Day 80 The effect of the minimum wage

The effect of the minimum wage

The Productivity Commission announced that the minimum wage would take part in their Australian’s industrial relations system review. The Opposition leader Bill Shorten claims that inducing minimum wage regulations would not affect the unemployment rate in Australia. In contrary, he advocates it will actually create more job opportunities suggested by the similar system introduced by the euro zone. So what is the genuine influence brought by this low income community’s welfare policy?

Conventionally, the study of economy treats the regulation of a minimum wage as a threat of immensely increase of unemployment rate. This can be easily explained. As rational business managers, their goal should be maximizing the company’s value, in order to rise the shareholder’s wealth. Therefore, every decision must follow the simple cost-benefit rule, where the benefit obtained by taking that action must exceed the extra cost incurred. When we apply this norm in the labor market, the marginal product revenue for the labors must equal to the cost of hiring them. In other words, the extra benefit gained by the company from hiring one additional unit of labor has to be at least as great as his/her wage. According to the law of diminishing return, the extra productivity for hiring an additional unit of labor tends to decrease, hence eventually the firm will stop to employ labors. In Australia, the unemployment rate is determined by the market demand and supply of labor. The minimum wage regulation sets a salary floor for the industry. This is going to force the companies to hire less people, since they need to match the minimum wage(cost) to the labor’s marginal production. As a result, the overall market demand for labor declines, which leads to the increase of unemployment.

Despite the theories of the economics, why does Mr. Shorten espouses that applying the minimum wage systems will not wind Australian employment rate? As a matter of fact, the unemployment rate is consisted by three sections: frictional, structural and cyclical unemployment. The structural unemployment is not likely to be affected by the minimum wage since it is a result of product demand change or insufficient skill of the worker. The cyclical unemployment is commonly considered as an fixed amount in erratic to the economy’s expansion/recession. Thus the frictional unemployment should be affected the most by the salary floor, because that is the proportion of labors moving or changing occupations. Especially for the young workers who just enter the workforce. However, the research of the European Commission  suggests that efficiency/productivity gains, reduced labour turnover, passing on costs in the form of small price increases would minimize the effect of the cost increase.

Personally, I believe if the minimum wage can be set in an appropriate amount, it would not create tremendous impact over the unemployment rate. It is unanimous that the tricky part is to precisely calculate this ‘moderate amount’. It requires lots of endeavor to maintain the process on track, otherwise no one would like the consequences that we may face.