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Econamici: The Minimum Wage and the IRS

January 16, 2007

On January 10, the House voted overwhelmingly to raise the federal minimum wage from $5.15 an hour to $7.25, the increase to be phased in over the next two years. The Senate has yet to vote on the issue.

On January 12, the New York Times published a story by David Cay Johnston that begins, “Top officials at the Internal Revenue Service are pushing agents to prematurely close audits of big companies with agreements to have them pay only a fraction of the additional taxes that could be collected, according to dozens of I.R.S. employees who say that the policy is costing the government billions of dollars a year.”

Raise the minimum wage or subvert taxes for the rich. Question: which policy bears more on inequality?

Proponents assert that the minimum wage increase will bring justice to “the people who empty the bedpans, change the bed linens, sweep the floors and do the hardest work of America.” Opponents point out that small businesses employ most of the lowest wage workers. A wage increase, they say, will penalize small business owners and increase unemployment of young and low-skill workers. President Bush has made signing an increase conditional on tax breaks for small business.

Opponents’ logic is sound. They might even be right about consequences were the increase large enough to bring the minimum wage up to something like a “living wage” of $12 an hour. There’s no evidence that the federal minimum wage has ever affected employment, even at its 1968 peak of $1.58–$7.71 in 2006 equivalent dollars, as computed by Economic Policy Institute economists. Opponents also might be right if the minimum wage were easily enforceable. In reality, small businesses often pay their workers off the books, or report fewer hours than actually worked.

A minimum wage increase will indeed help some workers, especially in operations large enough to make enforcement feasible. It will set a norm for higher pay as small businesses grapple with the tradeoff between pay rates and employee turnover. But for all the hoopla, a minimum wage increase won’t seriously dent inequality.

The same folks who shed crocodile tears for small business in fact know that enforcement is half the game. It’s not just crippled enforcement of corporate income tax. I recently chatted with a very frustrated IRS estate tax examiner: same story. And Treasury officials have admitted making “mistakes” in drafting offshore oil leases, letting oil companies escape billions in royalties. From the Environmental Protection Agency to the Food and Drug Administration, senior officials reinterpret or ignore laws to favor friends at the top.

Unlike the minimum wage, gifts to the top tier do directly affect inequality. The costs–higher taxes, poorer services, and disincentives to hire or invest–must come at someone’s expense–in fact at the expense of lower and middle income families, and small to medium businesses. Even the upper middle class increasingly faces the alternative minimum tax, which has become essential to plug the gaping tax gap at the top.

Newly-empowered Democrats face a task more daunting and important than raising the minimum wage. Not only must they undo overt legislation favoring the elite, they must expose and address the thousand administrative subversions of laws protecting ordinary citizens.

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More Econamici

I send Econamici–occasional emails with interesting attachments or links–to friends who are economists or care about economic issues. If you can’t follow a link, I can send you the actual article.

Polly Cleveland

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