Obama's Chief Econ. Adviser Once Made An Amazing Discovery: Demand Curves Slope Upward

Great post by Mark Perry of "Carpe Diem."

"In a 1994 paper published in the American Economic Review, economists David Card and Alan Krueger (appointed today to chair Obama's Council of Economic Advisers) made an amazing economic discovery: Demand curves for unskilled workers actually slope upward! Here's a summary of their findings (emphasis added):

"On April 1, 1992 New Jersey's minimum wage increased from $4.25 to $5.05 per hour. To evaluate the impact of the law we surveyed 410 fast food restaurants in New Jersey and Pennsylvania before and after the rise in the minimum. Comparisons of the changes in wages, employment, and prices at stores in New Jersey relative to stores in Pennsylvania (where the minimum wage remained fixed at $4.25 per hour) yield simple estimates of the effect of the higher minimum wage. Our empirical findings challenge the prediction that a rise in the minimum reduces employment. Relative to stores in Pennsylvania, fast food restaurants in New Jersey increased employment by 13 percent."

Note: In that case, New Jersey should have increased the minimum wage even higher than $5.05 per hour, and employment would have increased even more than 13%!

It was only a short time before the fantastic Card-Krueger findings were challenged and debunked by several subsequent studies:

1. In 1995 (and updated in 1996) The Employment Policies Institute released "The Crippling Flaws in the New Jersey Fast Food Study"and concluded that "The database used in the New Jersey fast food study is so bad that no credible conclusions can be drawn from the report."

2. Also in 1995, economists David Neumark and David Wascher used actual payroll records (instead of survey data used by Card and Krueger) and published their results in an NBER paper with an amazing finding: Demand curves for unskilled labor really do slope downward, confirming 200 years of economic theory and mountains of empirical evidence (emphasis below added):

"We re-evaluate the evidence from Card and Krueger's (1994) New Jersey-Pennsylvania minimum wage experiment, using new data based on actual payroll records from 230 Burger King, KFC, Wendy's, and Roy Rogers restaurants in New Jersey and Pennsylvania. We compare results using these payroll data to those using CK's data, which were collected by telephone surveys. We have two findings to report.

First, the data collected by CK appear to indicate greater employment variation over the eight-month period between their surveys than do the payroll data. For example, in the full sample the standard deviation of employment change in CK's data is three times as large as that in the payroll data.

Second, estimates of the employment effect of the New Jersey minimum wage increase from the payroll data lead to the opposite conclusion from that reached by CK. For comparable sets of restaurants, differences-in-differences estimates using CK's data imply that the New Jersey minimum wage increase (of 18.8 percent) resulted in an employment increase of 17.6 percent relative to the Pennsylvania control group, an elasticity of 0.93. In contrast, estimates based on the payroll data suggest that the New Jersey minimum wage increase led to a 4.6 percent decrease in employment in New Jersey relative to the Pennsylvania control group. This decrease is statistically significant at the five-percent level and implies an elasticity of employment with respect to the minimum wage of -0.24."

MP: It should be noted that even if empirical evidence suggests that raising the minimum wage has no effect on the level of employment, that finding does not necessarily mean that the minimum wage has no adverse effects. There could be many other negative effects making unskilled workers worse off, even if they manage to keep their job following a minimum wage increase. Here are some examples:

1. Reduction in the number of hours worked;
2. Reduction in fringe benefits like reduced cost uniforms, reduction or elimination of reduced cost or free meals at restaurants, elimination or reduction in company-sponsored holiday parties, picnics, events;
3. Reduction or elimination in any health care benefits;
4. Reduction in on-the-job training, etc.

The most likely outcome of a minimum wage increase, confirmed by Neumark and Wascher and consistent with the Law of Demand, would be that everything beneficial for unskilled workers decreases: employment levels, hours worked, fringe benefits, subsidized uniform and food, training, etc. Let's hope that labor economist Alan Krueger, as he assumes his new position as Chief Economist to the President, remembers that demand curves really do slope downward, despite his original flawed findings based on faulty survey data."