Low-Wage Labor Markets and the Power of Suggestion

Abstract

The paper argues that a non-binding minimum wage may serve as a focal point which facilities tacit collusion by low-wage employers, effectively pulling down wages of the lowest-paid workers. This can explain the puzzle as to why the minimum wage does not reduce employment, as predicted by the traditional economic theory. A simple game-theoretic argument explains when collusion emerges. The hypothesis is tested using the 1990–2002 CPS data on service occupation workers. The results suggest that during this period, on average 19.3%, and as much as 31% of service occupation workers, who earned minimum wage or less, could had been affected by collusive wage-setting.

Keywords::

• minimum wage
• labor markets
• tacit collusion
• focal points
• monopsony

JEL Classifications::

• J31
• J38
• J42
• L10

Notes

¹ For more recent sources on focal points, see Binmore and Samuelson (2006); Janssen (2001), Colman (1997), Crawford and Haller (1990), among others.

² This is necessary for establishment of a Nash equilibrium (see, e.g., Mortensen 2003).

³ I follow the BLS definition of minimum wage workers as those who earn the minimum wage or less.

⁴ States' minimum wages are available at US DOL website, http://www.dol.gov/whd/state/stateMinWageHis.htm

Additional information

Notes on contributors

Natalya Shelkova

Natalya Shelkova holds a Master's degree in Economics from Northeastern University, a Ph.D. in Economics from the University of Connecticut, and has a Candidate of Sciences Degree from the Baikal National University of Economics and Law in Irkutsk, Russia. She currently teaches Economics at Guilford College in Greensboro, NC, where she lives with her husband and daughter.