Capitol Comment 259 - What’s a Dollar Raise Really Worth?

Possibly driven by guilt over the raise they just gave themselves, Congress wants to help those at the bottom of the pay scale. Their plan is to help poor Americans by raising the minimum wage one dollar over the next two or three years. It is a bad policy hiding behind a compassionate sound bite. Senator Kennedy (D-Mass.) and his big-government allies fail to realize two things: (1) the federal government should not act as the arbitrator of a nationwide collective bargaining agreement; and, (2) the best way to help the poor is not to increase their hourly wage, but rather, increase the amount of their hard-earned money that the government allows them to keep.

A centrally planned economy is not the American way, yet Congress seems convinced that its centrally planned approach will solve the problem of poverty.

The economy’s doing fine, why not give the poor a break? Today’s economy is doing well, but that does not mean the fundamental rules by which it operates have changed. The correlation between minimum wage hikes and job losses is one of the few things nearly all economists can agree upon. It is simple. Labor is an expense, and when the price of labor goes up, employers use less of it. Consequently, full-time workers are replaced by machines or part-time workers, laid off permanently, or not hired at all. Those at the bottom of the pay scale i.e., those with the fewest skills, are usually the first to be laid off and will have the hardest time finding a new job. In today’s economy, the jobs lost from this minimum wage increase may not make a difference to nationwide unemployment figures, but it could, ironically, devastate the poorer communities Congress wants to help.

A centrally planned economy is not the American way. Yet Congress seems convinced that its centrally planned approach to the labor market will solve the problem of poverty. It is true that the national unemployment rate is at its lowest level in decades, but a recent report found 273 counties and cities across the nation currently experiencing unemployment rates of nine percent or more. The poor people in these areas, the ones left behind in the information-age economy, will experience the most common effect of a minimum wage increase – fewer jobs. With a nationwide price floor for wages, businesses in rural areas will be forced to pay the same amount for labor as those businesses in large urban areas such as New York City. An increase in wages offers a competitive advantage to businesses that find ways to cut labor rather than other costs. The best solution would abolish the minimum wage and let the free market dictate the wage fairest to both employer and employee.

Ironically, this wage increase proposal comes from the same Congress that recently passed the “Patients’ Bill of Rights,” which, if enacted, could push wages down. Every employer, knows that labor costs come in two parts – wages and mandated benefits. Each time the government mandates costlier benefits, the increase exerts “downward pressure” on wages, meaning raises will be smaller and/or less common, or new people are simply not hired. Alternatively, the benefit could be dropped because the business can no longer afford it. This is especially true when a benefit exposes a business to expensive litigation, like the “Patients’ Bill of Rights” does with health care insurance. Hundreds of thousands of Americans will lose their coverage under the “Patients’ Bill of Rights.” Many of these people will be at the bottom of the pay scale – those who can afford it the least.

Enter the Republican corporate-welfare machine. To help small businesses deal with increased labor expenses, some Republican members of Congress are proposing to add such concessions as tax credits for hiring entry-level workers, a full deduction for healthcare premiums paid by the self-employed, and an increase in the business-meal deduction, and other tax breaks. In other words, businesses will have higher labor costs, but won’t have to pay as much in taxes. Another good sound bite. And it is refreshing to hear someone in Congress acknowledge the damage this minimum wage policy does, but unless reduced government spending accompanies the reduced tax revenue, someone else will be forced to cover the tax dollars not collected in this proposal. And if your pay stub says “Federal Income Tax” on it, that someone is you.

What’s the best way to put more money in the pockets of the poor? It’s simple – leave it there. Cutting taxes is the best way to help the poor. The wages earned by the poor, with or without the proposed increase, are subject to payroll taxes. Discussing wages and the poor without addressing payroll taxes is misleading and irresponsible. Unlike income taxes, payroll taxes begin with the first dollar earned. They are the largest income deduction for 2 out of 3 working families. And, at the poverty level, a dollar raise does little more than keep the worker a half-step ahead of their payroll taxes.

But payroll taxes go towards Social Security, so aren’t they good for the poor in the long run? Perhaps not. The Heritage Foundation recently calculated that a single, 25-year-old African-American man working in a low-wage job all his life can expect to get back $13,377 less in Social Security benefits than he paid into the system. Taking payroll taxes from the poor to fund a system that does not clearly benefit them is despicable. By reforming the system to allow the working poor to invest their money in Personal Retirement Accounts (PRAs), the poor will have real wealth built up by the time they retire. They will own something of value.

If they truly want to help the poor, instead of raising the minimum wage, Congress should reform the Social Security system such that it would allow the poor to retire on real wealth, not an IOU from the nanny-state, and give them a tax cut. Doing so could easily mean an increase of over $2,000 in real wealth every year. That is a real raise. It won’t damage the small towns and poor urban areas struggling with double-digit unemployment. And it doesn’t rely on corporate welfare or larger government – which is why it is not popular in Washington.