By D. Eric Schansberg, Ph.D., and member of the Bluegrass Institute Board of Scholars
A prevailing wage is a legal arrangement designed to set minimum compensation for public-sector construction workers at rates above those determined by market supply and demand – typically at rates near “prevailing” compensation for union workers.
Modern-day legislation establishing prevailing – or “common” – wages are state and local versions of the 1931 federal Davis-Bacon Act, and currently exist in 32 states including Kentucky and in six of its seven neighboring states.
The Davis-Bacon Act requires prevailing wages to be imposed on taxpayers for any federal project with a budget over a mere $2,000. However, Kentucky’s minimum project size for imposing prevailing wage laws is significantly higher – though still not incredibly steep – at $250,000.
By definition, prevailing wages are a minimum wage applied to one segment of the labor market. It benefits employees who are able to keep their jobs, but imposes a burden on employers and taxpayers.
Though it’s difficult to calculate the exact extent that prevailing-wage laws increase aggregate costs to overall economic activity, artificially high wages clearly increase project costs significantly on a case-by-case basis.
Just last year in the commonwealth, the University of Kentucky raised tuition by 6 percent – to a whopping $16,518 per year – after announcing that a new student housing development would be subject to the prevailing wage.
While the university deserves praise for allowing private developers to build and manage dorms on campus, which should go a long way in providing badly needed student housing, mandating a prevailing wage policy significantly drove up the cost of the new development, with the bill passed on to students and taxpayers.
The basic choice regarding the prevailing wage is between markets and government; we either allow people to do what they want – or not. And as always, there are both ethical and practical considerations: Does government have a role to play ethically in setting wages? How would such mandates and their unintended consequences work in practice?
Public Choice economists have observed that motivated and powerful interest groups are regularly able to get politicians to impose subtle costs on the general public in order to pocket concentrated benefits.
For example, we could propose legislation to take $1 from 300 million people and redistribute $30,000 to 10,000 people. The former group will be mildly irritated – if they notice at all. However, the latter group will invest considerable energy in political markets to see the legislation pass. In a political system like ours, small interest groups often carry the day against the far-larger but far-less-energetic general public.
Though the model is more complicated when applied to prevailing wages – since union workers benefit disproportionately, and often at the expense of, non-union workers – the model is still a useful tool for understanding the increased costs associated with prevailing wages.
On the one hand, we have a powerful interest group lobbying for union-level prevailing wages. On the other hand, we have non-union workers who bear much of the costs of such political gamesmanship, as does the general public.
Though the non-union workers may be well positioned to work with the general public to change the prevailing wage law, doing so will be exceedingly difficult given public apathy and unawareness.
A quick look at Kentucky’s thriving steel industry provides another application of the model.
Import restrictions on steel are the result of one powerful interest group (the domestic steel industry) being able to benefit at the expense of less powerful or less organized groups (firms that use steel as a primary input, along with the general public).
Sure, domestic steel manufacturers profit from being subject to less competition, but the losers are the purchasers of steel and their customers down the line.
What difference would repealing prevailing wage laws make? At a macro level, it’s difficult to measure. However, we can confidently say the prevailing wage increases the cost of public sector construction projects, resulting in some combination of higher taxes and lower quality and quantity.
Would repealing prevailing wage laws impact Kentucky’s economy in a positive way? Yes – as economists often say “at the margin.”
And at the end of the day, just how is it practical – or ethical – to benefit some by imposing the inevitable costs on others?
Eric Schansberg, Ph.D., is professor of economics at Indiana University Southeast in New Albany, Ind., author of “Turn Neither to the Right nor to the Left” and a member of the Bluegrass Institute Board of Scholars. Reach him at DSchansb@ius.edu