Lecture on Price Floors and Minimum Wage

Price Floors: Definition and Implications

• Definition: A price floor is a legal limit on the minimum price that can be charged for a good or service.
• Binding vs. Non-Binding:
  • Binding: Effective only if set above the equilibrium price.
  • Non-Binding: If set below equilibrium, it has no effect since equilibrium price is naturally higher.
• Market Effects:
  • Surplus occurs when price floor is above equilibrium.
  • Resources are misused, leading to inefficiencies.

Famous Example of a Price Floor: Minimum Wage

• Minimum Wage:
  • Affects labor market where it sets the lowest legal hourly wage.
  • Federal minimum wage applies across all states, but individual states may set higher rates.

Economic Theory on Minimum Wage

• Labor Market Dynamics:
  • Demand for Labor: Determined by marginal product of labor.
  • Supply of Labor: Determined by willingness to work at different wages.
• Impact:
  • Only affects markets where equilibrium wage is below the minimum wage.
  • Results in unemployment: more workers willing to work than jobs available.

Welfare Effects

• Benefits:
  • Higher wages for those who can find jobs.
  • Better living standards for low-income workers.
• Deadweight Loss:
  • Some workers willing to work at lower wages can't find jobs due to minimum wage.

Minimum Wage Debate

• Efficiency Wages:
  • Increased wages can lead to increased worker productivity.
• Monopsony Power:
  • In markets with few buyers (employers), minimum wage can improve outcomes by increasing both wages and employment.

Case Study: Card and Krueger (1995)

• Natural Experiment:
  • Compared fast-food employment effects in Pennsylvania vs. New Jersey after NJ increased its minimum wage.
• Results:
  • Contrary to expectations, employment slightly increased in NJ, while it decreased in PA.
  • Indicated that the minimum wage might not always reduce employment.

Historical and Practical Considerations

• Historical Example:
  • 1938 U.S. introduced a 25 cents/hour minimum wage.
  • Devastating effects in Puerto Rico with lower average wages, leading to bankruptcy and economic distress.
• Modern Implications:
  • Extremely high minimum wages (e.g., $100/hour) could lead to massive job losses as marginal workers may not be profitable.

Conclusion

• Complex Effects:
  • Minimum wage impacts labor markets in diverse ways depending on the context.
  • Further studies show varied results; some support increased employment while others show disemployment effects.
• Policy Implications:
  • Consideration needed for market-specific factors and potential unintended economic consequences.