[2548] One way which minimum wage increases unemployment rate

One impact of minimum wage is the general increase in labor supply in the market. Let us be clear and not talk too generally or loosely. Precision is key. I think if you cannot be clear, then it is very likely that you do not understand or have not thought of the issue well enough. And I think I understand it very well.

And I apologize if this appears to use a lot of jargons. I try to explain each jargon but I believe you will be able to overcome the jargons if you are really interested in the issue; if you really interested in the issue of minimum wage and not merely interested in the ideological battle, then you have to understand the mechanics. There is no short cut. Besides, the jargons are really self-descriptive.

And this is not a moral argument but rather it is the mechanics; just as explaining why the sky is blue does not make any moral argument, so is this.

So, here is the precise simplified mechanism: labor supply will increase if the newly instated minimum wage is higher than most of the prevailing wages. Higher wages attract workers into the labor market thus increasing the labor force/supply.

At the same time, minimum wage puts a limit on total jobs growth. Walter Williams has explained how that is so. Williams explains it in a specific context, but the logic can be generalized beyond the competitive context that Williams describes.

Now, combine the two effects related to labor supply and total jobs growth.

If you understand how unemployment rate is calculated, then you will realize how this will increase unemployment rate. For the uninitiated, the unemployment rate is calculated by taking the ratio of total unemployed individuals to the total labor force.

This is of course is not the general effect between minimum wage and unemployment rate, but part of that effect is explained by this particular interaction between variables.

This is how minimum wage, jobs and labor supply interact.

If total filled jobs grow faster than labor force, then unemployment rate will decrease.

If total filled jobs grow slower than the labor force, then unemployment rate will increase.

With minimum wage, there will likely be a shock to both total jobs and labor force growth. Since minimum wage puts a cap on total jobs growth and at the same time encourage more individual to join the labor force, there is a strong case to expect total jobs growth will be slower than labor force growth at the time when minimum wage is in force.

That will cause the unemployment rate to jump up. That elevated unemployment rate will remain at its new high level, discounting for other effects, until further development happens.

These other effects may increase or lower the unemployment rate on the balance. One factor that may blunt the effect of minimum wage on unemployment is inflation.

By Hafiz Noor Shams

For more about me, please read this.

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