Question

Show that minimum wage rate set above the market clearing wage rate causes excess supply of labour. Why would government impose minimum wage despite knowing its effect on unemployment?

Answer 1

Firms are not allowed to pay less than the government-mandated minimum wage when the government enforces one. Assume we're back in the base year, with a price level of 1. Consider the following scenario: the market equilibrium wage is $4 per hour, but the government passes laws requiring all businesses to pay at least $5 per hour. Supply does not meet demand at this wage.