- Internal Code :
- Subject Code : BUSN1000
- University : University of Notre Dame
- Subject Name : Economics
Part 1- How a Floor Price Works?
A price floor is the support price or a minimum price under the price control mechanism on how low a price can be charged for a good, service, or a commodity. Now to be effective, the price floor should be more than the equilibrium price point. The equilibrium price is the market price where the free market has set at a demand and supply balance for that commodity or service keeping other factors constant like the government intervention. Governments use price floor to prevent the decrease in price from a certain level. The binding floor price is the price when the government sets a price above the equilibrium of goods or services. As the government wants that the price of that commodity should not fall below particular levels for several reasons like deflation, unemployment, or decreasing GDP factors and thus price flooring binds the price for the overall good of the market. One of the results is some consumers will not buy or refuse against this artificial inflation, which can result in unsold goods and increased inventory. Thus through these laws, the government interferes with the free market generally for the general welfare and creates artificial inflation through price binding or by manipulating the demand.
There are certain reasons for price flooring as these are done to help the producers like if the government wants to encourage some production, it will set a price floor. Another reason is the inelastic market demand at a very low price; here price floor gains producers while keeping the consumers no different thus overall good for the market (Lee, 1998). There are certain effects of price flooring on the producers and consumers like producers may better off, or worsen as a result of the move, depending on the industry from which they belong. Another one is consumers never gain from such artificial inflation, thus they are worse off from it or at most no difference created (Wright, n.d.).
Legal minimum wages are the minimum hourly or daily wages that are made legally binding on the employers. It means the wages (price) are floored above the market equilibrium and some economists believe that this setting of wage floor can lead even to higher unemployment in the wage market instead of doing good to the employees (Agarwal, 2020). Legal minimum wages were original created in Australia to protect the workers from exploitation and to guarantee a minimum living standard for workers even the unskilled ones. However, it is a common belief that minimum wages protect workers from exploitation by employers but economists of a class are not of this view, they believe that this price flooring is harmful to the very people for whom it is made because though minimum wages set a minimum standard of wages, they do not guarantee jobs and thus employers will want to hire fewer employees because of the price floor above market equilibrium, which will throw the lesser skilled or least skilled workers out of the market. Employers in general do not want to pay more than the marginal value of the goods produced.
Part 2- Winners and Losers
In the above figure, the equilibrium market wage is set at ‘min wage’ and the equilibrium quantity is given Q. Now it is seen that there is a surplus of the available workers in the market and that the employers are willing to take fewer employees out of the available ones. After the minimum wage line set, consumer demand goes on to decrease and the supply of the worker increases which makes a gap of D point to S point on the min wage line, which is above the market equilibrium (ILO, n.d.). This gap line from D to S is if the only guaranteed by governments to provide employment will work otherwise it will worsen off the workers with the least skills or who are at last in the wage market. Economists who are against this wage floor believe that free-market equilibrium provides money to all be it low wages, but nobody unemployed, but in the case of minimum wages, some workers are thrown out of the market and become jobless, thus it’s the duty of the government to provide them adequate compensation and skill development till the market equals itself at a higher wage.
The effect of wage flooring on the employers will be little to none as they will employ lesser workers to stable their total salary expenses. Wage flooring does sure positive and negative for the workers as some will benefit from minimum price and others will be held jobless or with very low informal wages (ILO, n.d.). There are certain effects of price flooring on the producers and consumers like producers may better off, or worsen as a result of the move, depending on the industry from which they belong. Another one is consumers never gain from such artificial inflation, thus they are worse off from it or at most no difference created.
The justification which government and other economists give is that the minimum wages are all set in the whole market and that this increase in wages will increase the total consumption in the market which will expand the economy resulting in the creation of new jobs. For example, the MNREGA job guarantee scheme formulated by the Indian government in 2006 has been successfully running by today as the government has set minimum wages for the workers in the market and to compensate the least skilled or thrown out workers, a job guarantee scheme by the government has been introduced, an addition to this was a recent skill development initiative by the Indian government in which different skill sets are provided which are developed according to the current and future market demands (Gaur,2019). Another justification is that this increase in the minimum wage will increase wages in the informal sector in which already a workforce is working and this will increase the consumption capacity of the workers, it will also address the gender disparities issue, therefore benefits to women workers.
References for Minimum Wage Policy Guide
Agarwal, P. (2020) Price floor. Retrieved from https://www.intelligenteconomist.com/price-floor/
Horton, J. (2017) Price floors and employer preferences: evidence from a minimum wage experiment. Retrieved from https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2898827
ILO.org (n.d.) Minimum wage policy guide. Retrieved from https://www.ilo.org/wcmsp5/groups/public/---ed_protect/---protrav/---travail/documents/genericdocument/wcms_508532.pdf
Khan, A. (2019) Why minimum wage won’t fix India’s woes. Retrieved from https://www.livemint.com/news/india/why-minimum-wage-won-t-fix-india-s-woes-1565619815429.html
Wright, T. (n.d.) Does a binding price floor cause a surplus or shortage? Retrieved from https://smallbusiness.chron.com/binding-price-floor-cause-surplus-shortage-74696.html
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