Business Columns & Blogs

Barry Ritholtz: A $15 wage will end tax subsidy for fast food

Protestors call for a $15-an-hour minimum wage as McDonald’s shareholders meet at the company’s corporate headquarters, Thursday, May 21, 2015, in Oak Brook, Ill.
Protestors call for a $15-an-hour minimum wage as McDonald’s shareholders meet at the company’s corporate headquarters, Thursday, May 21, 2015, in Oak Brook, Ill. Chicago Tribune

This week, Los Angeles became the third major West Coast city and the biggest in the U.S. to agree to raise the minimum wage to $15 an hour, an increase that will go into effect by 2020. Los Angeles follows Seattle, which will require employers with 500 workers or more to pay $15 by 2017. San Francisco will require the $15 hourly minimum by 2018.

The Seattle increase in particular has caused all sorts of analytical errors from people who should know better. Seattle Magazine ran one article with the headline “Why Are So Many Restaurants Closing Lately?” that cited the wage as among the reasons. This was quite surprising, given the lack of any notable increase in restaurant closings, which are running at about the same pace as before the minimum wage increase. Even more telling, permits for new restaurants are rising. The data overwhelmingly disproves the assertion that the minimum wage increase is leading to restaurant closings — or is discouraging people from opening new ones.

That was only the most obvious error, but the rest of the blessedly data-free article was equally as innumerate. This is an attribute of modern media: Instead of original reporting, there is a regurgitation of prior tweets, posts, anecdotes and second- and third-hand source nonsense. Anyone could have easily looked up the actual numbers on restaurant closing and permits.

What we know about the minimum wage is that modest increases have a negligible effect on employment, and usually work as a net economic positive to the region that passes them. The groundbreaking research by economists David Card and Alan Krueger has been confirmed by lots of subsequent research.

So why all the hand-wringing by the business community?

In short, raising the minimum wage is a wealth transfer. That is what has so many fast-food franchise owners up in arms.

Let’s unwrap some of the economics behind the McDonald’s formula. The average store generates about $2.6 million a year in sales, according to research firm QSR. Stores in prime, high- traffic locations can do much better, with annual sales of as much as $10 million. (There is a trove of information in the McDonald’s annual 10-K.)

To be sure, there are substantial costs to opening and running a McDonald’s. Entrepreneur magazine (and others) have estimated the costs to open a McDonald’s. As Bloomberg reported in 2013, start with $500,000 to $750,000 in cash, and have $1 million to $2 million available in credit. Then add in the $45,000 franchise fee, plus as much as 12 percent of store sales in rent, or about $300,000 a year.

And costs generally go in just one direction — up. Beef prices have risen about 15%, with ground beef prices rising even more. In addition, the McDonald’s parent company has been trying hard to push more costs onto the individual franchise restaurants.

No matter: a well-run store can net the owner anywhere from $500,000 to $750,000 a year or more. Bigger stores can do much better, and many owners have several stores.

But holding down costs is crucial and one of the biggest expenses is labor. By any measure, the fast-food industry doesn’t pay living wages to many workers.

As research at the University of California’s Berkeley Labor Center found, “more than half (52%) of the families of front-line fast-food workers are enrolled in one or more public programs,” such as Medicaid or food stamps. That compares with about 25% of the workforce as a whole.

With the minimum wage at its present levels (the federal rate is $7.25 an hour, though its higher in some places), Berkeley calculates the cost of public assistance to families of workers in the fast-food industry at about $7 billion a year.

McDonald’s has all but acknowledged that its workers can’t get by on their paychecks alone. Remember the company’s McResource Line phone service and webpage, in which the company advised employees on how to access government safety-net programs? (The service and page have since been closed.)

Right now, the wealth transfer goes in the wrong direction: from taxpayers to the owners of fast-food outlets. In effect, the public helps restaurants and other lower-wage employers save on labor costs. As I see it, the cost of a full-time employee (someone working 30 hours or more a week) should be borne by the employer.

Raising the minimum wage shifts the wealth transfer from the taxpayers to the restaurant owners. Boosting the minimum wage to $12 or even $15 diminishes or even eliminates this subsidy. If it forces hamburger price up by 50 cents, I don’t have a problem with that either.

I have discussed the issue of how political bias corrupts economic analysis. The reporting on the minimum-wage issue is rife with it. Don’t underestimate how much economic self- interest tilts the debate.

The breakdown is $3.9 billion for Medicaid and the Children’s Health Insurance Program (CHIP); $1.04 billion in food-stamp benefits; and $1.91 billion in earned income tax credit payments.

Barry Ritholtz, a Bloomberg View columnist, is the founder of Ritholtz Wealth Management. He is a consultant at and former chief executive officer for FusionIQ, a quantitative research firm.,