Image by elycefeliz via FlickrIn any normal market, prices cause supply and demand to equalize. If demand is higher than supply, prices rise and both supply and demand react to the new price. Some buyers decide not to buy and/or some suppliers step up production.
But if prices are not free to change, if they are held too high or low, the market cannot react to changing conditions. One side of the transaction, either buyers or sellers, will not be able to buy or sell
If prices are held low, demand will be higher, of course, but suppliers won't invest more money to meet that higher demand. They may even get out of the business altogether if the low price causes them to lose money or they make more money in a different business.
The result? Shortages. Buyers spend all kinds of time and money compensating for the shortages, maybe even more than the artificial low price is saving them. For example, when the US government held natural gas prices down in the seventies, shortages developed, even though all of the natural gas back then came from the United States.
And when prices are held too high, demand is certainly curtailed. That's bad news for the lowest quality suppliers. For example, if all cars now had a minimum price of $50K, car makers focused on the low end of the market are screwed. The market will be buying fewer cars and the low end will suffer most.
This is precisely the problem with labor market in many countries right now. Minimum wage laws are keeping wages on the low end higher than buyers are willing to pay. Buyers were willing to pay those prices when the housing bubble was distorting demand for labor, but that's all over now.
These workers would like to sell their labor, but its too expensive for employers.
What can be done without unnecessarily hurting the workers making the least? Two things. First, eliminate the minimum wage. And, at the same time, cut taxes on those who make below the minimum wage, enough to compensate for any loss.
These actions will make low end workers more attractive to hire and enable employers to compete in the global market place.
Tax revenues will decline, but so will unemployment insurance costs and government job creation expenses.