gain them a bigger share of the market—perhaps driving out competitors—after which they can raise their prices back up sufficiently to compensate for any short-term loss.

The rate of profit, of course, varies from business to business and over time. But competition and the market tend to push the individual rate towards an overall average. If profits rise above that average, capital tends to flow into that area of the economy—businesses expand or new ones open up—which raises production and supply relative to demand, pushing prices and the rate of profit back down. The obverse happens if falling prices cause the rate of profit to sink below the average. In that case, capital flows out of that sector of the economy lowering production and supply relative to demand, pushing prices and the rate of profit back up.

Now, if the workers through mass struggle win a higher minimum wage, the result will likely be to lower the rate of profit of the employers affected, though it can also increase their business, since low-wage workers will have more money to spend. But assuming that on balance their rate of profit does fall, the affected businesses may very well attempt to recoup by raising their prices, just as your rich businessman argues.

However, if prior to the increase in the minimum wage these businesses had already set their prices to maximize profits, prices cannot then be raised following the minimum wage increase—assuming competition and market demand remain unchanged—without causing a fall in demand relative to supply and a further fall in the rate of profit. What will happen instead if the rate of profit remains depressed, and if it is below the average rate of profit, is that capital will flow out of that sector of the economy, pushing supply down relative to demand and prices up, boosting the rate of profit back to the average.

The outflow of capital can, of course, take the form of businesses contracting, or in some cases closing down altogether, resulting in workers losing their jobs. However, it is likely that the increased demand resulting from the rise in the minimum wage, which to some extent will also push up other wages—for example, managers’ wages at fast-food restaurants—will enable their competitors and other businesses to expand and hire more workers, increasing job openings elsewhere.

Various studies have shown that in general there is no overall loss of jobs as a result of wage increases. Therefore, the net result of wage increases is that more money ends up in the pockets and bank accounts of the workers, on one hand, and a somewhat lowered individual and average rate of profit for the capitalists, on the other. That is a desirable outcome in view of the fact that today many low-wage workers depend not only on their paychecks to live but also on tax-payer-funded food stamps to have enough to eat and Medicaid and/or emergency rooms for their health care—in effect a subsidy for the capitalists.

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