Question

Why is a minimum wage such a popular government policy in most countries? Use your understanding of supply/demand analysis to explain the advantages of the minimum wage and the disadvantages of the minimum wage. Provide a graph to illustrate your answer. Be sure to use your graph and the laws of supply and demand to answer the question, not public opinion.

Answer 1

Most governments use the concept of minimum wage to impose price control. Price controls determine the minimum price that must be paid for certain goods or services. Minimum wage laws exist to ensure a basic quality of life among all citizens - these laws attempt to improve an individual's position, and seek to achieve a certain level of economic equality.



Disadvantages of minimum wage:

Use the definition of market from elementary economics to define the job market. It works best if wages are set by supply and demand, not by any other factor. The government can't set minimum prices for other items, they shouldn't decide the lowest amount a worker gets paid.

If the equilibrium wage is higher than the minimum wage, then the minimum wage has no significant effect on the market, since the equilibrium point will be above the minimum wage. If the equilibrium wage is below the minimum wage, however, then there will be a surplus of labour. Aggregate demand for labour is lower than aggregate supply. There will be unemployment. In this situation, not every worker who is willing to work for the minimum wage will be able to find a firm who wants to hire them. The supply and demand model implies that by fixing a price floor above the equilibrium wage, minimum wage laws will cause unemployment.

Advantages of minimum wage:
The supply and demand model predicts that raising the minimum wage helps workers whose wages are raised, and hurts people who are not hired when companies cut back on employment. However, minimum wage is much more complicated than can be accounted for by the market. In case only a single hiring firm exists in the market, the individual employer has power in determining minimum wage. Thus it is at least theoretically possible that the minimum wage may boost employment.

Hope this helped!