The Minimum Wage Yet Again

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Executive Summary

The New York Times editorial board favors raising the minimum wage to $11 per hour.  To support their position that this increase will not kill jobs, they cite one published paper by Dube, Lester, and Reich.  This paper has now been thoroughly debunked in recent work by Neumark, Salas, and Wascher.  Raising the minimum wage reduces employment, especially among unskilled workers.  Period.  Prof. Reich should go back to his day job shilling for labor unions.

Which Looks More Like a Business Cycle?

Which Looks More Like a Business Cycle?

The New York Times Editorial

The New York Times has raised the subject of the minimum wage yet again.  In a long editorial February 9, 2014, the editors argue in favor of a higher minimum wage.  I encourage everyone to read this editorial, as it serves as a substitute for the Times’s failure to include a comics section in their newspaper. Among the many hilarious statements made, this section stands out:

HOW HIGH SHOULD IT BE? There’s no perfect way to set the minimum wage, but the most important benchmarks — purchasing power, wage growth and productivity growth — demonstrate that the current $7.25 an hour is far too low. They also show that the proposed increase to $10.10 by 2016 is too modest. 

The Times editors have unknowingly opened a can of worms with this argument.  How high, indeed?  Why not $25, $50, or even $100 per hour? Without some sort of model of the way labor markets work, the Times editors are left pulling numbers out of … the air.  They proceed to do this, finally arriving at $11. Even this is not enough by historical standards.  According to the Times, the minimum wage should be half the average wage after adjusting the average for productivity increases in excess of wage increases.  That brings them to $18 per hour, a figure that gives them pause.  They’re pretty sure $18 is too high, but don’t exactly know why.

Which is, after all, the main question.  If you have no model of how labor markets and the economy work, you are left making up numbers.  Perhaps there’s a better way to approach this problem.

To add one technical note, the Times editors apparently used the average (mean) wage rate.  They should have used the median.  The income distribution is not a normal distribution which means the median is a better measure of its midpoint than the mean.

“Does It Kill Jobs?”

The Times editors proceed to attempt some economic modeling.  The final section of their editorial is titled “Does It Kill Jobs?”  I was pretty sure I knew their answer already, but pushed bravely ahead.  What I found was this:

The minimum wage is one of the most thoroughly researched issues in economics. Studies in the last 20 years have been especially informative, as economists have been able to compare states that raised the wage above the federal level with those that did not.

The weight of the evidence shows that increases in the minimum wage have lifted pay without hurting employment, a point that was driven home in a recent letter to Mr. Obama and congressional leaders, signed by more than 600 economists, among them Nobel laureates and past presidents of the American Economic Association.

That economic conclusion dovetails with a recent comprehensive study, which found that minimum wage increases resulted in “strong earnings effects” — that is, higher pay — “and no employment effects” — that is, zero job loss.”

The Times thus manages to both credit and discredit the economics profession in three short paragraphs.  First, the editors do not understand the difference between positive economics (economics as a science) and normative economics (favoring or opposing specific economic policies).  Positive economics is a matter of facts.  Economists use mathematics to develop their models and hypotheses.  We then turn to real-world data and statistical tools to test those hypotheses.  Hypotheses that have been confirmed[1] by many different tests become accepted as theories. That is the scientific method used in many other fields as well as economics.  It describes positive economics.

The Times did not bother to ask those economists who signed that petition one simple question: Do they believe that raising the minimum wage will have no impact on employment?  That’s very different from the petition which merely supports increasing the minimum wage.   The language of the petition moves the debate out of positive economic analysis and into the opinions and wrangling of normative economics.

It does not surprise me that the Times editors fail to understand this distinction.  They are, after all, locked in the ivory tower of journalism with walls designed to prevent inconvenient facts from getting in their way.  And the Times is located in one of the most left-leaning cities in the U.S.  What could be more fertile ground for the weeds of belief to overrun the grain of science?

The Research Supporting the Times’s Position

The paper cited by the times is “Minimum Wage Effects Across State Borders: Estimates Using Contiguous Counties” by Arindrajit Dube, T. William Lester, and Michael Reich was published in the Review of Economics and Statistics in the November, 2010 issue. Following the lead set by Neumark, Salas and Wascher, I will refer to this work as DLR. The authors compare adjacent counties separated by a state line.  They then look at periods during which one state’s minimum wage changed while the other’s stayed the same.  They found no impact on employment.  I won’t bother to describe the details of their methodology for two reasons.  First, it’s wrong.  Second, you can find their paper online easily.  Prof. Reich has it posted on his website.

It happens that there is a second paper using pretty much the same techniques and sharing two of the three co-authors.  The paper is “Do Minimum Wages Really Reduce Teen Employment? Accounting for Heterogeneity and Selectivity in State Panel Data” by Sylvia A. Allegretto, Arindrajit Dube, and Michael Reich in the April, 2011 issue of Industrial Relations.  I’ll call this paper ADR.  The conclusions are identical, although the methodology differs a bit.

If you’re curious about the co-authors, I have a biographical sketch of Michael Reich toward the end of this piece.

Neumark, Salas, and Wascher Respond

David Neumark, J.M. Ian Salas, and William Wascher (NSW) used the same data that both ADR and DLR used.  Their paper “Revisiting the Minimum Wage − Employment Debate: Throwing Out the Baby With the Bathwater?” (January, 2013. National Bureau of Economic Research Working Paper 18681).  In fact, the title is too kind.  ADR and DLR have apparently thrown out the baby and kept (and published) the bathwater.

I’m going to include three paragraphs from their paper, but here’s the summary. (Note that this is my interpretation of their findings.  Errors are mine.) First, ADR and DLR cherry-picked the time period they used to produce their results.  Using different time periods invalidates their results.  Second, both papers use a linear trend to remove influences specific to each state.  But a linear trend cannot, by definition, model, say, a business cycle. In order to model nonlinearity a second-order term must be included.  To get points of inflection you must include a third-order term.  (Examples are in the Excel workbook.) NSW find statistically significant coefficients for the second, third, fourth, and fifth order terms.

And guess what?  Using the correct methodology and time period, there are, in fact, significant effects on employment.  NSW slice and dice this about as finely as is possible.

Here are three relevant paragraphs from their paper.  Note that the paper is copyright © 2014 by David Neumark, J.M. Ian Salas, and William Wascher.  I have included these quotations with explicit permission of the authors.  You may not copy any of the next three paragraphs without their permission.  I have edited the material slightly, removing footnote numbers.

In each column, we tested the statistical significance of the higher-order terms added relative to the previous column (in column (1) we tested the significance of the squared time interactions). These were significant for the 2nd-, 3rd-, 4th- and 5th-order terms (p-values < 0.001). Thus, linear state-specific trends are too restrictive. (p. 12)

As reported in column (5) of Table 2, when the panel data model with state-specific trends is estimated in this way the estimated effects of minimum wages are much more strongly negative and are statistically significant: The estimated minimum wage effect is –0.178, compared with –0.165 in Table 1 without the state-specific linear trends and –0.074 (and insignificant) with them. Thus, removing the state-specific trends in a way that excludes the recessions at the beginning and end of the sample leads to stronger evidence of disemployment effects. (p. 13)

Thus, among the analyses we have carried out, the only way to generate the results in ADR (2011) – that inclusion of state-specific time trends eliminates the negative effects of minimum wages – is to include in the sample period the recessionary period of the early 1990s or the recent Great Recession, and to let these periods have a strong influence on the estimated trends by use of a highly restrictive specification for those trends. Moreover, the evidence suggests that the linear state-specific trends used by ADR for these sample periods are influenced by the recessions in ways that apparently contaminate their estimates of minimum wage effects on teen employment. More generally, our evidence shows that the estimated effects of minimum wages on teen employment are negative and significant with or without the inclusion of controls for long-term trends in teen employment when those long-term trends are estimated in ways that are not highly sensitive to the business cycle. This evidence invalidates ADR’s (2011) conclusion that “Lack of controls for spatial heterogeneity in employment trends generates biases toward negative employment elasticities in national minimum wage studies” (p. 206). (p. 14)

If you don’t understand the previous three paragraphs, then re-read my summary above them.  Or take a look at the graphs at the beginning of this article. Comparing a linear model with a fifth-order polynomial shows clearly that you can’t model a business cycle with a straight line. (The parameters of each model were estimated using regression analysis on a single data set.

Michael Reich

 

We’ve encountered Prof. Reich beforeHe is the director of the Institute for Research on Labor and Employment at U.C. Berkeley. The IRLE is a well-known home for union shills.  But this time Prof. Reich has gone too far.  The two papers discussed here are, at best, misleading.  At worst they are outright academic fraud.

A few decades back, Prof. Reich was co-author of The Capitalist System: A Radical Analysis of American Society (cited in the references at the end of this piece).  The late Evsey Domar reviewed this book in the Journal of Political Economy in 1974.  His review, titled “Poor Old Capitalism: A Review Article,” is scathing. (Full citation in the References below.) Here are two paragraphs from page 1312:

So the end result is just another utopia, recognized by the authors as such (pp. 392, 530). It is an old-fashioned anarchist utopia that would delight Kropotkin and Proudhon (and Furier), but hardly please Marx, if he remained true to his own spirit. In its treatment of economic problems, it is not superior to Thomas More’s original creation, and it is greatly inferior to Edward Bellamy’s Looking Backward ([1888] 1960), now nearly 100 years old. And Bellamy was not even an economist!

There is no harm in describing utopias if one does not take them seriously. But what is the use of criticizing capitalism, or any other existing economic system, in a supposedly scholarly and analytical manner, by comparing it with an ideal, which can be made as wonderful as the authors’ imagination allows? Surely more effective methods can be found. The ineptitude shown by the contributors and the editors (well-trained young economists of known ability) merely damages their own cause: it makes capitalism look better than it is. Instead of winning converts, they are more likely to repel even those who have no love for capitalism and are searching for better alternatives.

Conclusion

Once you do the analysis correctly, raising the minimum wage reduces employment.  Period.  Will this end the debate?  Of course not.  Low-information individuals are globally abundant today.  These folks won’t let facts get in the way of their beliefs.

The Times editorial board already had their collective mind made up before they wrote this editorial.  Frankly, their attempt to justify their conclusion with economic analysis is a complete failure.  Call them low-information editors.

References

Allegretto, Sylvia A., Arindrajit Dube, and Michael Reich. 2011. “Do Minimum Wages Really Reduce Teen Employment? Accounting for Heterogeneity and Selectivity in State Panel Data.” Industrial Relations, Vol. 50, No. 2, April, pp. 205-240.

Domar, Evsey D. “Poor Old Capitalism: A Review Article” 1974. Journal of Political Economy, 1974, vol. 82, no. 6 pp. 1301-1313

Dube, Arindrajit, T. William Lester, and Michael Reich. 2010. “Minimum Wage Effects Across State Borders: Estimates Using Contiguous Counties.” Review of Economics and Statistics, Vol. 92, No. 4, November, pp. 945-64.

Editorial Board, New York Times 2014. “The Case for a Higher Minimum Wage,” February 9, 2014. http://www.nytimes.com/2014/02/09/opinion/sunday/the-case-for-a-higher-minimum-wage.html

Edwards, Richard C., Michael Reich, and Thomas B. Weisskopf 1972. The Capitalist System: A Radical Analysis of American Society. Englewood Cliffs, N.J. Prentice-Hall, 1972.

Neumark, David, David, J.M. Ian Salas, and William Wascher 2013. “Revisiting the minimum wage-employment debate: throwing out the baby with the bathwater?” National Bureau of Economic Research Working Paper 18681 (January, 2013). http://www.nber.org/papers/w18681



[1] Technically, classical hypothesis testing cannot confirm a hypothesis.  Hypotheses can only be rejected or not rejected.  Shout out to Prof. Michael Hurd who drummed this into my head quite a few decades back.

One Reply to “The Minimum Wage Yet Again”

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