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Home | Mises Library | Does the Minimum Wage Boost Innovation?

Does the Minimum Wage Boost Innovation?

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Tags The EntrepreneurFree MarketsInterventionism

09/06/2007Peter Beukelman

Academia has launched yet another argument for government intervention in the labor markets. The main argument for government legislation has traditionally been the protection of the people at the bottom of the pay scale. But now a new reason for the minimum wage has seen the light of day. It is espoused by Alfred Kleinknecht, a professor in the Economics of Innovation Department at Delft University of Technology.

According to Kleinknecht (1998), removing labor market rigidities — and a free market does this — may indeed be advantageous for firms in the short run. Yet it in the long run it is harmful, since removing institutional rigidities in the labor market discourages product and process innovation, which in turn reduces productivity growth. Reduced innovation efforts and productivity growth, he argues, will have a negative impact on economic performance and employment for any open economy (p. 387). More specifically, both a flexible wage-formation process and a relaxation of employment protection legislation will discourage innovation by firms (p. 394).

Similarly, Bassanini and Ernst (2002) found a negative relationship between labor market flexibility and R&D intensity in some industries.

Kleinknecht maintains that the government must intervene in periods in which there are both a multitude of unemployed poor workers willing to do almost any kind of work to feed their families and companies willing to hire these workers to produce needed products and services. Hiring these workers may be beneficial in the short run only. The solution is too easy. Innovation will stop as companies become complacent with access to cheap labor, driving down productivity and harming wealth in the long run. Government intervention, backed by government law and in turn backed by government violence, is called for so that companies can be forced to be more innovative.

By the same token, one could argue (although Kleinknecht does not) that workers tend to become complacent if given a job too easily. They would simply stop educating themselves, which is ultimately harmful for overall productivity, and produces a race to the low-wage bottom. This is how Third World manufacturing countries are born.

Now why haven't Third World countries thought of this? You just need legislation that keeps workers and companies apart, and education and innovation will begin spontaneously.

The flaw in this argument is that it does not look at the economy as a whole. In Bastiat's broken window fallacy, the destruction of the window does in fact create some visible economic activity, but you cannot see what activity you would have had without the destruction. Likewise, the productivity of the business owner may increase as he automates his factory, but what about the workers who no longer have jobs because the government forced the business owner to automate? Their productivity drops to zero.

Successful businessmen will always use what is cheapest and most readily available and produce what is most scarce. If labor is widely available, they will make use of it. If everyone is employed and wages go up, they will innovate at the right time in the right areas. Businessmen do not need external motivation to innovate if it makes economic sense to do so.

If government force is needed, however, innovation is not viable — a less abundant resource (capital) is utilized at the expense of an abundant resource (labor), which is left underutilized. In order to gain an edge on their competitors, companies will innovate voluntarily. In order to get higher wages, workers will educate themselves on their own initiative, simultaneously increasing their productivity on the job market.

But Kleinknecht also argues that jobs requiring minimal skill will disappear as tasks are taken over by robots. Automation will replace the labor force, and we should not feel sorry about it. Minimally skilled laborers will be marginalized and find themselves in artificial, government make-work jobs.

I sense a contradiction here. Government force is needed to spur innovation, causing higher unemployment rates among less skilled workers. After the government intervention, those disemployed from the private sector can only find new employment with yet more government intervention in the form of make-work jobs.

I would say the only one with a make-work job here is the innovator, who benefits from government force pushing his innovations on businessmen. Don't get me wrong; I am all in favor of innovation, but I just can't call it innovation if government force is pushing it down the market's throat.

Finally, if Kleinknecht's thesis is correct, new questions arise: Why not provide even more motivation for these parties? Why stop at a few institutional rigidities in the labor market? Why not block the food supply for a month? People will educate themselves in how to do more with less food and how to catch and prepare frogs and cook flower bulbs. Entrepreneurs might invent something like Star Trek's famous food replicator.

Why not block transportation (maybe that's the plan behind traffic jams) and have businessmen replicate the teleportation technology of Star Trek's transporter? I've learned from the documentary A Crude Awakening by Basil Gelpke and Ray McCormack, that one barrel of oil does the work of twelve people for a whole year. Why make life for business owners so easy and let oil companies give them twelve man-years of work for less than US$100? That's a lousy minimum wage for oil. These businessmen need to be motivated. They are naturally complacent and lazy. The government must show them how to get ahead in life!

But I am still thinking inside the box here. Why not aerial bomb the country? Entrepreneurs will come up with force fields, and the masses will find ingenious ways to survive. Innovation will be spurred on like never before.


Bassanini, A. and E. Ernst. 2002. "Labour Market Regulation, Industrial Relations and Technological Regimes: A tale of Comparative Advantage", Industrial and Corporate Change, 11 (3), 391-426.

Kleinknecht, A. 1998. "Is Labour Market Flexibility Harmful to Innovation?" Cambridge Journal of Economics, 22 (3), 387-96.

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