Let’s look at how a rise in the minimum wage affects the economy under ideal market conditions. To review, in an ideal competitive market, consumers decide how much of anything they want to buy given their budgets and personal preferences. It is assumed that consumers will “maximize their utility” so that another dollar spent on any given good or service will give as much satisfaction as a dollar spent on any other (otherwise they could increase their satisfaction by buying less of the one good or service and more of the other.) Suppliers will produce goods and services as inexpensively as possible because of the pressures of a competitive market. Suppliers will hire labor, like any other factor of production, until the cost of an extra unit of labor, say a work hour, is just equal to the extra revenue, including profit, produced by that labor. Labor too is subject to competition and the laws of supply and demand. Under ideal market conditions with no government intervention and assuming workforce mobility, labor is paid “just the right amount” to maximize overall utility as reflected through the demand curves for all goods and services^[1]. An increase in the minimum wage means that goods and services employing minimum wage labor will cost more relative to other goods and services than they did before. If labor were like other factors of production, this would reduce overall utility: the higher cost of the goods and services means that less of them are sold, so people who would have bought the item at the lower price have lost “utility” and people who buy at the higher price are losing the “utility” of buying something else with that extra money.^[2] But labor is not like other factors of production. Labor is people and these people working at minimum wage also have “utility” curves.

Economists usually assume that as you have more of something, the less “utility” you get from additional amounts. For example, if you’ve had broccoli twice in a week, it is likely your utility from an extra helping of broccoli will be less than the first helping. The same is certainly true of money. A thousand extra dollars to Bezos or Gates certainly has less “utility” to them than it does to someone making a low income. So, when considering what happens to “utility” when the minimum wage is raised, we have to balance the utility reductions mentioned above against the utility gains to minimum wage workers.

It is not really possible to measure utility directly, but it is extremely likely that the utility of minimum wage workers who keep their jobs and don’t lose offsetting government benefits increases more than the decrease in utility from other consumers as a result of the price rises because of the just mentioned utility of increased income. Effectively, better off people pay for an increase in wages to poorer people, and the loss of utility from the better off is less than the increase in utility to the worse off.

The entire argument about the efficiency of ideal markets rests on the assertion that it maximizes utility given the existing income distribution, when one relaxes the condition of “existing income distribution” one finds that overall utility is increased through more egalitarian distribution of income. By the way, it is entirely possible that some of us, or even most of us, would get a net increase in utility by giving up some income to increase the income of the poor. I think that’s the idea behind charitable giving.

^[1] “Just the right amount” if we treat labor like a raw input and the price of labor is strictly based on abilities and training (i.e. economic value) without considering that “labor” is people who have “utility”. So again, utility maximizing given income.

^[2] To make this even more complicated, if the price of a raw material goes up, rents to the owners of the natural resources go up which increases their utility while end consumers of the raw material lose utility. In some sense labor is like a raw material.