Q. 22 Suppose that a 5% increase in th... [FREE SOLUTION]

Chapter 4: Q. 22 (page 105)

Suppose that a 5% increase in the minimum wage causes a 5% reduction in employment. How would this affect employers and how would it affect workers? In your opinion, would this be a good policy?

Short Answer

Expert verified

It will affect employers if the job loss affects people on the verge of poverty, it may be a loss rather than gain. Firms respond to the new input prices by substituting physical capital for labor or cutting output (wages in this case). To summarise, that is not a good policy.

Step by step solution

Definition

Minimum wage:

To be effective, a minimum wage must be set higher than the market wage rate. Employers are required to observe the minimum wage requirements when this occurs. A greater wage will not necessarily benefit all workers.

Step 2:Explanation

A 5% rise in the minimum pay resulted in a 5% fall in employment, meaning that the decrease in employment was proportional to the minimum wage increase. Due to an increase in the minimum wage, firms reacted forcefully by reducing labor employment. This pattern suggests that the minimum wage for unskilled workers was not sufficiently low. Given the new input prices, businesses may have replaced physical capital for labor or reduced production (wages in this case).

The 95 percent of the workers earning minimum wage will receive a raise as a result of this legislation, while the remaining 5% will lose their jobs. Because the losses are more painful than the revenue gain for the other group, it does not appear to be a societal benefit.

Conclusion

Therefore, furthermore, if the fall in employment affects persons living on the edge of poverty, it may be more of a loss than a gain. Given the new input prices, firms respond by substituting physical capital for labor or reducing production (wages in this case). To summarise, that is not a good policy.