Shoveling Snow & The Cost Of Capital: A Parable

(This came to us from Bill Sayre who is a voice of reason and the soul of wit as well as Chairman of the Board of Associated Industries of Vermont and a partner in the A. J. Johnson Co., a Bristol company that grows timber and manufactures lumber. In a former life, Sayre was an economist with the Federal Reserve, where he was responsible for analysis of business conditions, business cycles, and trends in the general economy.

Sayre earned his B. A. in economics from Northwestern University, and his M. B. A. in finance and economics from the University of Chicago, where he studied under Nobel Laureates Milton Friedman, George Stigler, Gary Becker, Merton Miller, and Robert Lucas.)

    After the last big snowstorm, my young grandson Eric, and his friend, Kyle, wanted to earn some extra spending money, and so they offered to shovel our driveway.  It’s a driveway with a lot of square footage, the snow was deep and heavy, plus I already have contractor friend, Neil, who has a truck and plow, who would do the job for $20.

Nevertheless, wanting to reward my grandson’s initiative, and to foster his entrepreneurial spirit, I decided to take his offer.  My standard rate for Eric and his friend, when they do projects for me, is $8 per hour, for each of them.  This also keeps me on the right side of the minimum wage law.

Well, the boys worked hard, but it took them 2 and half hours to finish the job.   The cost to me was $40, twice what it would have cost to have Neil do the job,  using his truck and plow.  $40 for 5 hours of work from Eric and Kyle, using shovels, verses $20 for a few minutes of work from Neil, using his truck and plow.

Eric and Kyle are competing against Neil, in the marketplace for snow removal services.  The market value of Eric and Kyle’s service is $20, or $4 per hour.  If it takes about 15 minutes, including travel time between jobs, for Neil to plow the driveway, then the market value of his time, working with the truck and plow, is $80 per hour.  If the cost of his capital, i.e., his truck and plow, is $50 per hour, then Neil, as an entrepreneur earns $30 per hour.  Of course, if it doesn’t snow, Neil, as an entrepreneur, earns nothing.  That’s the nature of risk and reward.

There are many possible lessons from this story.  One is to show the effect minimum wage laws.  If you are not hiring your grandson, you probably won’t often pay $40 dollars for a job you could hire done for $20.  Eric and Kyle will be unemployed, if they are not allowed to charge less than minimum wage, when they’re shoveling snow from driveways.

But a second, and more timely lesson, for purposes of public policy, is to show the importance of capital, in determining wages.  The reason Neil can charge less than Eric and Kyle, and at the same time, earn more per hour, is that he has more capital with which to work.  The extra capital allows him to be more productive, i.e., to get the job done in less time, and thereby to earn a higher wage.

And so it is with the working people of Vermont.  If we are to earn ever higher incomes, while competing in global markets, we can only do so if we have ever more capital with which to work.  Allowing us to get the job done, more efficiently, more productively, and thus able to earn higher incomes.

Yes, it is always tempting to ignite the politics of envy, turning the tax code into a battleground for class warfare, demonizing the wealthy individuals and large corporations.  But it is important to remember that capital is mobile, and when it is taxed less predictably, and at higher rates, it will tend to migrate, along with its owners, to where they both are more welcome.  Let’s hope we remember this, as we consider whether or not to raise the rate at which Vermont taxes capital.  If we were to destabilize and increase taxes on capital, the owners of capital who migrate from Vermont, will be hurt far less, if at all, than are the workers left behind, whose incomes will grow more slowly, if at all.

Bill Sayre        

Comments

[Mister Guy]

This parable is very quaint indeed. No one is arbitrarily determining the "market value" to remove snow from this guy's driveway. He has a simple choice as a consumer:
-get it done really quickly for $20
-get it done very slowly for twice the price ($40)
Simple fees for different levels of service. Did he really think those two kids could shovel all that snow in 15 mins.?

He chose the later because he wanted to be nice to his grandkids...that's quaint, but it's not an example of what might be wrong with the minimum wage IMO. Nice try though...when I was a kid I got $10 a driveway...maybe I was getting screwed? :)

[Lazarus Long]

I think the real point Bill tried to make is about capital and how it is used and is mobile rather than about the minimum wage.

[Edward Charles Ponzi Jr.]

Some economist! You go LONG paying $40 to shovel snow by hand -- then go into the OTC Derivatives market and SHORT the hand snow shoveling sector using 10x leverage with cheap money available from Uncle Ben. Then you will really clean up!

Get real! We are in a financial economy! Why invest is such silly things as plant and equipment and R&D and patents -- when I can lever up with cheap money and buy inflating assets! Oh! and then I can insure against loss with some counter-party somewhere!