President Barack Obama announced recently that he’s directing the U.S. Department of Labor to mandate overtime pay for anybody making $50,400 or less per year. Coupled with rising minimum wage standards, that’s given many people reason to cheer.
Yet this is absolutely the last thing you want to see as an investor.
To be clear, I think anybody who wants a job should have one, and it should pay well. So let’s get that off the table right away.
But the president’s actions just doomed millions of hardworking Americans to the unemployment line and, at the same time, just made it harder for every retailer – large and small – to turn a profit.
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The Government’s Latest Rule by Fiat Targets 5 Million Workers
On Monday, June 29, President Obama announced via The Huffington Post that he’s directing the Department of Labor to raise the standard for overtime pay to anyone making $50,400 or less per year.
What that means is that every salaried individual in that wage range will now receive 50 percent more pay each hour for every hour beyond 40 they work each week.
Currently, the bar for overtime pay for salaried workers is set at $23,600, targeting mainly workers who are receiving minimum wage or close to it.
It’s estimated that 5 million workers will receive a bigger paycheck as a result.
As always, though, there’s a fly in the ointment…
When You Tax Employment, You Get Less of It
President Obama believes a nationwide minimum wage hike in this country is long overdue. Unable to get Congress to take legislative action on his call to raise the minimum wage from $7.25/hour to $10.10/hour, he’s turned to executive action. That’s because massively expanding overtime pay is the closest President Obama can come to making his minimum wage hike happen without Congress.
But he might want to listen to what Congress has to say on this matter.
The Congressional Budget Office analyzed the effects of the minimum wage hike the president proposed and found that 24.5 million workers would get a wage increase. At the same time, 500,000 workers would see their jobs vaporize once their labor becomes too expensive for their employers to afford.
So for every 49 workers who see their pay go up, one American worker will see his or her paycheck go to zero.
You could argue that this is an acceptable situation, but it’s actually only the tip of the iceberg.
No Government Mandate Can Keep Down the Overtime Regulation’s Inflationary Impact
In 2013, economist Arindrajit Dube, assistant professor of economics at the University of Massachusetts, testified before Congress in favor of a minimum wage hike. He argued it was overdue thanks to increases in worker productivity.
He also acknowledged that a 10 percent increase in minimum wage could be linked to a 0.7 percent increase in prices. On the surface, that sounds great.
Unfortunately, you cannot outrun the math.
What the president and proponents of the hike are missing is that companies will only stand for a 50 percent increase in labor costs for so long. They’ll shift the burden to consumers and the very workers these wage hikes are supposed to benefit.
Let’s say ABC makes a widget they sell for $15. Approximately $5 is labor and $5 is materials. That means they’re bringing $5 to the bottom line.
If you bump wages up to $8 an hour and keep materials the same, the company’s profit just dropped to $2.
Many people don’t believe there’s anything wrong with this because corporations already make too much money.
But in reality, they don’t.
Most Americans believe corporate profit margins are around 36 percent, but the real numbers are between 6.5 percent and 7.5 percent, according to YahooFinance.com and Mark J. Perry, professor of economics at University of Michigan.
That means thousands of companies employing millions of Americans are at risk, with restaurants and retailers at the top of the list because labor in those businesses can account for nearly 50 percent of operating costs.
Here’s what you need to know:
- Companies will only absorb higher costs for so long. They are in business to profit and will raise prices to compensate, which means the cost of anything requiring minimum wage production and/or overtime goes up.
- Growing revenue drives earnings, which, in turn, ultimately translate into higher stock prices. Anything that interferes with that equation puts your retirement at risk.
- Periods of falling margins coincide with falling markets. For example, profit margins fell from an average of 7.1 percent to 4.6 percent from 1965 to 1970, and the S&P 500 went nowhere during that time frame, according to Barron’s. Margins crested at 10.1 percent in 2006, only to fall by half in 2008, even as the stock markets lost nearly 50 percent of their value and trillions of dollars in hard-earned savings vanished.
Put simply, higher wages are not the “wash” that many people think.
Instead, they’re an unmitigated loss because the higher wages everybody thinks are so great are really a hard-hitting tax workers and consumers alike will feel every day. Instead of helping, higher wages will rob them of purchasing power and diminish their savings by making everything more expensive over time.
Retail Is Especially Vulnerable to Unforeseen Consequences
The National Restaurant Association came out strongly against the proposed overtime rules last fall.
Restaurant chains that already have low profit margins could be especially hard hit. Wendy’s, for example, has a profit margin of just 5.12 percent. Any hike in wages will result in a corresponding offset to consumers and a bottom-line hit to earnings.
Wal-Mart is in much the same boat.
The company proactively raised its minimum wage to $9 in an attempt to get ahead of the legislative eight-ball and curry goodwill. Now, they’re going to be stuck paying time and a half on wages they’ve already increased 19 percent!
Thousands of companies are going to suffer, and if you’re investing in them, you’re going to get caught, too.
In closing, let me re-emphasize that I’m not against higher wages when they happen for the right reasons.
I say that because higher wages are the inevitable outcome of a brightening economy, companies that compete for talent, and a consumer motivated to spend money because his or her quality of life is getting better.
Not government policy.
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