Labor Market Data
Price
$5
Qs
Qd
Price
$10
$15
$20
$25
3,000,000 6,000,000 9,000,000 12,000,000 15,000,000
15,000,000 12,000,000 9,000,000 6,000,000 3,000,000
$30
$25
$20
$15
$10
$5
3
0
6
e
9 12 15
So
Worth Publishers
SCENARIO:
The state government is considering raising the minimum wage from $15 per hour to $20 per hour over the next 3 years. As an economic advisor to the governor, you have been asked to provide a recommendation on whether the minimum wage should be increased based on economic theory.
Consider the labor market data provided.
Prepare a brief report that:
1. Explains whether the labor market is currently efficient at the equilibrium wage of $15 per hour. How would you know? At equilibrium, what (dollar amount) is the Total Surplus this market provides? Show your rationale with numbers.
2. Analyzes the impact on total surplus in the market if the minimum wage is raised to $20 per hour. Would total surplus increase or decrease? What is the new (dollar amount) Total Surplus? Show your rationale with numbers.
3. Provides a recommendation on whether the minimum wage should be raised to $20 per hour based on the goal of improving economic efficiency and total surplus in the labor market. Show your rationale with numbers.
4. On a personal level (not as the economic advisor of the governor), what are your thoughts on the idea of raising the minimum wage? Are you for it or against it? Explain your rationale.
Area of a triangle = 1/2* base * height
Market Efficiency & Total Surplus
Graphical Analysis
The Minimum Wage
Questions & Reflection
PAGE 9
Answer (2)
The labor market is efficient at a $15/hour wage, maximizing total surplus at $112,500,000. Raising the minimum wage to $20/hour decreases total surplus to $75,000,000, resulting in a deadweight loss of $37,500,000. Therefore, I recommend against raising the minimum wage to maintain economic efficiency and total surplus in the labor market.
;
The labor market is efficient at 15/ h o u r , w i t ha t o t a l s u r pl u so f $112,500,000$. - Raising the minimum wage to 20/ h o u r d ecre a ses t h e t o t a l s u r pl u s t o $75,000,000$.
The deadweight loss from the minimum wage is $37 , 500 , 000 .
The recommendation is against raising the minimum wage to improve economic efficiency. Do not raise the minimum wage.
Explanation
Efficiency at Equilibrium The labor market is currently efficient at the equilibrium wage of $15 per hour because the quantity supplied equals the quantity demanded (9,000,000). This means that all willing buyers and sellers are able to transact at this price, maximizing total surplus. To calculate the total surplus at equilibrium, we need to find the consumer surplus and producer surplus.
Total Surplus at $15 Consumer surplus (CS) is the area above the equilibrium price and below the demand curve. It can be calculated as 1/2 * (equilibrium quantity) * (maximum price willing to pay - equilibrium price). From the data, the maximum price willing to pay is 30 ( w h ere Q d = 0 ) . T h ere f ore , CS = 2 1 \t × 9 , 000 , 000 \t × ( 30 − 15 ) = 2 1 \t × 9 , 000 , 000 \t × 15 = $67 , 500 , 000 $
Producer surplus (PS) is the area below the equilibrium price and above the supply curve. It can be calculated as 1/2 * (equilibrium quantity) * (equilibrium price - minimum price willing to accept). From the data, the minimum price willing to accept is 5 ( w h ere Q s = 0 ) . T h ere f ore , PS = 2 1 \t × 9 , 000 , 000 \t × ( 15 − 5 ) = 2 1 \t × 9 , 000 , 000 \t × 10 = $45 , 000 , 000 T o t a l s u r pl u s ( TS ) i s t h es u m o f co n s u m ers u r pl u s an d p ro d u cers u r pl u s : TS = CS + PS = $67 , 500 , 000 + $45 , 000 , 000 = $112 , 500 , 000 $
Impact of $20 Minimum Wage If the minimum wage is raised to $20 per hour, the quantity demanded decreases to 6,000,000, and the quantity supplied increases to 12,000,000. However, the actual quantity transacted will be the lower of the two, which is 6,000,000. This creates a surplus of labor (unemployment).
Total Surplus at $20 With the minimum wage at 20 , t h e n e w co n s u m ers u r pl u s i s : CS = 2 1 \t × 6 , 000 , 000 \t × ( 30 − 20 ) = 2 1 \t × 6 , 000 , 000 \t × 10 = $30 , 000 , 000 T h e n e wp ro d u cers u r pl u s i s : PS = 2 1 \t × 6 , 000 , 000 \t × ( 20 − 5 ) = 2 1 \t × 6 , 000 , 000 \t × 15 = $45 , 000 , 000 T h e n e wt o t a l s u r pl u s i s : TS = CS + PS = $30 , 000 , 000 + $45 , 000 , 000 = $75 , 000 , 000 $
Deadweight Loss The deadweight loss (DWL) is the difference between the total surplus at equilibrium and the new total surplus with the minimum wage: D W L = $112 , 500 , 000 − $75 , 000 , 000 = $37 , 500 , 000 Since the total surplus decreases from $112,500,000 to $75,000,000, the minimum wage increase reduces economic efficiency.
Recommendation Based on the goal of improving economic efficiency and total surplus in the labor market, the minimum wage should not be raised to $20 per hour. The increase leads to a decrease in total surplus and creates a deadweight loss, indicating a reduction in economic efficiency.
Personal Thoughts On a personal level, the idea of raising the minimum wage is complex. While it can provide a higher income for some low-wage workers, it can also lead to job losses and reduced employment opportunities, especially for those with lower skills. The trade-off between higher wages and potential unemployment needs careful consideration, along with other factors like the cost of living and the overall economic climate.
Examples
Consider a local bakery that operates in a market where the equilibrium wage for bakers is $15 per hour. At this wage, the bakery can hire the optimal number of bakers to meet customer demand, and both the bakery and the bakers benefit from this arrangement. If the government imposes a minimum wage of $20 per hour, the bakery might reduce its staff or increase prices to compensate for the higher labor costs. This could lead to some bakers losing their jobs or customers reducing their purchases, ultimately decreasing the overall economic benefit in the local baking market. Understanding these effects helps in making informed decisions about minimum wage policies.
