The relationship doesn't have to be clouded by myths.
Lately, there’s been a lot of speculation about rising wages and inflation. As even breathing has become a political issue in recent years, all sorts of people have all sorts of opinions on these two topics, as well as on possible relationships between the two.
Four questions come quickly to mind:
1. What should a business owner think about the wages she pays her workers?
2. What should she think about the inflation that her workers face in their lives as consumers?
3. What should she think about the pressures of inflation, generally, on the cost of running her own business?
4. What should she think about her customers’ ability and willingness to pay more for what her company sells them?
This line of questioning has come up in my entrepreneurship class this semester because my students are preparing for a certification exam, and one of the questions sparked a great series of discussions.
Generally, I have no use for standardized tests. My students, the Founders, make companies, sell stuff, and pitch in competitions. Ours is a portfolio-based class, rather than test-based. This test is generally very good, though, or I wouldn’t waste their time.
But the test comes up short with this one question on the relationship between wages and prices. Versions of the question ask, “If the government raises minimum wage by ___ percent, how much must a business raise the prices they charge?”
The only answer the automated test accepts is for the percentage to be the same. Increase wages by 20% and you must increase prices by 20%.
Um. Excuse me?
I teach college-level business ownership. My goal is to have my graduating high school seniors more business-savvy than the juniors in our local four-year college, and year after year, I get feedback from my professor friends at that university that this is usually the case with each of my students when these professors get them. So yeah, maybe I teach to a higher level of intellectual rigor than this test is built for, but still: this question shouldn’t even pass the muster in a fifth-grade program.
I strongly suspect the fact that the question is in there, forcing that answer at all, is to convince students that any raise in the minimum wage will be bad for their business, and so must be resisted with how my students vote and whose campaigns they contribute to. If I’m right, this isn’t a business finance question or an economics question nearly so much as it is a political-indoctrination question.
You’ve probably already thought through several holes in the logic of this question and forced answer. For instance, you may have thought…
· How many employers pay the actual minimum wage, anyway?
· Even for workers hired at the federal or state minimum wage, they usually end up getting raises that put them above that low level.
· Further, most areas have their own actual, unofficial minimum wage to attract any workers at all. Even before the worker scarcity we’ve seen from the Great Resignation and the pandemic-residual labor market, it was still typical for even entry-level employees to start one, two, maybe five dollars above the minimum. Yes, that matters by area. There are some impoverished parts of the country where workers are paid the legal minimum or close to it.
· Even more to the point, though, there is a lot wrong with this simplistic way of looking at labor and pricing. For instance, an employer of a home repair services firm may charge $89/hour but pay workers $20/hour – or more likely, one new worker will earn $20, some will earn $24, and the company’s most experienced worker may make $30/hour. Yet all customers are billed at the same rate of $89/hour.
· Indeed, what the employer pays workers is only one consideration in how she sets her prices. In this example, the $69 differential between price and starting wages has to include the pay of the salaried leadership, as well as wages for warehouse workers, customer service support, IT services, advertising and other marketing, gasoline, insurance of various types, basic supplies….
· To muddy the waters yet more, it’s possible the employer can simply pass a wage rise along to her customers. However, if that $89 is already higher than what the competition charges, then the owner may not feel able to increase her prices to match the pay increase.
As I said, all of these factors just skim the surface of what you, as a business owner, charge your customers and what you pay your various employees.
If you’re looking for a short, pat answer to what you should charge, I recommend you start by getting intimately familiar with what every single one of your competitors charges for similar products or services.
Then, what sets your company apart from theirs? This can help you compete on price or raise your prices higher than the rest, or pick a spot you’re comfortable with anywhere in between.
If your customers will pay it, you’ve either priced properly or you’ve left money on the table, and you could charge more. You have to start somewhere, though, so please do. Start, that is. Pick a price and try to charge a customer. Start with that, repeat, and – if needed – tweak prices as your ongoing experiments allow.
On the wage side of the equation? My answer may not be your favorite, but I feel very strongly about this based on my own personal values and on my experience running a few companies of my own:
Pay as much as you possibly can afford. After all, Pay = Respect.
Expect and insist that your employees be every bit as hardworking, clever, talented, and valuable to your company (and themselves) as their high pay would warrant.
…Just in case you think this is all very easy for me to say, consider Tom, my best teacher when I ran Coiné Language School. The going rate for teachers in the Boston area was only $15 an hour at the time, which I felt was obscenely low. I paid all of my teachers much better than that. Tom, though, well, he was his own special case. I kept raising his pay until he was earning $60 an hour. Tom was worth it to his students, so he was worth it to their employers, and that made him worth it for me.