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(This is a really long reply and relatively technical. For summary in plain English, click here.)

Let us begin with a real life conversation between friends of mine and a professor of economics.

The professor highlighted how women were discriminated in a certain country and how that discrimination affected the labor market in a bad way. A friend said gender discrimination in that country was unlawful. He tried to suggest that that statement about discrimination by the professor could not be true because there was a law against that.

Another friend was quick to reply, “Just because there is a law does not mean it does not happen. The law will just make it illegal.”

Was the last friend blaming the law, or was he simply saying the action would still happen despite the law? The stress is on the latter.

When I wrote minimum wage will lead to more workers in the black market sector (which concept Ahmad Fuad Rahmat misunderstood, accepted the correction and then went on to say it did not change a thing…), I am describing its effect. But Ahmad Fuad Rahmat in a written response to my comment that yours truly “thinks this is the fault of the state’s minimum wage law, rather than the companies that refuse to pay minimal wages.”^[1]

I am describing what will happen and it requires address. Ahmad Fuad Rahmat says employers should be punished for breaking the law and workers should not be punished. He stops there and thinks it is as easy as that.

This brings us to the issue of protection, which is the reason black market is a concern. I raised the issue of worker protection, stating that workers will have less protection if they work in the underground sector. He mocks “one would shudder to think what a libertarian could mean by “the protection of workers”, especially when he is at the same time crusading so vehemently against minimum wages.” Notice, he does not address the issue at all. He simply mocks the idea and then says punish the employers and not punish the workers. The point here the effectiveness of the law affects legal and illegal workers differently. Ahmad Fuad Rahmat does not consider that.

But to elaborate on the point of worker protection, allow me to present an example. There have been a lot of cases where workers are denied their take-home wages even after working earnestly. A large fraction of wages are subtracted against some cost the employers claim to have borne on behalf of the workers: transportation, food, accommodation. In the end of the day, workers get nothing out of his work other than being modern day slaves. This is a pure manipulation and oppression. Never mind employers have been known to hold on to workers’ travel documents to prevent these workers from enjoying labor mobility that is important in encouraging wage competition in the market.

If you are outside of the legal framework, then you will be disenfranchised because the law will less likely provide you with the necessary protection a legal worker may get. This is a real issue. You cannot say it is immoral to do so and then pretend such statement will prevent it from happening. (Also, the injustice in the labor market happens even with relevant laws in place.)

Does Ahmad Fuad Rahmat address the point? No.

If I need to stress, the idea of worker protection is much, much larger than minimum wage. Any effect at making the two as clear equivalent is just an effort at getting a carte-blanche to argue for minimum wage. This you shall see, the effort at obtaining intellectual blank check happens at least two times in his response to me.

On to the next point, he rejects my accusation that he does not understand the difference between efficient and minimum wage and then goes on to cite the author he cites again after I explained why there is a difference. It is a nice work at appealing to authority but he is silent on the context of efficient and minimum wage that I set out; efficient wage is set at firm level and minimum wage at macro level. He makes no effort at rationalizing why the difference does not matter by saying it is beside the point because firms can reject efficient wage for the same reason firms reject minimum wage.

Not so. Efficient and minimum wage are not the same, while Ahmad Fuad Rahmat takes it as mostly the same. I will demonstrate in detail why.

Before that, let me highlight a minor point about how economics treats the issue of morality. Ahmad Fuad Rahmat boldly claims ”At any rate, it remains the case that many moral arguments in favor of efficient wages overlap with arguments in favor of minimum wages as well. Any basic Economics textbook will reveal this.”

This is an odd claim because modern and influential economics textbooks since probably the 1970s strongly stress on the difference between positive and normative statements and then explicitly avoid normative statement. In other words, mainstream economics avoid the question of morality and focuses on specific definition of welfare. In my six years of economic education, I cannot confirm Ahmad Fuad Rahmat’s claim about economics textbooks making such specific moral argument. In fact, the fact that the economics field avoids moral argument is one of the major reasons the field comes under criticism from outsiders. Have the debates in the past 4 years since the last great financial crisis escaped us? Yet here, he claims economics textbooks make morality claims. I am willing to bet Ahmad Fuad Rahmat will be surprised at discovering the implications of the fundamental theorems of welfare economics that every economics student at the undergraduate level learn. From experience, questions on morality only takes place in private discussions.

Beyond the point of morality and off to a more technical matters at hand, to defend his point, Ahmad Fuad Rahmat stresses on the similarities but dismisses the differences between efficient and minimum wage. The other instance of blank check.

I shall go through the logic carefully for the benefits of the audience, whoever they are. Here is why the difference matters.

Case number one: efficient wage is lower than minimum wage. Given turnover and shirking cost the firms may try to avoid, it may make sense for firms to pay efficient wage. The imposition of minimum wage (which suffers from aggregation problem especially at the national level because it generalizes everybody everywhere every time in the economy) here adds more cost on top of the efficient wage level, maybe even up to the point where it does not make sense to the level of productivity plus the premium of a respectable efficient wage. Firms will have a case to oppose minimum wage. Here firms can reject minimum wage and not reject efficient wage. If firm reject efficient wage, then firms will reject minimum wage. In short, firm can reject minimum wage without rejecting efficient wage.

Case number two: efficient wage is higher than minimum wage. This is the only case that makes minimum wage redundant. The firm will pay higher wage compared to the law anyway. Minimum wage does not matter at all. Here it does not make sense for firms to reject minimum wage if it accept efficient wage. If efficient wage is rejected, then minimum wage is automatically rejected.

Case number three: if minimum wage is the same as efficient wage. If firms actually reject minimum wage, then firms will reject efficient wage. Assuming it is rejected, then Ahmad Fuad Rahmat will be right.

Notice three different cases which very different implications. Notice that the point when Ahmad Fuad Rahmat will be right is when efficient and minimum wages are the same.

So, the difference matters.

And also, in an economic downtown, workers can lose their jobs. If the firms set minimum wage, workers can earn less and keep their jobs. With minimum wage, that flexibility of job security is eroded significantly. Has Ahmad Fuad Rahmat taken this into account? He writes ” In a competitive but unregulated labor market, especially in an economic downturn, workers can be made to work hard for very little pay.” So, no, he has not taken the possibility of disemployment into account.

The second last point I want to address is his claim that “classists” claim minimum wage reduces productivity. I wrote, the classist claim is untrue and in fact, I suspect it is a strawman argument. To back his claims of the classist minimum wage with respect to productive does indeed exist, he cites Richard Ko, the general council member of the Malaysian Furniture Entrepreneur Association that “by proposing this minimum wage, is the government saying we should not only pay lazy people, but protect them through the law?”

How does that suggest minimum wage reduces productivity? Please explain. Does being lazy mean reduced productivity?

Finally, on data. I invite readers to pay attention to this particular line that Ahmad Fuad Rahmat referred to:

Malaysian Employers Federation executive director Shamsuddin Bardan also said that in some cases, such as plantation workers in Sabah, a minimum wage of RM800 would double salaries. [Minimum wage will cause unemployment, inflation, say employers, economist. Shannon Teoh. The Malaysian Insider. May 3 2012]

…and his statement:

…it is also widely understood that many plantation workers in Malaysia are still being paid around RM400 per month. [The case for increasing the minimum wage. Ahmad Fuad Rahmat. The Malaysian Insider. May 4 2012]

In the first citation, the phrase is “in some cases.” In the second citation, “is also widely understood that many.”

It is a case of overreaching. Ahmad Fuad Rahmat refers to a secondary source, misinterprets it and then generalizes it in favor of minimum wage.

I would like to reiterate, anybody who actually keeps a track of the plantation industry knows about competition for labor between Malaysia and Indonesia. Refer also to my citation about Sime Darby.

Was it I whom missed it something? Doubt it.

  

Let me summarize my point for clarity purpose (back up).

First, minimum wage will cause more workers to participate in the underground economy. My counterpart does not reject it and turn to playing the blame game. He merely says firms should be punished for doing that, and not workers.

Second, I raised the issue of worker protection which directly related to concern about the black market sector. He does not address it, mocks me and pretends worker protection raised by a libertarian is a non-issue.

Third, I stress the difference between efficient and minimum wages. He dismisses it because both can be rejected by the same reason of cost. He only appeals to authority to defend his point and then moves on. He does not reason it through. I have shown, there are three different implications and clearly, a blanket it-does-not-matter is false.

Fourth, he claims ”it remains the case that many moral arguments in favor of efficient wages overlap with arguments in favor of minimum wages as well. Any basic Economics textbook will reveal this”. This is downright false. Any serious student of economics will know how mainstream economics deals with morality and normativity.

Fifth, he claims ”in an economic downturn, workers can be made to work hard for very little pay”. True but he forgets, with minimum wage in a downturn workers can lose their jobs altogether.

Sixth, he claims classists claim that minimum wage reduces productivity and then attacks that classist claim. That is likely a strawman argument. He cites something that has no relations to how minimum wage reduces productivity.

Finally, data. He somehow reads ”in some cases” as ”is also widely understood that many earn RM400” and he is clearly out of touch of the labor market condition in the plantation sector and specifically the competition for labor from Indonesian plantations.

  

^[1] — Hafiz Noor Shams of IDEAS responded to my article calling for a more realistic minimum wage.

He begins by claiming that I misunderstood Wan Saiful’s use of the term “black market”. According to him, Wan Saiful was not referring to an underground economy but illegal work in general. How can we really know this? HNS says we’ll just have to take his word for it. [Responding to Hafiz Noor Shams on Minimum Wage. Ahmad Fuad Rahmat. May 5 2012]

Ahmad Fuad Rahmat wrote a short essay in support of minimum wage.^[1] While there may be a number of reasons to support minimum wage, I believe he misunderstands some issues and mischaracterizes others while he attacks the anti-minimum wage camp.

He first and foremost takes issue with Wan Saiful Wan Jan’s statement that ”when employers refuse to hire at the minimum wage, desperate workers will look to the black market and agree to take less than that,” as reported in The Malaysian Insider.^[2]

The statement on the black market is not mere theorizing. Any student who has attended universities in major cities where minimum wage law is in place will know somebody who has worked illegally below the minimum wage. It is especially a prevalent issue with international students, despite having a study/work visa. I personally know a number of students in Sydney whom worked below minimum wage. That alone is illegal. The illegality by definition adds up more workers in the black market as far as the minimum wage law is concerned.

The concern with the black market is not merely a definitional issue. That illegality will reduce protection these workers may get as compared to if they are legally employed. If you are a foreign worker, then it will be a double-whammy, and therefore, very oppressive. As you can see, the socialist policy is not compassionate it is cracked up to be. Utopia and the real world are two very different things.

That is not to suggest immediately that desperate workers will go into the black market in the sense of trading contrabands (or mafia-linked trades). No, it is not.

To repeat, minimum wage adds to the black market only because workers, possibly working as completely innocent occupation as store assistants at legal business setups, work below the minimum wage.

Ahmad Fuad Rahmat takes exception to that and counters that ”increasing the minimum wage to a level that secures the basic needs of a household will make it less likely for people to want to search for subsistence elsewhere.” Read his article and you will get the idea that he misunderstands the context of the black market as the one that trades contraband (or mafia-linked trade) instead of the one where one is employed below the minimum wage. I know the definition used by Wan Saiful Wan Jan because in an email discussion, I mentioned the issue about minimum wage and the black market to him.

As you can see, I am compelled to respond because the idea came from me. Else, I would not have bothered to reply.

And of course, increasing the minimum wage to a very high level will lead to higher unemployment rate. That means no wage at all for the unfortunate. There is always trade-off. There is nothing controversial about that. Put minimum wage at RM2,000 for instance, then you will see massive unemployment rate in the legal sector, and more workers in the black market.

Once you understand the economics that raising the minimum wage will add more workers to the black market, you will understand why raising the minimum wage even further will add more workers to the black market. When Ahmad Fuad Rahmat suggests that raising the minimum wage will discourage worker from participating in the black market, you know he does not understand the issue at hand. Again, he misunderstands the context of the term black market. And since he does not understand it and then goes on to prescribe a misleading policy, his argument should be ignored.

Immediately after the issue of black market, he referred to a so-called classist supposition that ”minimum wages decrease productivity is just false.” It is indeed false.

There is something that is called the efficient wage where a worker is paid slightly above the wage that his productivity warrants. With enough supervision (i.e. the probability of getting caught shirking and losing his job), the worker will appreciate his job and not shirk in fear of losing his relatively well-paid job. Henry Ford was famous for practicing efficient wage policy. Note that Ford was no government.

I do not know who actually makes the point about decreasing productivity as claimed by Ahmad Fuad Rahmat. But I think those with liberal economic understanding do not make that argument at all. The closest sensible argument from the liberal side that comes close to the argument the author puts up and then attack (strawman argument perhaps?) is that productivity will lag behind the minimum wage due to stickiness in the market as the market takes times to react changes. Note the concern: it is not the decrease of productivity but rather, lag of productivity to wages.

In any case, minimum wage and efficient wages are two different things set in two different contexts. Efficient wage is set within firm settings while minimum wage is set at the national or macro settings. Efficient wage can be tweaked at the firm level according to level of productivity of individual workers by managers with full knowledge of his firm. Minimum wage, especially Malaysian minimum wage, does no such thing because it suffers from aggregation problem; it cannot be as specific as efficient wage.

Ahmad Fuad Rahmat goes on to cite an author confirming the existence of efficient wage and use that as an argument for minimum wage. Just as he misunderstands the issue with minimum wage and black labor market, he jumbles up the concept of efficient and minimum wages together, and the uses the points in favor of efficient wage for minimum wage. Maybe the author that Ahmad Fuad Rahmat cites also confuses the two concepts together. If you correct the foundational understanding, the subsequent policy prescription must change accordingly. So, because of the misunderstanding of issues and concepts, his prescription should be rejected because it is derived from flawed understanding.

There is yet one more point in his essay and this is empirical in nature. Ahmad Fuad Rahmat states that ”it is also widely understood that many plantation workers in Malaysia are still being paid around RM400 per month.” I am unsure what he means by “widely understood” or “many” but if he means to say a large fraction of those in the plantation industry, I fear he is mistaken.

In the plantation industry, there is a shortage of workers. Indonesia is giving Malaysia a real fight in terms of wage competition in the plantation sector. An analyst friend of mine whom job is to monitor the plantation sector and recommend investment in plantation companies contends that workers in the industry are already earning above RM1,000 wage as plantation companies in Malaysia struggle to attract workers. In fact, do not take my words for it. Sime Darby, the largest plantation company in the world:

In an unprecedented move, Sime Darby Plantation Sdn Bhd (SDP) has increased the salaries of 37,000 of its estate and mill workers throughout the country, with each of them expected to earn an extra RM200 in basic salary effective July 1.

”¦

With the new salary scheme in place, a rubber tapper to a clerk, including auxiliary police personnel, employed in the estates and mills will enjoy a basic salary of between RM1,050 and RM1,100 per month. [Sime Darby Plantation increases salary for 37,000 workers. The Borneo Post. June 7 2011]

So, that are three counterpoints: two to clarify his misunderstanding and another a challenge on his data.

^[1] — Prime Minister Najib Razak’s announcement of a minimum wage requirement for the private sector has been met with outrage from pro-business Malaysians.

Their argument, in short, is that there should be no minimum wage at all. A minimum-wage policy will only increase business costs, which will only lead to inflation. Companies will also be reluctant to hire more workers as a result.

IDEAS director Wan Saiful Wan Jan even went so far as to say that the new minimum wage policy will eventually compel workers to turn to the black market in search for employment. He thus describes the policy as nothing short of an ”intervention” in the name of ”populism” — a clear breach of the natural process of growth that a truly free market would assure for everyone. [The case for increasing the minimum wage. Ahmad Fuad Rahmat. The Malaysian Insider. May 4 2012]

^[2] — ”When employers refuse to hire at the minimum wage, desperate workers will look to the black market and agree to take less than that,” said Wan Saiful Wan Jan, chief executive of libertarian think-tank Institute for Democracy and Economic Affairs. [Minimum wage will cause unemployment, inflation, say employers, economist. Shannon Teoh. The Malaysian Insider. May 3 2012]