I am not an economist by training, so perhaps this statement is true in aggregate across the economy. But I know from personal experience that it is not true at a granular level. My company has exited from certain businesses and locations in direct response to changing regulations, and I know others have as well. As a minimum, I believe that labor regulation is shifting investment away from businesses that employ unskilled labor and toward businesses that employ skilled labor or increasing levels of automation.
In my business, which staffs and operates public campgrounds, I employ about 350 people in unskilled labor positions, most at wages close to the minimum wage. I had perhaps 40 job openings last year and over 25,000 applications for those jobs. I am flooded with people begging to work and I have many people asking for our services. But I have turned away customers and cut back on operations in certain states like California. Why? Because labor regulation is making it almost impossible to run a profitable, innovative business based on unskilled labor.
Why is this important? Why can’t everyone just go to college and be a programmer at Google? Higher education has indeed been one path by which people gain skills and opportunity, but until recently it has never been the most common. Most skilled workers started as unskilled workers and gained their skills through work. But this work-based learning and advancement path is broken without that initial unskilled job. For people unwilling, unable, or unsuited to college, the loss of unskilled work removes the only route to prosperity.
The academic and public policy communities generally discuss the effects of government interventions into labor markets piecemeal, teasing out the effects of a particular regulation (such as an increased minimum wage) in isolation. As an entrepreneur, I don’t have that luxury; I must comply with literally hundreds of labor regulations simultaneously. En masse, these regulations have substantial negative effects on the ability of firms like mine to profitably employ workers, particularly the unskilled.
The purpose of this article is not to dissect the costs and benefits of any one particular regulation, but to survey the mass of regulation to demonstrate how the accretion of many different, presumably well-intentioned rules to protect workers can, in total, have exactly the opposite effect, making it difficult for companies to profitably employ unskilled labor and for those workers to develop and advance.
I will survey the field of labor regulation in four categories that roughly correspond to the effects these regulations have on business viability: 1) regulations that directly raise the price of labor; 2) regulations that add risk to hiring workers, and that can make unskilled workers particularly risky to hire; 3) regulations that add fixed costs for employers, increasing the minimum viable size of a company; and 4) regulations that limit business formation and growth by making it harder to pursue new and innovative labor models.
Regulations That Directly Raise the Price of Labor
The most easily identifiable regulations that hamper employers are those that impose direct costs on the hiring and retention of workers. Below are some prominent examples.
Minimum wage / Perhaps the most visible of these regulations are minimum wage laws. The federal government sets a minimum wage of $7.25 an hour (lower for workers who receive tips and higher for private workers making products or performing services for the government). However, many states and even cities have minimum wage laws that impose much higher requirements. The highest are Washington state at $11.50 an hour and Massachusetts and California at $11 an hour. Many of these state laws have escalators that are programmed to take the minimum wage to $15 over the next several years, while cities like Seattle are already at $15 an hour for larger employers. (See “A Seattle Game-Changer?” Winter 2017–2018.)
The minimum wage for certain activities like government construction projects is even higher. For example, under the Davis–Bacon Act a laborer who places and picks up orange cones around a federal highway project in California has a minimum wage of $43.97 an hour (and yes, the wage rules are that detailed).
Payroll taxes / Employers pay several percentage-based taxes on wages. Essentially sales taxes on labor, these are above and beyond similar taxes paid by the employee. Employers pay taxes for Social Security, Medicare, state and federal unemployment insurance, and—in some states like California—disability insurance.
While most of these taxes are fixed and predictable, unemployment insurance premiums can scale upward for businesses that are seasonal or have a lot of employee turnover (particularly given that many states are not very diligent about ensuring recipients are really looking for work, a supposed requirement of most unemployment benefits). In total, the employer share of payroll taxes starts at around 8% of wages. For businesses that hire a lot of transient or seasonal unskilled labor, these taxes are as high as 16% of wages.
Workers’ compensation / All states require employers to pay for workers’ compensation insurance for their employees, a no-fault insurance program that covers both lost wages and the cost of health care from workplace injuries (even those not resulting from employer negligence). When first implemented, workers’ compensation was inexpensive, with claims costs dominated by lost wage payments. As health care costs have increased, however, so too have premiums. Premiums generally are calculated as a percentage of wages and range from as low as 1% for skilled office workers, to 10% of wages for outdoor and maintenance workers, to as much as 50% of wages in certain injury-prone professions like roofing.
PPACA / The Patient Protection and Affordable Care Act (PPACA), more commonly called “Obamacare,” represents an enormous and complex new set of regulations on businesses. Perhaps the most costly of these are the insurance coverage requirements. The law defines minimum health insurance policy features, and employers must pay penalties if they provide employees coverage below the minimum. Firms that provide insufficient health insurance (or no insurance at all) face penalties of $2,000–$3,000 per employee per year. Consider a worker earning $8 an hour for 2,000 hours a year (roughly full-time). This penalty acts as an effective 12%–19% additional tax an employer must pay for employing the worker, while providing compliant health insurance can cost even more.
Mandatory employee leave / Both federal law and most states have requirements to provide workers in a variety of situations (e.g., illness or pregnancy) with unpaid leave and full rights to return to their same job after the leave is over. California has a mind-boggling 14 categories of leave that employers must provide, including: paid sick leave, kin care, pregnancy disability leave, voting leave, jury duty and court attendance leave, crime victims leave, leave for victims of domestic violence, sexual assault, or stalking, organ donor/bone marrow donor leave, family crisis leave, volunteer civil service/emergency responder leave, Civil Air Patrol leave, military spouse leave, military and reserve duty leave, and school visitation leave. In most cases, providing this leave seldom creates a big problem for businesses, though it can create some awkwardness (e.g., what does one do with good workers who filled in for employees on leave, fire them when the leave is over?).
More recently, though, states have been adding requirements for paid rather than just unpaid leave. States like California and Arizona, for example, require employers to give workers up to three days a year of paid sick leave, an equivalent of a 1.2% tax on wages. Led by the District of Columbia, activists are pushing states to require companies to provide up to eight weeks of paid family leave. If that benefit were to be taken once every two years, it would be the equivalent of a 7.7% tax on the wages of young people in their reproductive years.
Effects / Taken together, these regulations substantially increase the minimum cost of employing even the least-skilled workers. In a location with a $15 minimum wage, the actual all-in cost per hour with taxes and minimum benefits might be as high as $21 an hour. It is very hard to run a profitable business employing unskilled workers at these sorts of costs.
Consider my business for example. A typical campground we operate requires perhaps two hours of labor per week per campsite, so an increase from the federal minimum wage to a $15 minimum wage might add $22 a week per site in wages and related costs. Since we typically make $2 to $3 per week in profit per site, most or all of these extra costs will be passed on to our customers. Given typical campsite occupancy of 2.5 days per week and $23 a night camping rates, customers would have to bear a 40% price increase to cover a $15 minimum wage. In the end, we increase prices where we can and exit the business where we cannot.
Our relatively low net income margin of 5% (for comparison, in 2016 Microsoft and Google had margins of 23% and 27% respectively) is not unusual for companies that depend on low-skill labor. Almost by definition, firms that depend on low-skill workers to deliver their product or service have difficulty establishing barriers to competition. It’s difficult to do anything uniquely innovative when much of the work is performed by employees with limited skills. As soon as one firm demonstrates there is money to be made using low-skill workers in a certain way, it is far too easy for competitors to copy that model. As a result, most businesses that hire low-skill workers will have had their margins competed down to the lowest tolerable level.
Thus, as in my campground example, the least likely response to regulation-induced labor cost increases is a reduction in profits because profits have already been competed down to the minimum necessary to cover capital investment and keep owners interested in the business. The much more likely responses will be increased prices and reduced employment. In the long-term, companies will substitute capital for labor, reducing employment even further.
Regulations That Increase Business Risk
But regulations that directly impose costs are not the only ones that hamper employment. Another category of troublesome regulation imposes increased risk, which in turn harms firm profits and viability. Here are some examples.
Liability for bad employee behavior / The legal system places much of the liability for an employee’s actions not on the employee but on the firm’s owners. A business can put in place policies and training mandating the proper treatment of other employees and customers, but if one knucklehead out of a company’s dozens or hundreds of employees decides he is going to harass someone or discriminate against certain races or religions, the owners (and not the employee) can and will get sued. Such lawsuit defenses are expensive even when the firm ultimately prevails; I have never seen a suit for even the most absurd of claims settled without spending at least $20,000 in legal expenses.
Reduced hiring information / Given firms’ liability for employees’ bad behavior, employers reasonably would like to vet employees quite diligently. However, regulations increasingly limit the information one can gather in the hiring process, greatly increasing the risk of hire. Examples include “Ban the box” (which limits employers’ ability to ask about past criminal convictions), restrictions on using credit checks on potential employees, and more recent restrictions against asking employees about their past salary and employment status. In addition, litigation has also made reference-checking much harder because many firms will not respond to reference checks because of fear of lawsuits over negative references.
Restrictions on terminating employees / In several ways, regulations increasingly make terminating poorly chosen employees more difficult. For example, equal employment rules give employees who fall into a number of legally protected classes (e.g., certain races, ethnicities, and genders) enhanced rights to file lawsuits or other legal complaints for things like unfair termination. It seems that no person in history has ever believed that his or her firing was fair, so employees may challenge even well-justified terminations. Termination can thus be costly and time-consuming, as extra steps are often taken in the termination process in anticipation of potential future legal action.
Another increasingly frequent source of legal challenges to terminations has been created by “whistleblower” laws. The law protects employees who report potentially illegal corporate activities to regulatory or law enforcement agencies. As a business owner, I want my employees to report impropriety because I want to fix the problem. However, over the past several years, firms have started to see some employees, when anticipating termination for poor performance (and even after such termination), make accusations against the company so they can then challenge the termination as unjust retaliation for the claims they have made.
Firms’ liabilities for the actions of a poorly selected employee are rising, yet regulations are making it harder for employers to get good hiring information and to terminate employees who present threats to the workplace.
Effects / It used to be that the worst human resource risk a company faced was hiring employees who simply did not justify their salary. However, given the current body of regulation, any poorly selected employee is a potential ticking bomb who, through bad behavior with customers or other employees, could tie up the company for years in expensive litigation or regulatory actions. But as a firm’s liability for the negative activity of a poorly chosen employee rises, regulations are making it harder to get good information to make better hiring choices, while simultaneously making it harder to terminate employees who were poorly chosen and present threats to the workplace or customers. When employers begin to look at their employees not as valuable assets but as potential liabilities, fewer people are going to be hired.
One potential way employers can manage this risk is to shift their hiring from unskilled employees to college graduates. Consider the risk of an employee making a racist or sexist statement to a customer or coworker (and in the process creating a large potential liability for the company). Almost any college graduate will have been steeped in racial and gender sensitivity messages for four years, while an employer might have an hour or two of training on these topics for unskilled workers. Similarly, because good information on prospective employees—credit checks, background checks, reference checks, discussions of past employment and salary—all have new legal limitations, employers who hire college graduates benefit from the substantial due diligence universities perform in their admissions process.
Regulations That Increase Fixed Costs
Besides adding to the direct and indirect costs of each employee, government regulations impose a number of fixed costs on employers. These further dampen employment by affecting firm viability. Consider the following examples.
Payroll and PPACA compliance / Payroll and the rules that govern it—wage and hour laws, sick day accruals, tax payments to multiple authorities, garnishments, W‑2s—have become so complex that most companies cannot manage their own payroll. In certain states, for example, companies can be fined or sued for violations as small as using the wrong font on payroll checks. In response, businesses—even small ones—pay thousands or tens of thousands of dollars a year for third-party payroll firms to manage this process. Similarly, in 2016 new rules went into effect requiring companies to put in place extensive tracking systems for their employees’ health insurance status and eligibility, including detailed annual reporting that must be sent to every employee and the government. Many firms like mine have been forced to pay a vendor at considerable expense to do this paperwork.
Reporting / My small company is deluged with reporting requirements to the government, many of which touch on employment. For example, my firm is required to collect the race, ethnicity, and gender of employees and report this information annually to the government. In 2016, the federal government announced that this annual reporting requirement will, in 2018, be expanded from tracking employees in about 80 race/job/gender combinations to tracking them in 3,600 race/job/gender/income categories. (This expansion has been suspended by the Trump administration—at least for now.)
It is an unusual day in my office when I do not get yet another letter from some state or federal agency—the U.S. Occupational Safety and Health Administration, its state-level equivalents, labor departments, census bureaus, tourism boards—that wants something filled out on my business. Whether it be the number of labor hours worked in Florida or the number of employees who received first aid in California, some government agency somewhere always wants more data.
The micro-regulation minefield / Beyond the more well-known regulations we have mentioned, states and municipalities have hundreds, even thousands, of other detailed employment-related laws under which even a conscientious employer can find itself facing enormous fines and legal penalties. There are far too many of these to list, but I will discuss one example: the lunch break law in California.
In California, employers have an affirmative responsibility to make sure employees take their lunch break. If the employee chooses to work through the break or even works through the break despite explicit employer mandates not to do so, the employer is still liable for penalties. My company tried several approaches to documenting when employees worked through lunch by choice (say, to get more hours of work or to go home earlier), but all eventually failed. When we allowed employees to work through lunch at their own request, we were later successfully sued for giving them this opportunity.
Ex post facto law / Compliance with a bewildering array of regulations is hard enough, but many regulations are poorly worded or don’t take into account the full variety of working arrangements that exist in the private sector. One is often forced to guess exactly what is legal. In the case of California’s lunch break law, for example, the “safe harbor” for compliance shifted several times as the rules were tested in court cases. Frequently companies find that compliance strategies they thought were legal have to be reworked as regulations are clarified in the courts. As a result, my company pays thousands of dollars each year to attorneys who review our employee handbook, compliance systems, timesheet process, and a myriad of other details for necessary changes. In California, we do this twice a year because it is so hard to keep up with the state’s massive amount of regulatory change.
Presumption of guilt / While nominally most labor law conforms to the same criminal and civil legal standards of guilt and innocence that obtain in the rest of the justice system, in practice employers often bear the burden of a presumption of guilt with regulatory bodies. We must prove ourselves innocent.
I will offer one example from my own experience. My firm had a routine labor audit by a state labor department. Mostly it went well, but somehow one timesheet for one week had been lost for a single employee. The investigator asked the employee to estimate his hours worked that week. On every other timesheet for years, he had reported 30–40 hours per week. For the missing timesheet, the employee retroactively claimed 128 hours, or a bit over 18 hours a day. This was obviously absurd and any reasonable person would have rejected this estimate as opportunistic and exaggerated. But my company eventually had to pay for 128 hours (40 regular hours and a whopping 88 hours of overtime) because we could not prove absolutely that the worker did not work what he claimed.
Effects / Most of these regulations impose fixed costs and do not increase the cost of hiring decisions at the margin. In other words, if I already am paying for a payroll system, an onboarding system, and an injury reporting system, hiring one more person does not cost me much more. However, all these expenses, by raising the fixed overhead costs of a business, tend to increase the minimum size a business must be to remain viable. For example, $20,000 in fixed costs to manage these regulatory issues is likely a trivial expenditure for a multi-million-dollar corporation, but for a company with revenues of only $100,000 a year it can be backbreaking. Perhaps even worse for many small businesses, the only person who can usually manage this compliance work is the owner, causing the one person who typically drives growth and improvement in the business to spend much of his or her time worrying about compliance issues instead.
