Q1. Definition of Minimum Wage According to the Economic Theory
Minimum wage is an economic principle specifying the least amount of remuneration that firms must provide to their workers in exchange for their labour over a given period of time (Abott, 2012). In most cases, the labour legislation is measured per hour or monthly and targets unskilled employees. According to Sumer (2018), every firm’s compensation packages cannot fall below the minimum wages. The law is intended to protect the employees have unlimited access to far living wage. For example, the Australian government through the Fair Work Commission utilizes the minimum wage as a tool for ensuring that workers at various levels receive fair payment. However, the legislation sometimes lead to unintended consequences such as job losses as businesses reduce their labour acquisition as a strategy for minimizing production costs (Adler, 2012).
Q2. Minimum Wage per Hour
The Australian Fair Work Commission engages the experts in establishing new minimum wages annually based on the prevailing changes in economic environment. Each review of the minimum wage order come into effect on 1st July of the next financial period. According to the 2018 order, the new minimum wage is $ 719.20 weekly for normal workers and those with disabilities that do not affect their productivity. Given that the legally recognized working hours are 38, the wage rate per hour is $ 18.93 (Fair Work Commission, 2018). The casual employees are also entitled to higher pay rate of 25% than their permanent counterparts who access benefits such as paid holiday and sick leaves. On the other hand, the minimum wage rates for workers whose productivity level are significantly affected by disabilities are calculated by a special schedule. Adult apprentices must earn at least $ 622.20 weekly or $16.37 per hour (Fair Work Commission, 2018).
Q3. Equilibrium Wage Rate
The players in a competitive labour market employ the demand and supply interactions to determine the appropriate payment scales. As Belman, Wolfson and Project Muse (2014) explain, equilibrium wages rate refer to the point where demand and supply curve meets. In this case, Demand curve = 1,500,000 – 60,000W and Supply curve = 120,000W – 1,200,000. Therefore equilibrium price can be derived by the equation 1,500,000 – 60,000W = 120,000W – 1,200,000
= - 60,000W - 120,000W = - 1,200,000 - 1,500,000
= - 180,000W = -2,700,000
W = -2,700,000/-180,000
W = $15
Equilibrium Wage rate = $15 per hour
Quantity of Unskilled Labour Employed
The quantity of unskilled labour can be derived by factoring in the equilibrium wage into the supply equation as follows:
S= 120,000W – 1,200,000
Where S = amount of unskilled labour supplied
W = $15
S = 120,000 (15) – 1,200,000
S = 1,800,000 – 1,200,000
S = 600,000
Therefore, Quantity of Unskilled Labour Employed = 600,000 hours
According to Figure 1 below, the wage rate changes with the fluctuation in demand and supply. The increase in demand reduces the amount of remuneration that the firms are willing to issue to the unskilled workers. For example, the demand in the Australian labour market is 1,200,000 when the wage is 5 [D = 1,500,000 – 60,000 (5)] and it falls to 900,000 when the payments increase to 10 [D = 1,500,000 – 60,000 (10)]. In contrast, the increase in wages triggers rise in quantity of labour supplied. The rise in wage rates from 10 to 20 increases the supply from 0 [S = 120,000 (10) – 1,200,000] to 1,200,000 0 [S = 120,000(20) – 1,200,000]
Wages 25
R
20 Consumer Surplus
Supply
15
W* E
10
S Producer Surplus
5 Demand
0 Q*
200,000 400,000 600,000 800,000 100,000 1,200,000
Employment
Figure 1: Equilibrium Point in Australian Labour Market
The equilibrium wage rate is the point where the demand meets the supply as shown above (Beyza, 2018). The demand curve meets the supply curve at the point where wage rate is $15 (W*) and quantity of labour supplied is 600,000 (Q*). At this point, the number of individuals that are willing to work is equal to the quantity of labour firms want to employ.
Q4. Consumer, Producer and Total Surpluses
i. Consumer/Firm Surplus
Consumer surplus refers to the disparity between the total amount of wages that the Australian firms are willing and able to remit to the unskilled labours and the remuneration that the businesses actually pay (Sage and Rouse, 2011). In figure 1 above, the entities employ Q* workers at W*. The total benefit accruing to the firms is the sum of marginal products of all the workers. The firms’ interest and ability to acquire the needed labour is represented by the demand curve while the prevailing wage rate is w*. In figure 1 the consumer surplus area is the purple part represented by triangle W*EX (Hall and Lieberman, 2008).
Consumer Surplus = (1/2) x Q* x ΔW
Where Q* = Equilibrium Quantity
ΔW = Maximum wages – W*
Maximum wages occurs where quantity demanded = 0
1,500,000 – 60,000W = 0
- 60,000 W = - 1,500,000
W = -1,500,000/ - 60,000
W = 25
ΔP = 25 -15
= 10
CS = ½ x 600,000 x 10
= $3,000,000
ii. Producer/Worker Surplus
Producer surplus is the variation between the minimum wages an unskilled labour would accept for their services and the exact wages they receive. The supply curve serve as the wage rates needed to attract the workers into the labour market (Hall and Lieberman, 2008). The curve’s height at any given point is equal to the value of the marginal labour’s time. From figure 1, the difference between W* and the value of the labourer’s time outside the market represents the gains enjoyed by the individuals that is also known the workers surplus. In this case, the Australian unskilled labour’s worker surplus is represented by triangle ESW*. The area of the triangle can be derived using the formula ½ x base x height.
Where Base = Q* = 600
The height = W* – the wage rates where S = 0
120,000W – 1,200,000 = 0
W = - 1,200,000/ - 120,000
W = 10
Therefore, Height = 15 – 10 = 5
And Producer surplus = ½ x 600,000 x 15
= $ 4,500,000
iii. Total Surplus
Total surplus is the combination of benefits accruing to both the consumer and producers.. According to Petrosky-Nadeau and Wasmer (2017), competitive labour market provides opportunity for the producers and consumers to maximize such values. The total surplus area is represented by the triangles ESR in figure 1 above. That is, Total surplus = Consumer Surplus + Producer Surplus
TS = 3,000,000 + 4,500,000
= $ 7,500,000
Q5. Impacts of imposing a minimum wage at $19
i. Hours of Employment Exchanged
Increasing the minimum wage by Fair Work Commission to $ 19 would decrease the labour demand to 360,000. Since the demand = 1,500,000 – 60,000W, substituting W with the new wage rates yields the number of hours employed. That is, 1,500,000 – 60,000 (19)
= 360,000
The hours of labour exchanged will fall by 240,000 (600,000 – 360,000)
ii. Size of Surplus of Hours
Fair Work Commission’s action would increase the labour supply. As a result, the quantity supplied would expand from 600,000 to 1,080,000.
Supply = 120,000W – 1,200,000
120,000 (19) – 1,200,000
= 2,280,000 – 1,200,000
= 1,080,000
In other words, the firms would be willing to employ 360, 000 as compared to a supply of 1,080, 000. According Sage and Rouse (2011), supply Surplus = [(1/2) x (Quantity supplied - Quantity demanded) x ΔW]
Where ΔQ = 1,080,000 – 360,000 = 720,000
ΔW = Imposed wages – W* or $ 19 - $ 15 = $ 4
Therefore, the surplus area = ½ x 720,000 x 4
= $ 1,440,000
Q6. Minimum Wage Diagram
Wages
25 R
20 Consumer Surplus Supply Surplus Minimum wage line
W1 G F Supply S
15
W* M E
10 H Deadweight Loss
S Producer Surplus
5 D
Demand
0 Q1 Q* Q2
200,000 400,000 600,000 800,000 100,000 1,200,000
Employment
Figure 2: Impacts of Imposing Minimum Wage
i. Imposing the minimum wage would increase the workers’ remuneration to W1.
ii. Consumer/ Firm Surplus
The consumer surplus would shift upwards as a result of the increase in minimum wage. An Australian employer’s ability to meet its labour needs is represented by the demand curve while the workers’ compensation would rise to W1. Therefore, the surplus area is RW1G. From the graph, the area = ½ x base (360,000 – 0) x height ($ 25 - $19)
= ½ x 360,000 x $ 6
= $ 1,080,000.
iii. Producer/Worker Surplus
Before the legislation, the unskilled labourers are would commit all their time to work if the wages corresponds to the supply curve (SS) while the employs’ ability to meet such need is restricted by the demand curve (RE). However, the new legislation increases the worker’s willingness to participate in the labour market to W1G. This means that the quantity of labour hours the employers can afford at any time lies on the left side of the point of intersection between the demand curve and the minimum wage line (Hall and Lieberman, 2008). Therefore, the worker’s surplus is represented by trapezium W1GHS also dotted in yellow. Applying the formula for finding the area of a trapezium the surplus size can be determined as follows:
Area = ½ (a +b) Height
In this case, a = W1S or $19 - $10 = $ 9
Height = W1G or 360,000
b= GH where G $ 19
While H = the point where supply curve = 360,000
(120,000W – 1,200,000 = 360,000)
-120,000W = -1,200,000 – 360,000
W = 13 hence GH = $ 19 - $ 13 = $ 6
Therefore surplus area = ½ x ($ 6 + $ 9) x 360,000
= $ 2,700,000
iv. Total Surplus
Total surplus = $ 2,700,000 + $ 1,080,000.
= $ 3,780,000
v. Resources Lost due to Job Search
These are the values lost due to the fall in employment opportunities. In other words, the amounts of resources lost = Producer surplus before the minimum wage – producer surplus after the minimum wage (Sage and Rouse, 2011).
= $ 4,500,000 - $ 2, 700,000
= $1,800,000
vi. Deadweight Loss
The minimum wage would also influence the firms to cut the employment levels thereby creating deadweight loss. The value of the gains lost due to the new law is the number of people willing to work less the available employment opportunities. The right hand side of the intersection point of the minimum wage and demand curves represent the decreased ability of the firms to meet the labour requirements while the total lost value occur in area marked in GHE as shown in figure 2 above.
GH = $ 19 - $ 13 = 6
Height of the triangle = 600,000 – 360,000 = 240,000
Area = ½ x 6 x 240,000
Deadweight loss = $720,000.
Q7.
Implications of Minimum Wages
i. No, the Firms are not better off
The minimum wage would place a heavy burden on the employers. The firms’ expenditure would increase by more than $4 thereby reducing their abilities to hire all the labour needed to perform their activities efficiently. The decrease in the firm’s surplus from $ 3,000,000 to $ 1,080,000 indicates the loss of value arising from the increment of the minimum wage. It also reflects the loss of utility that might influence the managers to resort to unfavourable cost cutting incentives such as shutting down some of their operations.
ii. No, only the employed workers would be better off
The benefits accruing to the unskilled labourers would significantly decline from $ 4,500,000 to $2,700,000. Only the workers that secure employment would enjoy the increased earnings. However, more people are likely to lose their jobs. The labour demand would fall by 360,000 units, creating stiff competition that may lead to loss of jobs among a large portion of those who are currently working. The labourers would lose the freedom of choosing the wage rates that would efficiently fulfil their personal needs.
iii. No, the society would not be better off
The loss of jobs and high cost of labour would undermine the market players’ ability to exploit their potential. The implications of the minimum wages might be greater than the fall of economy surplus from $ 7,500,000 to $ 3, 780,000. For example, the rise in wages might translate into increase in prices of the final product. Therefore, the members of the society would spend more in order to achieve the same level of utility as before the minimum wage. The firms might also opt to replace the unskilled labourers with more qualified workers. Consequently, the production levels would decrease resulting to widespread unemployment.
Q8. Impacts of the Minimum Wages if the Resources are not lost in Job Search Activity
i. Consumer/Firm Surplus
Area W1W*MG ($4 x 360,000 = $ 1,440,000) is the part of consumer surplus that was transferred to the workers by the minimum wage. In contrast, GME is the surplus lost in the process. However, the changes place the burden on the consumer since the resources are captured by the producers. Therefore, the consumer surplus would remain at $ 1,080,000.
ii. Producer/Worker Surplus
The new producer surplus = Surplus before Minimum wage + surplus lost due to the minimum labour legislation. In this case, MHE is the loss of producer surplus associated with Fair Work Commission’s interference.
Therefore, new producer surplus = $ 4,500,000 + (1/2 x ME X MH)
= $ 4,500,000 + (1/2 x 240,000 X $3)
= $ 4,500,000 + (360,000)
= $ 4,860,000
iii. Total Surplus
Total Surplus = New Consumer Surplus + New Producer Surplus
= $ 4,860,000 + = $ 1,080,000
= $ 5,940,000
iv. Deadweight Loss
The deadweight loss in figure 2 would be reduced by more than half, since the firms the loss to the producers would be eliminated. Only the section associated with the consumer would remain (area GME). As such, the new deadweight loss = (½ x ME X MG)
= (½ x 240,000 X $ 4)
= $ 480,000
Q9. Part I of the Conclusion in Q7 above will remain the same while Parts II and III will change as follows:-
i. The firms would be worse off, since they have to increase their expenditure in order to provide the new values to the customer. The consumers would not only transfer $1,440,000of their surplus to the labourers but also incur additional $ 480,000 in increasing the producers’ payments. However, with the increase in pay, the workers are likely to stay with their employers for a longer duration than before the introduction of the new wage rates. The low workers turnover would translate to economic advantages such as reduced hiring and training costs.
ii. Yes, all the unskilled labourers would be better off. As opposed to the producers experiences in case Q7 above every worker would enjoy the increased surplus from $ $ 2,700,000 to $4,860,000 without the risk of losing their jobs. The net pay of working families in the bottom of the income distribution would rise.
iii. Yes, the society would be better off. Since the significant portion of inefficiency is eliminated, the total surplus would increase by $2,160,000. Unlike in Q7, the marginal product of each employee is higher than the value of their time spent outside the labour market. However, the gains would only be achieved if the firms do not offset the impacts of higher wages by increasing the commodity prices. Adler (2012) argue that the widespread gains from new remuneration packages result if the increase is adequate to keep pace with price inflations. In this case, W* would increase the amount of money in supply to $ 5, 490,000 thereby stimulating economic growth. The workers are likely to increase their expenditure that in turn would influence the firms to expand their production capacity. Consequently, the economies of scale would allow the firms to offset the costs resulting from the new labour legislation. Nevertheless, such a growth in the society welfare would only be achievable if the change of wages from $15 to $19 increases the consumption patterns of the beneficiary. In contrast, if there is no significant rise in purchasing power the businesses might make decisions that are unfavourable to the society growth.
Q10. Consequentialists Perspective
According to consequentialism, decision makers should choose the option that maximizes value for the majority of the stakeholders (Sümer, 2018). On the other hand, raising minimum wage sacrifices happiness of more than 600,000 unskilled labourers in favour of 360,000 who the firms can comfortably employ at the new rates. The free interactions between demand and supply of labour in a competitive market always maximize utility to both the sellers and consumers. As a result, consequentialist discourages the interference of the efficiency by the governmental entities especially whenever their actions benefit a few players at the expense of others (Sümer, 2018). In this case, Australian Fair Work Commission’s action would create unnecessary surplus in the supply of labour. Even if the available firms could accommodate the extra workforce, the marginal product of the each of the worker would be lower than the value of his/her time in other activities. At the same time, the 240,000 labour hours that the firm cannot afford due to the increment have a marginal product that exceeds their real value elsewhere. Consequently, the legislation is not ethically justified.
Q11. Impacts of the Minimum Wage on the Living Standards of Unskilled Workers
The minimum wage only improves the welfare of the few employed workers but exposes their unemployed counterparts to decrease in utility. The employment rate will fall by 40% (240,000/600,000 x 100%) while wages rose by 26% ($4/15 x 100%). The firms are also likely to resort to lean manufacturing processes that may harm undermine their workers’ career growth. The employers can reduce fringe benefits and human resources packages that are positively correlated with the living standards of their workers. For example, the firms may no longer offer adequate on-job training, health insurance, bonuses or overtime payments. In consequentialists’ view, a decision is ethically right whenever it maximizes the experiences of the vast majority (Sümer, 2018). On the other hand, the inflation arising from the new wage rates might erode all the benefits accruing to the unskilled labourers. The new law might lead to general increase in prices of the end products hence it may not significantly impact on the increase in the welfare of the beneficiaries. Therefore, the 40% of the workforce would not only lose their jobs but also purchase the commodities at higher prices.
Q12. Arguments for Minimum Wage
In deontologists’ view, classifying an action as either right or wrong depends on the inherent attributes and not the end results of implementing a particular decision (Hooker, 2012). Therefore, the Australian Fair Work Commission is ethically justified to impose the legislation as a means of protecting the unskilled workers from exploitation by the employers. According to Summer (2018), although the players in the unregulated labour markets enjoy the privilege of pursuing course of action that attracts optimum utility, the freedom of choice favours the employers at the expense of the workers. Most firms tend to acquire the labourers at lower prices than they deserve. At the same time, these disadvantaged employees are always willing to accept the unfair offers since they are in dire need of source of livelihood. As a result, setting the minimum wage reduces the negotiation power-imbalance. The labour law is also based on the prevailing cost of living meaning the high pay is effective measure for addressing vital issues in the society such as poverty and inequality in wealth distribution. That is, it raises the purchasing power of the low wage workers as well as their ability to rise in the income ladder.
References
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Hall, R. E., " Lieberman, M. (2008). Microeconomics: Principles and applications. Mason, OH: Thomson/South-Western.
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