Monopsony is all around us

Mar 15 JDN 2458924

Perhaps because of the board game (the popularity of which honestly baffles me; it’s really not a very good game!), the concept of monopoly is familiar to most people: A market with one seller and many buyers can command high prices and high profits for the seller.

But the opposite situation, a market with many sellers and one buyer, is equally problematic, yet far less well-known. This is called monopsony. Whereas in a monopoly prices are too high, in a monopsony prices are too low.

I have long suspected, but the data now confirms, that the most widespread form of monopsony occurs in labor markets. This is a particularly bad place for monopsony, because it means that instead of consumer prices being lower, wages will be lower. Monopsonistic labor markets are bad in two ways: They lower wages and they increase unemployment.


Monopsonistic labor markets are one of the reasons why raising minimum wage seems to have very little effect on employment.
In the presence of monopsony, forcing employers to increase wages won’t cause them to fire workers; it will just eat into their profits. In some cases it can actually cause them to hire more workers.

Take a look at this map, from the Roosevelt Institute:

widespread-labor-monopsony1

This map is color-coded by commuting zone, based on whether the average labor market (different labor markets weighted by their number of employees) is monopsonistic. Commuting zones with only a few major employers are colored red, while those with many employers are colored green. In between are shaded orange and yellow. (Not a very colorblind-friendly coding scheme, I’m afraid.)

Basically you can see that the only places where labor markets are not monopsonistic are in major metro areas. Suburban areas are typically yellow, and rural areas are almost all orange or red.


It seems then that we have two choices for where we want to live: We can
live in rural areas and have monopsonistic labor markets with low wages and competitive real estate markets with low housing prices, or we can live in urban areas and have competitive labor markets with high wages and monopolistic real estate markets with high housing prices. There’s hardly anywhere we can live where both wages and housing prices are fair.

Actually the best seems to be Detroit! Median housing price in the Detroit area is an affordable $179,000, while median household income is a low but not terrible $31,000. This means you can pay off a house spending 30% of your income in about 10 years. That’s the American Dream, right there.

Compare this to the San Francisco area, where median housing price is $1.1 million and median income is an impressive $104,000. This means it would take over 35 years to pay off your house spending 30% of your income. (And that’s not accounting for interest!) You can make six figures in San Francisco and still be considered “low income”, because housing prices there are so absurd.

Of course, student loans are denominated in nominal terms, so you might actually be able to pay off your student loans faster living in San Francisco than you could in Detroit. Say taxes are 20%, so these become after-tax incomes of $25,000 and $83,000. Even if you spend only a third of your income on housing in Detroit and spend two-thirds in San Francisco, that leaves you with $16,600 in Detroit but $27,600 in San Francisco. Of course other prices are different too, but it seems quite likely that being able to pay $5,000 per year on your student loans is easier living in San Francisco than it is in Detroit.

What can be done about monopsony in labor markets? First, we could try to split up employers—the FTC already doesn’t do enough to break up monopolies, but it basically does nothing to break up monopsonies. But that may not always be feasible, particularly in rural areas. And there are genuine economies of scale that can make larger firms more efficient in certain ways; we don’t want to lose those.

Perhaps the best solution is the one we used to use, and most of the First World continues to use: Labor unions. Union membership in the US declined by half in the last 30 years. Europe is heavily unionized, and the most unionized of all are Scandinavian countries—probably not a coincidence that these are the most prosperous places in the world.


At first glance, labor unions seem anti-competitive: They act like a monopoly. But when you currently have a
monopsony, adding a monopoly can actually be a good thing. Instead of one seller and many buyers, resulting in prices that are too low, you can have one seller and one buyer, resulting in prices that are negotiated and can, at least potentially, be much fairer. This market structure is called a bilateral monopoly, and while it’s not as good as perfect competition, it’s considerably more efficient than either monopsony or monopoly alone.

Should we raise the minimum wage?

JDN 2456949 PDT 10:22.

The minimum wage is an economic issue that most people are familiar with; a large portion of the population has worked for minimum wage at some point in their lives, and those who haven’t generally know someone who has. As Chris Rock famously remarked (in the recording, Chris Rock, as usual, uses some foul language), “You know what that means when they pay you minimum wage? You know what they’re trying to tell you? It’s like, ‘Hey, if I could pay you less, I would; but it’s against the law.’ ”

The minimum wage was last raised in 2009, but adjusted for inflation its real value has been trending downward since 1968. The dollar values are going up, but not fast enough to keep up with inflation.

So, should we raise it again? How much? Should we just match it to inflation, or actually raise it higher in real terms? Productivity (in terms of GDP per worker) has more than doubled since 1968, so perhaps the minimum wage should double as well?

There are two major sides in this debate, and I basically disagree with both of them.

The first is the right-wing view (here espoused by the self-avowed “Objectivist” Don Watkins) that the minimum wage should be abolished entirely because it is an arbitrary price floor that prevents workers from selling their labor at whatever wage the market will bear. He argues that the free market is the only way the value of labor should be assessed and the government has no business getting involved.

On the other end of the spectrum we have Robert Reich, who thinks we should definitely raise the minimum wage and it would be the best way to lift workers out of poverty. He argues that by providing minimum-wage workers with welfare and Medicaid, we are effectively subsidizing employers to pay lower wages. While I sympathize a good deal more with this view, I still don’t think it’s quite right.

Why not? Because Watkins is right about one thing: The minimum wage is, in fact, an arbitrary price floor. Out of all the possible wages that an employer could pay, how did we decide that this one should be the lowest? And the same applies to everyone, no matter who they are or what sort of work they do?

What Watkins gets wrong—and Reich gets right—is that wages are not actually set in a free and competitive market. Large corporations have market power; they can influence wages and prices to their own advantage. They use monopoly power to raise prices, and its inverse, monopsony power, to lower wages. The workers who are making a minimum wage of $7.25 wouldn’t necessarily make $7.25 in a competitive market; they could make more than that. All we know, actually, is that they would make at least this much, because if a worker’s marginal productivity is below the minimum wage the corporation simply wouldn’t have hired them.

Monopsony power doesn’t just lower wages; it also reduces employment. One of the ways that corporations can control wages is by controlling hiring; if they tried to hire more people, they’d have to offer a higher wage, so instead they hire fewer people. Under these circumstances, a higher minimum wage can actually create jobs, as Reich argues it will. And in this particular case I think he’s right about that, because corporations have enormous market power to hold wages down and in the Second Depression we have a huge amount of unused productive capacity. But this isn’t true in general. If markets are competitive, then raising minimum wage just causes unemployment. Even when corporations have market power, if there isn’t much unused capacity then raising minimum wage will just lead them to raise prices instead of hiring more workers.

Reich is also wrong about this idea that welfare payments subsidize low wages. On the contrary, the stronger your welfare system, the higher your wages will be. The reason is quite simple: A stronger welfare system gives workers more bargaining power. If not getting this job means you turn to prostitution or starve to death, then you’re going to take just about any wage they offer you. (I don’t entirely agree with Krugman’s defense of sweatshops—I believe there are ways to increase trade without allowing oppressive working conditions—but he makes this point quite vividly.) On the other hand, if you live in the US with a moderate welfare system, you can sometimes afford to say no; you might end up broke or worse, homeless, but you’re unlikely to starve to death because at least you have food stamps. And in a nation with a really robust welfare system like Sweden, you can walk away from any employer who offers to pay you less than your labor is worth, because you know that even if you can’t find a job for awhile your basic livelihood will be protected. As a result, stronger welfare programs make labor markets more competitive and raise wages. Welfare and Medicaid do not subsidize low-wage employers; they exert pressure on employers to raise their low wages. Indeed, a sufficiently strong welfare system could render minimum wage redundant, as I’ll get back to at the end of this post.

Of course, I am above all an empiricist; all theory must bow down before the data. So what does the data say? Does raising the minimum wage create jobs or destroy jobs? Our best answer from compiling various studies is… neither. Moderate increases in the minimum wage have no discernible effect on employment. In some studies we’ve found increases, in others decreases, but the overall average effect across many studies is indistinguishable from zero.

Of course, a sufficiently large increase is going to decrease employment; a Fox News reporter once famously asked: “Why not raise the minimum wage to $100,000 an hour!?” (which Jon Stewart aptly satirized as “Why not pay people in cocaine and unicorns!?”) Yes, raising the minimum wage to $100,000 an hour would create massive inflation and unemployment. But that really says nothing about whether raising the minimum wage to $10 or $20 would be a good idea. Covering your car with 4000 gallons of gasoline is a bad idea, but filling it with 10 gallons is generally necessary for its proper functioning.

This kind of argument is actually pretty common among Republicans, come to think of it. Take the Laffer Curve, for instance; it’s basically saying that since a 99% tax on everyone would damage the economy (which is obviously true) then a 40% tax specifically on millionaires must have the same effect. Another good one is Rush Limbaugh’s argument that if unemployment benefits are good, why not just put everyone on unemployment benefits? Well, again, because there’s a difference between doing something for some people sometimes and doing it for everyone all the time. There are these things called numbers; they measure whether something is bigger or smaller instead of just “there” or “not there”. You might want to learn about that.

Since moderate increases in minimum wage have no effect on unemployment, and we are currently under conditions of extremely low—in fact, dangerously low—inflation, then I think on balance we should go with Reich: Raising the minimum wage would do more good than harm.

But in general, is minimum wage the best way to help workers out of poverty? No, I don’t think it is. It’s awkward and heavy-handed; it involves trying to figure out what the optimal wage should be and writing it down in legislation, instead of regulating markets so that they will naturally seek that optimal level and respond to changes in circumstances. It only helps workers at the very bottom: Someone making $12 an hour is hardly rich, but they won’t benefit from increasing minimum wage to $10; in fact they might be worse off, if that increase triggers inflation that lowers the real value of their $12 wage.

What do I propose instead? A basic income. There should be a cash payment that every adult citizen receives, once a month, directly from the government—no questions asked. You don’t have to be unemployed, you don’t have to be disabled, you don’t have to be looking for work. You don’t have to spend it on anything in particular; you can use it for food, for housing, for transportation; or if you like you can use it for entertainment or save it for a rainy day. We don’t keep track of what you do with it, because it’s your own freedom and none of our business. We just give you this money as your dividends for being a shareholder in the United States of America.

This would be extremely easy to implement—the IRS already has all the necessary infrastructure, they just need to turn some minus signs into plus signs. We could remove all the bureaucracy involved in administering TANF and SNAP and Medicaid, because there’s no longer any reason to keep track of who is in poverty since nobody is. We could in fact fold the $500 billion a year we currently spend on means-tested programs into the basic income itself. We could pull another $300 billion from defense spending while still solidly retaining the world’s most powerful military.

Which brings me to the next point: How much would this cost? Probably less than you think. I propose indexing the basic income to the poverty line for households of 2 or more; since currently a household of 2 or more at the poverty line makes $15,730 per year, the basic income would be $7,865 per person per year. The total cost of giving that amount to each of the 243 million adults in the United States would be $1.9 trillion, or about 12% of our GDP. If we fold in the means-tested programs, that lowers the net cost to $1.4 trillion, 9% of GDP. This means that an additional flat tax of 9% would be enough to cover the entire amount, even if we don’t cut any other government spending.

If you use a progressive tax system like I recommended a couple of posts ago, you could raise this much with a tax on less than 5% of utility, which means that someone making the median income of $30,000 would only pay 5.3% more than they presently do. At the mean income of $50,000, you’d only pay 7.7%. And keep in mind that you are also receiving the additional $7,865; so in fact in both cases you actually end up with more than you had before the basic income was implemented. The break-even point is at about $80,000, where you pay an extra 9.9% ($7,920) and receive $7,865, so your after-tax income is now $79,945. Anyone making less than $80,000 per year actually gains from this deal; the only people who pay more than they receive are those who make more than $80,000. This is about the average income of someone in the fourth quintile (the range where 60% to 80% of the population is below you), so this means that roughly 70% of Americans would benefit from this program.

With this system in place, we wouldn’t need a minimum wage. Working full-time at our current minimum wage makes you $7.25*40*52 = $15,080 per year. If you are a single person, you’re getting $7,865 from the basic income, this means that you’ll still have more than you presently do as long as your employer pays you at least $3.47 per hour. And if they don’t? Well then you can just quit, knowing that at least you have that $7,865. If you’re married, it’s even better; the two of you already get $15,730 from the basic income. If you were previously raising a family working full-time on minimum wage while your spouse is unemployed, guess what: You actually will make more money after the policy no matter what wage your employer pays you.

This system can adapt to changes in the market, because it is indexed to the poverty level (which is indexed to inflation), and also because it doesn’t say anything about what wage an employer pays. They can pay as little or as much as the market will bear; but the market is going to bear more, because workers can afford to quit. Billionaires are going to hate this plan, because it raises their taxes (by about 40%) and makes it harder for them to exploit workers. But for 70% of Americans, this plan is a pretty good deal.