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Column: Henry Ford's lesson on wages, productivity

Considerable efforts are under way to increase the minimum wage. Some say it should be adjusted for the inflation that has taken place since the last time it was raised, elevating the minimum hourly wage to roughly $9.20 from the current $7.25.

Advocates of a "living wage" — an earnings rate that would enable a full-time worker to attain an annual income at the federal poverty level — seek an increase to $12.50.

As if on cue, two arguments immediately come to the forefront. Opponents will point out that employers will cut back on jobs if they are forced to pay higher wages. They argue that profit-seeking firms will be motivated to substitute equipment for labor and to relocate operations to lower-wage venues.

Meanwhile proponents dismiss such "self-serving" protestations, noting that when the minimum wage has been raised in the past, employment losses were minimal and vastly outweighed by the benefits to the workers. They often invoke Henry Ford, who in 1914 doubled the wage rate for his employees, paying them $5 per day. His profits and their incomes both increased, and he boasted that his workers could afford to buy the cars they were building.

Do we draw the right policy lesson from Ford's strategy? It is true that both labor and management benefitted from the wage increase, but does one firm's wage strategy translate into a good regulation for the market as a whole?

His strategy can be seen as a series of steps, not just a generous boost in wages. The intent was to decrease costs by increasing productivity. He understood that labor cost (dollars per car) equals the wage rate (dollars per hour) divided by productivity (cars per hour). If he could raise productivity enough to offset the increase in the wage rate, he could raise wages and still have his labor costs fall, and this reduction in production cost would lead to greater market share.

Why did Ford decide to raise wages in his effort to get greater productivity out of his workers? Why didn't he just invest in higher productivity and leave wages low?

He reasoned that higher wages would reduce employee turnover. In turn, greater workforce retention would justify investment in training a workforce capable of working on a high-speed assembly line. The higher-speed line would reduce cost per car, enabling him to cut prices and gain greater sales.

It worked as planned: Despite the higher wages, costs were reduced to such an extent that by 1920, the company had the largest share of the automobile market. It is true that ultimately the workers could afford the cars they built, but that was the result of a much more intricate strategy than simply raising wages.

The example set by Ford is an excellent lesson in managerial economics, but its chief lesson is not a justification for raising the minimum wage. Rather, it shows that higher productivity is the key to achieving a higher standard of living, especially for the working poor. We cannot simply raise the minimum wage by law without a boost in productivity. Unfortunately, today's lagging education system and record long-term unemployment does the reverse: a disinvestment in worker productivity.

The best way to boost national productivity and reduce unemployment is to speed up economic growth through an increase in aggregate demand. When, as now, aggregate demand is insufficient to employ all those who seek jobs, it is time for the government to invest in rebuilding the physical infrastructure. Such action not only builds productive assets that can be used for years to come, it puts people to work today.

If we want to take Ford's lesson to the national level, we should invest in public assets, especially those that enable low-income people to increase their productivity. In particular, we should invest in three important public goods that particularly benefit the working poor whom minimum wage advocates want to help: education, health insurance and transportation.

With these three investments, they can be more productive on the job, be healthier at home and on the job, and get between jobs and home more effectively. These three elements of higher productivity would supply the needed pre-requisites for raising the minimum wage.

William L. Holahan is emeritus professor of economics at the University of Wisconsin-Milwaukee. Charles O. Kroncke, retired dean of the College of Business at UW-M, also recently retired from USF. They are co-authors of "Economics for Voters." They wrote this exclusively for the Tampa Bay Times.

Column: Henry Ford's lesson on wages, productivity 11/15/13 [Last modified: Friday, November 15, 2013 5:47pm]
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