Comparative Study On Minimum Wage Increase's Effect On Pricing: An Essay.

“Raise of minimum wage and its effects on pricing“

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Theoretical background of minimum wage theory

International trade theories during 21^st century mostly deals with the full employment economies, however, providing a relaxation to the generic assumption of the perfectly flexible wage and most of them has failed to focus on the unemployment situation. In addition to this, various inflationary situation around the world has given rise to the implementation of the minimum wage theory. With the Fair Labor Standards act of 1938, US government regulated wage rate of the laborers in the market and it officially introduced the minimum wage in the world arena for the first time (Bell & Machin, 2018). During the initial days various arguments regarding the same was produced by the researches, however, during present date it can be seen that minimum wage is almost 60% to 75% higher than that of during 1934 allowing standard of living for all the laborers to rise. Moreover it was focused to ensure a basic quality of life for all the citizens of the state allowing the aggregate demand of the economy to rise (Alonso, 2016). Financial crisis during 1929 in sourced by the Wall Street Crash built the stage of the minimum wage because after the debacle in the financial market of US economy it has caused a fall in the private investment from the foreign nations allowing the interest rate to fall leading the economy toward vicious cycle of poverty (Hirsch et al., 2015).

As the measurement government brought in the expansionary monetary policy and as the process of execution of the same minimum wage was introduced. Minimum wage theory has showcased differentiated level of impact in case different economy and this report is aimed to discuss the same. Through analyzing the theoretical background of the minimum wage theory, this report will try to trace the impact of the minimum wage in case of different economies differentiated by their growth prospect. Moving forward, it will provide in depth review of the impact of minimum wage rise and to conclude it will provide summarized overview of the finding and recommendation to gauge or enhance the situation of minimum wage rise.

Minimum wage theory was initially introduced in order to enhance the performance of the labor market; however it can be seen that the same has faced differentiated impact in case of different economy. Though several argument came against the minimum wage theory from different parts of the economy ranging from economic researchers to the labor unions, however, presently labors in the US market are enjoying two times higher income than that of financial crisis situation. Above description additionally has showcased that the performance under the minimum wage was aimed to expand the aggregate demand of the economy where the same was moving towards vicious cycle of poverty due to rapid fall in the private investment. Idea of the minimum wage was introduced in New Zealand back in 1894, however, same came into existence three decade decades after that due to the debacle in the financial market in the US market, where the economy has been facing large amount of fluctuation (David et al., 2016). In New Zealand it was introduced so as to deal with the fixed market price of the domestic economy and to enhance the international trade for the economy minimum wage was introduced. It would have introduced the higher incentive to work more for the employees allowing the market to have higher supply and aggregate demand eventually.

Practical utilization of minimum wage theory

US introduced the minimum wage back in 1938 in practical and since then many economies from the developed and developing nations are utilizing the minimum wage theory. For instance, the report will explain below the experience of utilizing minimum wage for two developed nations, which are US and Australia and for a developing nation which is China.

As per the case of Australia, it can be seen that the economy has been utilizing the minimum wage principal since last three decades so as to energize their labor market; however, in practical it has been seen that the recent rise in the minimum wages has reduced the performance of the labor market. With the rise in the minimum wages across different states of the country, there has been a fall in the employment leading to fall in the market performance. Under higher minimum wage scenario than ever employers are preferring to keep them away from further employment and in case of the mining industry of the country it can be seen that it has been facing higher amount of employee shelving due to the rise in the minimum wage (Dol.gov., 2018).  Employers are ready to employ only the skilled workers with the higher wages and the scope of employment of the semi-skilled and skilled employees is very limited under the enhanced minimum wage. As per the data Australia is paying at the rate of 17.70 AUD per hour, which is much higher than the other developed countries like UK, France, US and others.  This has caused reduction in the output of the economy and the inflation rate during the recent date for the economy has also been enhanced (Meer & West, 2015).

US has been utilizing the minimum wage since 1938 and it has showcased a highly fluctuating labor market with a trend of increasing unemployment rate since 1955 (Dol.gov., 2018). Though the minimum wage enhanced the level of employment during the initial years, however, it faced a downfall with the demand push inflation in the domestic economy.  As it can be seen from the figure 1, that the real minimum wage since the last six decades has raised substantially and the youth employment has fell accordingly over the time, yet if the overall employment status of the state is considered, then it would have showcased a different perspective.

Figure 1: Impact of rising minimum wage on youth unemployment in US

Case studies

Source: (Dol.gov., 2018)

As it can be seen from the figure in appendix, minimum wage has increased substantially for all the employees in the domestic economy, however, it has failed to entice the market demand during the recent days.

China has been utilizing the minimum wage since 2004 and over the period, minimum wage in the domestic economy has increased by a large amount allowing the employment as well as the aggregate demand in the economy to rise. One of the main reason for the same is previous low income profile of the Chinese economy (Saylordotorg.github.io, 2018). It has been observed that, with the rise in the minimum wage, there has been rise in the aggregate demand in the domestic economy through the rise in the overall income level and it has turned the Chinese economy from a low income group economy to a medium high income group (Douglas, 2018). One of the main reasons that has allowed the Chinese economy to achieve more compared to the developed nations is that the economy has utilized the learning from the other nations that has forced them to implement differentiated minimum wage for the different province allowing the provide a stimulus to both the supply and demand side of the economy.

Failure of the government to introduce minimum wage with the proper market research regarding the demand and supply framework, minimum wage has failed to perform properly, where as in case of China, it has performed well allowing the domestic government to enhance the standard of living of the labors as well as pulling them up from the lower income group to upper-high income earner group.

Minimum wage is the statutory minimum wage that the employees get from their employment and during recent years, it has been observed that the US minimum wage is rising at a rate of  9.50$ per hour showcasing imbalance in the domestic economy. With rise in the minimum wage it can be seen that varied amount of fluctuation in case of the domestic economy can be observed (Dube et al., 2016). As the direct outcome of rise in the minimum wage, economic growth of the domestic economy gets influenced by a large extent. If it is assumed that market is competitive and minimum wage does not force the employers to shelve some amount of employee so as to keep the competitive advantage, then rise in the minimum wage will lead to rise in the imbalance in the market.

Impact of the rise in minimum wage

Figure 2: Impact of minimum wage on market equilibrium

Source: (Created by Author)

As it can be seen from the figure 2, if it is assumed that at present minimum wage (W1) market is in equilibrium, then the equilibrium amount of goods and services produced by the economy is Q1. On the other hand if there is rise in the minimum wage from the W1 to NMW, then it will lead to fall in the demand and rise in the supply causing a gap in the supply demand market. As per the figure 2, if the new minimum wage is decided at NMW, then the quantity demanded will be Q2 and the quantity supplied will be Q3 causing a supply demand gap in the market by Q2Q3 amount. During next period, this supply demand gap will force the producers to reduce their price of good and service and force them to face loss in the subsequent terms (Calandrillo & Haperin, 2017). As the practical example of the supply demand gap, it can be seen that during the recent years, US and other developed countries has facing a fall in the market demand that has forced their financial market to perform weakly that can be seen through the reducing demand of the US dollar and falling development rate of the same.

As per the aggregate demand (AD) and aggregate supply (AS) model it can be seen that the rise in the minimum wage allows the consumer to spend because people who are spending will be earning more at the same time. Thus, as per the figure 3, it can be seen that with the rise in the income, people will showcase higher demand allowing the AD curve to shift rightward (Jardin et al., 2017).

Figure 3: Impact of rising minimum wage on aggregate demand

Source: (Created by Author)

Considering the fact that there is no change in the employment status and the productivity of the economy does not change with the rise in the minimum wage, then it can be seen that AD curve will shift from the AD1 to AD2 depicting higher price (P1 to P2). Though this rise in the aggregate demand will enhance the economic performance in the recent year, however, during long run, as the price starts to rise, it will lead to rise in the inflation (Hirsch et al., 2015).

If the supply side of the economy is considered, then it can be seen that with rise in the minimum wage, then it will cause the amount incentive that the employees will be getting due to working an additional hour of work. It will lead to rise in the overall production in the market; however, if it is assumed that with the rise in the income through rise in the minimum wage workers prefer to remain at same social strata, then they will prefer to work less and enjoy leisure more. As the outcome, it will lead to fall in the overall market supply leading to rise in the price (MaCurdy, 2015). As the figure 4, entails, with the fall in the output, there will be a leftward shift of the AS curve from AS1 to AS 2 causing a rise in price of the goods and services of the economy. If the aggregate demand remains unchanged in the economy, then rise in the minimum wage will cause a fall in the output level from Y1 to Y2 which will be the main reason for the rise in the overall price level of the economy (Manning, 2016).

Figure 4: Impact of rising minimum wage on inflation

Source: (Created by Author)

As per the minimum wage theory, rise in the minimum wage can lead to inflation through two reasons, which are as follows (Allegretto et al., 2017):

• Higher expenditure by the workers that will lead to rise in aggregate demand in the market allowing the overall price level of the economy to rise. This demand pull economy will allow the market to face higher employment and higher price as well.
• Fall in the production through wage push will lead to the inflation driven by the supply side economy. It will reduce the employment rate in the economy, because workers will prefer to enjoy leisure more than working since they will be getting same amount of payment with the lower amount of working
• Number of the voluntarily unemployment will eventually rise.

Thus, rise in the wage rate causes three large blow to the economy (Liu et al., 2016):

• It leads to fall in the employment level
• It leads to rise in the inflation in the domestic economy
• It leads to fall in economic growth because market faces disequilibrium situation due to the rise in the minimum wage that breaks both the supply and demand supply equilibrium of the market.

Conclusion:

From the above analysis it has been found that the minimum wage was initially introduced in the US economy due to the financial debacle in the Wall Street that shook the entire world market of goods and services. In addition to this, fall in the aggregate demand of the state is acknowledged as another main reasons that forced the domestic government to introduce minimum wage and allowing a higher standard of living to a larger section of the labors. When it comes to the impact of the minimum wage, then it can be seen that the same has enhanced the performance of the domestic economies through enhancing the labor supply in the domestic economy, however, once the US economy started to perform smoothly, minimum wage reduced the economic performance of the state. In case of successive revision of the minimum wage in different economies as well as in US, it has reduced the labor demand in the economy because producers were not able to find any incentive for employing workers at higher price. To conclude, it can be seen that, minimum wage has failed to perform well under the failed market research, whereas it could have performed well. Rise in the minimum wage thus leads to fell in the employment and rise in the number of the skilled workers only forcing the domestic government to introduce skill development program. Additionally, it is also true that rise in the minimum wage could lead to the rise in inflation rate and failure of the demand and supply framework of the market depending upon the elasticity of demand and supply of the market.

References:

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