Explaining Econ 101 to a Big Labor Fan

In a mass-recipient e-mail that I received today from a labor union advocate, the writer lamented that employers don’t pay employers more. I e-mailed him back shedding light on why employers can’t pay their employees more than they or the writer would like.

An employer hired an employee to make widgets. The employer paid her $11 per hour. But he found that the amount he was paying her was more than the revenue he was generating from the widgets. So when she quit, he decided not to hire a replacement, because paying someone to do it would be the same as giving away money. Why not instead give away money to charity? Meantime, the employer just resorted to making the widgets himself.

Why not just charge higher prices to customers in order to cover the salary of an employee and hopefully have a little left over for the employer, one may ask. Well the employer already charges $13 for a widget, and customers already think that’s too high, especially when they want a lot of them. Were he to charge a higher price the customers likely would disappear and his revenues would be even less. (This is based on a real-life experience. Names have been changed to protect the innocent.)

So that’s a microcosm of why employers can’t pay more money to employees than they or labor union advocates would like.

The writer of the e-mail also lamented that welfare benefits aren’t higher. I replied that that would be tough now because the federal government is borrowing over 40 cents of every dollar that it spends, up from a historical average of about 15 cents, pre-Obama. That’s just not sustainable. Raising taxes wouldn’t help much because even confiscating all of the top 1 percent’s earnings would net about a trillion dollars, which wouldn’t even cover a year’s deficit. And a 100 percent tax rate wouldn’t be workable in any event because no one would work if they couldn’t keep any of their earnings. In fact, economists are saying that we’re headed for a 70 percent marginal tax rate (i.e. marginal tax rate is the rate on the additional income you earn, e.g. if you earn $50,000 per year and decide to work a little extra harder to make an extra $1,000, you’d have to pay $700 of that in taxes.) Few people would be willing to work that additional amount, and tax revenues would be way lower than projected, and you’d still be $14 trillion or more in debt.

People are only willing to pay so much in taxes before they either 1) find loopholes to avoid those taxes or 2) refuse to work because the tax rate makes it not worth it to work. So jacking up tax rates won’t result in much additional revenue, if any. And certainly not enough to even make a dent in the deficit and debt. For that, you need to cut spending. A good place to start is to reduce or eliminate the welfare benefits (i.e. government payments to individuals, including entitlements) that go to the upper middle class and rich. Often Republicans try to reform that (“means-testing”), but it always gets shot down by Democrats.

For example, instead of giving rich people Social Security and Medicare money, how about phase out that system so that they finance their retirement and medical benefits out of their own savings – where they’d be mandated to set up a Social Security and/or Medicare savings account during their working lives. (Oh but we can’t have that! That would be “privatization!” – the anti-reformers would howl.)

It’s a tragedy, and a gross injustice, that the Social Security and Medicare contributions of low-income workers are being transferred to middle-class, upper-middle-class, and rich retirees. Instead, the latter should fund their own retirement through their own savings. They tried fixing that a few years ago, but too many people howled “privatization!” so it never got anywhere.