Are Small-Business Owners Immoral If They Pay Low Wages? The biggest fallacy in the discussion of living wage is looking at the issue from a moral point of view.

By Scott Shane

Opinions expressed by Entrepreneur contributors are their own.

Small businesses pay their employees lower wages, on average, than big companies. Are small business owners being immoral for not paying more?

Many in the media are quick to criticize senior managers of large public companies for being greedy capitalist-running-dogs for not paying workers enough to meet the journalists' (often unstated) standard for a "living wage." But rarely do those in the fourth estate criticize small business owners for failing to pay the same level wages.

That's disingenuous because small businesses, not big ones, are the ones most likely to fail to meet the media's standard for "fair pay." According to the Bureau of Labor Statistics, the average hourly wage at establishments with between 1 and 49 employees, was only 62.2 percent of that at establishments with at least 500 workers in 2014.

If big businesses have a moral obligation to pay "high" wages, then shouldn't small businesses have the same obligation? After all, if paying low wages is a sin, then small business owners are the bigger sinners.

Related: Should You Raise Your Employees' Pay?

Ryan Decker, a doctoral student in economics at the University of Maryland, wrote an interesting blog post that highlights the fallacy of criticizing big companies, like Walmart, for paying "low" wages, while not criticizing others for doing the same thing. His piece focuses on the comparison between paying low wages and paying no wages and all. The punchline is that if it is "a sin" for Walmart to pay its 1.2 million workers low wages, then you, I and the journalists who criticize Walmart are also sinners because we effectively pay a wage of zero by choosing not to hire anyone.

Yale Law Professor and Bloomberg View columnist Stephen Carter extends the discussion by asking whether families have the same moral obligation to hire and pay "high" wages that some in the media believe companies like Walmart should pay. He asks, quite provocatively, "If you believe, as many do, that GreatBigCo would be committing a moral wrong by closing its Carterville store, do you feel the same way about a family that decides it can no longer afford to pay for lawn care and hands the kids the keys to the riding mower?"

The fallacy in the media's criticism of the pay practices of big companies like Walmart, of course, lies in their tendency to treat wages as a "moral" issue, rather than an economic one.

Related: Is Declining Business Failure Holding Back Entrepreneurship?

The wages people earn are not driven by people's economic wants, but rather by their economic value. People earn the marginal product of their labor. As Harvard University economist Greg Mankiw writes in his blog, "Economic theory says that the wage a worker earns, measured in units of output, equals the amount of output the worker can produce."

Firms can't just pay workers "low wages," even if their owners are greedy capitalist-running-dogs intent on exploiting workers. Karl Marx was wrong on that point. If a firm offers compensation below workers' marginal product of labor, other businesses will bid away those workers' services by offering higher compensation than the first firm is paying. This competitive process drives wages up to the point that they equal the value of the workers' labor in the market place.

It's sad when people do not earn enough to pay for life's basic necessities. It's also bad for society because poverty leads to crime, poor health and many other negative externalities.

But the problems that poverty generates doesn't mean businesses are immoral for paying less than what some journalist defines arbitrarily as a "living wage." That the marginal product of some people's labor is too low for them to earn a "living wage" is the reason we tax high earners and use the proceeds to provide a social safety net.

Related: Finding a Good Small Business Job is Getting Harder

Wavy Line
Scott Shane

Professor at Case Western Reserve University

Scott Shane is the A. Malachi Mixon III professor of entrepreneurial studies at Case Western Reserve University. His books include Illusions of Entrepreneurship: The Costly Myths That Entrepreneurs, Investors, and Policy Makers Live by (Yale University Press, 2008) and Finding Fertile Ground: Identifying Extraordinary Opportunities for New Businesses (Pearson Prentice Hall, 2005).

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