This post is mostly for my reference. I responded at a local forum in answer to some questions about the nature of wages and the effects of productivity improvements. I don’t have much experience debating economics (as opposed to capitalism) so suggestions are welcome…

What is a job?

A job is a contract between two parties, in which one party agrees to provide certain services on a certain schedule in exchange for payment from the other party. By definition, an employee agrees to do job for a particular wage by his own voluntary consent. This is opposed to slavery, in which a slave is forced to work without his consent or compensation.

What determines wages? Can’t employers pay workers whatever they want?

A wage is the price an employer pays for the services his employee. While the two may negotiate any wage they come to mutual agreement on, the mutual self-interest of both and market forces intersect at a market-set price that represents the intersection of their interests. Disregarding non-economic factors, an employer wishes to wishes to pay his employee as little as possible. The maximum amount he will pay however, is the value of the marginal productivity a given worker provides. (The marginal productivity is the value per unit of time the worker provides to the employer.) If the worker refuses to work at or below his marginal productivity, then the employer will not hire him, since doing so will incur a loss. Conversely, disregarding non-economic factors, the employee wishes to be paid an infinite amount. The minimum wage he will actually accept is the marginal value of his labor. This can be measured in terms of the next-most useful value-producing activity the workers may engage in. For example, suppose that my marginal productivity as a programmer is $30 per hour. I will accept any job paying above $30 an hour, but no job below it, since I can find an employer paying that much in another computer or tech-related industry. A fast-food worker might have a marginal productivity of say, $6 an hour – the value per hour that his labor creates for the business. From the employer’s perspective, I create $40/hour of value, and the fast food workers creates $7 of value, so he will be willing to hire us. (Assuming that no one is willing to provide the same value for a lower wage.) However, if I only provide $20 of value, the employer will not hire me, because he would incur an hourly loss of $10 in doing so. Similarly, if the fast food worker only provides $5 of value, he would no be hired either because he would cause a loss of $1 for each hour he works.

Can government increase wages when employers don’t pay enough?

Suppose that the government imposed a minimum wage of $8. Would the fast food worker who provides a value of $7 per hour now be paid $8? No, he would lose his job – because keeping him would mean a $1 loss for each hour he works to his employer. All minimum wage laws have a similar effect – they cause everyone with a marginal productivity below the minimum wage to lose their jobs – most often teenagers and the very poor. Wage caps (including progressive income taxes) have a similar effect – they lead the most productive individuals of our society to retire early or forgo new opportunities — resulting in a lost opportunity for them, and for everyone who might have benefited from their ideas.

What if the government creates a job by paying an unemployed worker to do make-work such as digging holes in the ground?

Where would the money to pay for his wage come from? It would have to be taken by force from the remaining employed fast food workers and computer programmers of course. (The government could print the money, but the result would be similar to taxation.) So everyone will be paid less to pay for the government workers, but has a job been created? No – now the fast-food employer has $1 less to pay to his other $8 employees, so he must fire some of them or go out of business. Each new $7 government worker costs at least one $7 privately employed worker. This is always a social loss because by definition, the government worker is less productive. If he were not, then the private business would voluntarily employ workers to perform his job.

So, a minimum wage will cause everyone who produces less than the marginal productivity of the wage to lose their jobs, while each new government job cause at least one more productive privately-employed worker to lose his job.

So where does wealth come from, anyway?

The wealth of any society equally the capacity to think of the productive men living it. Wealth is a value – a physical or intellectual good that an individual values as beneficial to his life. An object in reality has no intrinsic value until mental and physical labor is applied to it to make it a value to a man’s life. Prices are an objective evaluation of the value men assign to a given good. Prices are determined by the marginal value of a given good, just as a wage is determined by the marginal productivity of an employee. The aggregate value judgments of individual consumers and producers determine prices and wages. This is why prices are the only objective value of a good, and why government imposed price and wage controls quickly lead to shortages and more controls — it’s impossible for a bureaucrat to know how much every consumer values every good, or how much ever employer values every employee.

What about economic growth?

Increases in the productivity in the production of a good come from the application of mental effort to the production of values. A profit (the difference between the value of a good to a consumer and the cost to produce it) is the reward of an entrepreneur for bringing about the new wealth he’s created. In the absence of government coercion, profits can exist only as long as men continue to create new values – by creating new ones, or improving on existing ones.

Doesn’t a more efficient product result in lost jobs for those who were replaced by automation or better processes?

When oil lamps replaced candles, the cost of producing affordable lighting greatly decreased. In the absence of a government monopoly, competing lamp-makers quickly started making their own lamps, which brought the price decrease to the consumer. In the process of transitioning from candles to laps, many thousands of candle-makers lost their jobs. Their protest must have been one of the first recorded anti-technology arguments. The new jobs gained in lamp-making did not in fact equal the lost jobs in candle-making, since making light fixtures required fewer people. However, oil lamps did greatly increase the prosperity of society, just as electric lighting did several hundred years later. How? Since consumers could buy cheaper lamps, they now had more money to spend on other things, good which increased the comfort of their live and created many more jobs than were lost. This is because the average worker could now create more value per unit of time. Meanwhile the light-fixture makers could now afford in invest in even better lighting.

The adoption of electricity had a similar effect – cheap lights caused many lamp-makers to lose their jobs, but created a huge new demand for electricity and increased productivity and the standard of living for everyone. Now only were more jobs created, but the jobs also paid more – because workers could now had a higher marginal productivity of labor.

Can government “soften the blow” when all these candle-makers lose their jobs?

In today’s world, the government would probably try to subsidize the candle or lamp-makers when their chief product became outdated. What would that subsidy accomplish? It would save the candle-makers jobs – but it would cost the jobs of everyone who stood to benefit from the increase wealth that came from cheaper lights. In the short term, the candle-makers might benefit – but in the long term, they would lose too, since they would lose the new, higher paying jobs the could have making electric lights and the new products the cheaper lights would allow consumers to afford. Meanwhile, the Thomas Edisons, Graham Bells, Thomas Moore’s, and Bill Gateses would be too busy working to pay off taxes to have the time or money for research. Of course, we know that all these inventors and entrepreneurs succeeded. But how many didn’t because they had too many taxes to make that initial investment, or never got their initial break because of a minimum wage, or gave up before they even tried because the red tape was too much, or the taxes too high, or they knew that the old, outdated industry would use the government to tax and regulate them out of existence? The real tragedy is that we will never know.