Inflation, Minimum Wage and Profits

There are two basic debates about inflation. One is mostly good faith (if highly contested): It concerns the actions of the Federal Reserve. Another is mostly bad faith: It uses the existence of elevated inflation as a cudgel against any progressive policy change and as a justification for long-standing ideological priorities. This is most visible in fiscal policy debates, with some people claiming that spending must be restrained, but taxes must be cut.

This bad faith will surely rear its head in debates on attempts to move forward on stronger labor standards as well–by increasing the federal minimum wage. Even under normal circumstances, opponents of minimum wage increases claim they will be inflationary, so they will almost exaggerate these effects today. In this blog post, I make the following points about the relationship between minimum wages and inflation:

-Faster inflation makes it MORE important, not less, to raise the federal minimum wage, Every yer lawmakers don’t raise the minimum wage to $15 by 2027 is passed on in the form of higher prices, the result would be a five-year stretch of inflationary pressure equal to 0.1% per yer.

-Even this extremely mild inflation could be blunted by other margins of adjustment to a higher minimum wage–including a retreat from today’s still sky-high profit margins. During normal times, profits account for about 13% of the price of goods and services, but since the recovery from COVID-19’s recession began the second quarter of 2020, rising profit margins have accounted for 40% of the rise in prices. When these margins normalize, there will be ample room for noninflationary wage growth.

Note: Faster inflation makes it more important to raise the minimum wage.

Every year that the minimum wage’s value is not raised, it’s effectively cut in inflation-adjusted terms. These inflation-driven cuts can snowball quickly, even during times of inflationary outburst. But when inflation is higher than normal. the real value of the minimum wage can be crushed if lawmakers do not do anything about it. In the last two years alone, the minimum wage’s purchasing power has dropped by 12.2%–a massive hit to the living standards of working people.

Arguing that the federal minimum wage should be raised after the current inflationary outbreak is far in the past is arguing that low-wage workers should have no serious protection against the damage to living standards being done by today’s price growth.

Note: Minimum wage increases have trivial effects on inflation.

Some claim to worry that raising the minimum wage might raise our current inflation problem. This is not a serious concern. Consider the Raise the Wage Act, which would raise the minimum wage to $15 in 5 steps by 2027 and would be indexed to growth in median wages thereafter. If EVERY PENNY of this higher minimum wage fed directly into higher prices–that is, none of it was financed by by higher productivity or lower profits–the move to $15 would create a one-time step increase in the overall price level of less than 0.5%. Spread over 5 years, this implies an average boost to inflation of less than 0.1% per year, will fade to near-zero.

Note: Other margins–particularly corporate profits–can absorb this small price pressure.

On this latter margin–lower profits–it’s important to note that there is a LOT of room for them to absorb by the minimum wage hike without feeding through the higher prices. For example, profit margins are up nearly 30% relative to pre-pandemic peaks, and the profit spikes explain roughly 40% of the rise of prices over the recovery,. Even in normal times, increased profits contribute to inflation, but in this recovery, the share of inflation that is explained by increased profits that is increased by profits is more than three times its normal size. In short, large margin profits are a huge potential absorber of any price pressures in the years to come.

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