Prevailing Wages and the Free Market

Peter Philips, Ph.D., Professor of Economics, University of Utah

April 20, 2015

Introduction
Prevailing wage regulations require that construction workers on public works be paid a specified wage
and benefit package broken down by trade and location based on the wages and benefits paid to each
craft on projects similar to public works in the local area where the public project is to be constructed.
This public procurement regulation raises two questionswhy should construction on public works have
a special minimum wage regulation? And why does the government in procuring construction services
interfere with the operations of the free market?
The answer to these two questions derives from the fact that government is the largest purchaser of
local construction services. Wisconsin is typical: in 2012 in Wisconsin, 20 percent of all construction
purchases by value was public works. Wisconsin state and local public works accounting for 17 of that
20 percent.
When government is the thousand-pound gorilla in the construction market, public procurement cannot
help but influence free market outcomes. The government could avoid influencing private free-market
construction outcomes by getting out of the business of public works. But unless the government stops
building roads, schools, municipal buildings, military facilities, bridges, dams and highways, the question
is not why should the government interfere with the private construction sector, but rather how should
it influence the overall construction free market.
As we shall see, government projects are bid differently than private sector construction jobs.
Government hard-bid procurement practices privilege the bidder who submits the lowest start-cost bid.
This in turn puts greater pressure on contractors to exclude training costs, health insurance, pension
contributions and premium wages from their bids. While private sector projects often also use hard
bids, other bidding practices including negotiated price, time-and-materials, design build and so on are
also common. Because the private sector does not exclusively use hard-bids, public bidding practices
absent prevailing wage provisions, put a downward pressure on the free market determination not only
of wages but also apprenticeship financing, the provision of health insurance, pension contributions and
other incentives that help retain skilled and experienced workers within this most turbulent of
industries.
Prevailing wage regulations, are in fact, an effort to minimize governmental interference with the
construction free market by requiring that contractors on public works include wages, benefits and
training contributions that mirror the local free market rather than undercutting free market outcomes.

PREVAILING WAGES AND THE FREE MARKET

Vicious and Virtuous Cycles in Construction

The Vicious Cycle in Public Procurement. In the case of labor, public procurement policies have a
tendency to push local wages and benefits down relative to the private market because, unlike the
private market that uses multiple methods for purchasing construction services, public procurement
almost always uses hard bids. On hard bids, contractors bid to fixed specifications and the public
procurement officer selects the lowest bonded bidder. This low-bid procedure contrasts with free
market bidding which includes hard bids, design-build, negotiated price, time-and-materials and a
variety of other bidding procedures. Of all the bidding procedures in the construction free market, hard
bids put the greatest pressure on wages because they encourage contractors to compete more on startprice and less on quality, performance, final price and downstream maintenance.
The long-run costs of building and maintaining a qualified and safe local construction labor force entails
1) paying for the training of the next generation of construction workers, 2) providing the wages and
family friendly benefits that will retain current skilled and experienced construction workers, and 3)
delivering the pensions benefits needed for retirement security which, in turn, induces younger workers
to come into and stay within the turbulent and volatile construction industry. The dynamics of hard bids
discourages contractors from including in their bids these long-run costs.
In the short-run, such as the time it takes to put up a building, contractors are stuck with the given
qualify and experience of the in-place local construction labor force and whomever they can bring in
from the outside.
While buildings take a year or two to build, apprentices take three to five years to turn out as
journeymen. While over a few years, experienced and skilled construction workers can find jobs that
use their skills outside the construction industry, in the here-and-now, skilled and experienced
construction workers are stuck within the industry. So when a hard-bid job comes up, contractors, in
the hopes of being the lowest bidder, are tempted by hard-bid rules, to throw out training costs, to
exclude health insurance, to eliminate pension contributions and to shave wages, in order to be the
lowest bidder.
Reputation, past performance and workforce quality are not emphasized in hard-bid procedures. Even
final costs are not the center of attention. In hard bids, the lowest start cost, (i.e. the lowest bid), rules
the day. So in the public sector, in contrast to the private sector, bidding does not balance start-cost
against reputation-for-performance, or start-cost against quality-of-workmanship, or start-cost against
final-cost, or start-cost against downstream-maintenance. Public procurement privileges start costs
above quality, safety and reputation. And as a consequence, public procurement procedures initiate a
downward spiral in wages and productivity.
As contractors reduce their training costs, apprenticeship training declines. As apprenticeship training
declines, after a while, the qualifications and productivity of the construction labor force declines.
Lower productivity leads to lower wages both on and off public works as the qualifications of the entire
local construction labor force degrades. In the end, public hard-bid procurement policies influence local
construction free-market wage rates without ever having an explicit wage policy within public
procurement rules.

PREVAILING WAGES AND THE FREE MARKET

Because of this thousand-pound-gorilla effect, the question can never be why should the government
influence free market wage determination? but rather how should the government affect free market
construction wages?
The Virtuous Cycle in Public Procurement. Prevailing wage regulations are actually modifications of
public procurement policies which say that when the government comes into the construction market,
its bidding practices should not undercut local construction wages and benefits. Using surveys to
determine local labor standards, the government then says to contractors that--when you bid on our
hard-bid projects, if locally, contractors are paying into apprenticeship training programs, there will be
room on our projects for you to include in your bid apprenticeship training contributions. And you will
not lose the bid because you included training costs in your submission.
Public procurement rules which include prevailing wages also say that the contractor can include wages
in their bid that will retain experienced workers, if locally, wages in the private sector do that was well.
And public procurement rules say that there will be room for retirement contributions for those crafts in
the local area that typically do pay into retirement on similar private jobs in the area.
In short, prevailing wage regulations say that while the public will use hard-bid procedures in almost all
cases, the public will do so in a way that does not undercut local labor standards.
So the aim of prevailing wage regulations is to minimize the influence of public procurement on
construction wage determination by embedding in the project specifications local free-market wages.
There is a dispute regarding how well this is done. But, in principle, prevailing wages take the
government out of the business of influencing local labor standards. In practice, prevailing wages make
enough room in public bids for contractors to include the long-run costs of creating and maintaining a
skilled, experienced and safe construction labor force, if the private sector in the area on similar projects
is paying those long-run costs as well.

Level Playing Field

In high-wage states such as Wisconsin, hard-bid public procurement rules without prevailing wages not
only runs the risk of undercutting local labor standards and initiating a downward spiral of lower
productivity leading to lower wages, but also, public hard-bids without prevailing wages open the door
for effective competition on Wisconsin projects from out-of-state contractors and construction workers
coming in from lower-wage states.
For the most part, states that do not have prevailing wage laws are lower-wage states that do not have
widespread registered construction apprenticeship programs. The state construction industries
compete less on quality and more on start-cost pricing. The Wisconsin construction industry, which
over the last 3 years has spent $86 million on registered apprenticeship training, in repealing prevailing
wages, runs the risk of both opening the door to greater out-of-state contractor victories on Wisconsin
public works, and of closing the door on Wisconsin apprenticeship training. In Colorado, which repealed
its prevailing wage law in the 1980s, apprenticeship training subsequently fell by 42%. In Kansas, which
also repealed its prevailing wage law in the 1980s, apprenticeship training fell by 38%.

PREVAILING WAGES AND THE FREE MARKET

Conclusion
So we return to the original questions: why should construction on public works have a special minimum
wage regulation? And why does the government, in procuring construction services, inevitably interfere
with the operations of the free market?
The government interferes with the operations of the construction free market because, as the largest
participant in that market, it cannot avoid affecting free market outcomes. The government has a
special minimum wage by craft and location in its procurement policy in order to stay as neutral as
possible in affecting local construction wages. It does so by requiring that contractors on public works
mirror the wages and benefits determined by the free market in the local area for the crafts on projects
similar to the ones being built by the public. In short, prevailing wages are designed to reflect and
protect local labor standards in construction when, absent prevailing wage regulations, public works
procurement has a natural tendency to undercut local free market wages, benefits and training.
The alternatives are two. Either the government gets out of the business of buying construction
services. Or the government, through its hard-bid procedures, pushes the local construction labor
market down the road towards lost training, reduced experience, less industry attachment and greater
risks of injury. This latter alternative not only hurts the capabilities of the local construction industry,
but it also undercuts all of Wisconsins industries and business that rely upon quality construction as a
foundation for their own business competitiveness. And this latter downward spiral in labor
productivity and wages also hurts local construction workers and their families.
As long as the government stays in the business of public works, the irony is stark. The one owner who
comes into the construction market the most often, and the one owner who has the greatest selfinterest in the long-run qualifications of that local construction labor force, is the largest owner (absent
prevailing wages) whose bidding practices contribute the most to the degradation of the skills and
experience needed to have a qualified local construction labor force. This matters because a qualified
and safe local construction labor force is precisely what is needed to build and rebuild the structural and
infrastructural foundations for all of Wisconsins business community to be locally ready and globally
competitive.

About the Author

Peter Philips received his BA from Pomona College and his MA and PhD from Stanford University and is
Professor of Economics at the University of Utah. For over 25 years, Philips has written extensively on
bidding procedures and labor market practices the construction industry. Philips complete academic
research history may be found at
https://faculty.utah.edu/u0035312-PETER_W_PHILIPS,_Labor_Economist/bibliography/index.hml

PREVAILING WAGES AND THE FREE MARKET