Classical theory of employment

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Bhawna Rajora 117510

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Say's Law of Markets :

Say's Law of Markets Say's law of markets is the core of the classical theory of employment. An early 19th century french Economist, J.B.Say [1767-1882] enunciated the proposition that "Supply creates its own demand".

The classical economists believed in the existence of full employment in the economy. To them, full employment was a normal situation and any deviation from this regarded as something abnormal. the tendency of the economic systems is to automatically provide

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ASSUMPTIONS

Says law of market Core of classical theory

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Supply creates its own demand

(a) Full employment:

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According to classical economists, the labour and the other resources are always fully employed. Moreover, the general over-production and general unemployment are assumed to be impossible. If there is any unemployment in the country, it is assumed to be temporary or abnormal. According to classical views of employment, the unemployment cannot be persisted for a long time, and there is always a tendency of full employment in the country. According to classical economists, the reasons for unemployment are: (i) Intervention by the government or private monopoly, (ii)Wrong calculation by entrepreneurs and inaccurate decisions, and (iii)Artificial resistance.

Wage Price Flexibility

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Classical economist believed in full employment situation.

In case of unemployment, a general wage cut in money wages would take the economy to the full employment situation. Similarly, the unemployment could be cured by cutting down wages which would increase the demand for labour and would stimulate activity. Thus, if the prices and wages are allowed to move freely, unemployment would disappear and full employment level would be restored.

Labor Market 3/26/13 Equilibrium

Demand & supply of labour is function of wage rate. Demand for labour is decreasing function of wage rate . supply of labour is increasing function of wage rate. It was the theory on the basis of which classical economists thought that general over-production and general unemployment are not possible.

General Price Level in the economy depends on the supply of money. Total supply of money equals total value of output. Changes in supply of money causes proportionate change in price level. The classical economists are of the view that all the savings are spent automatically on investment goods. Savings and investments are interchangeable words and are equal to each other. If there is any gap between saving and investment, the rate of interest brings about equality between the two.

Money Market Equilibrium 3/26/13

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Goods Market Equilibrium

Saving equals Investment Saving & Investment both Are the function of interest rate If Interest Rate is high there will be more saving and less investment

Criticism

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Underemployment situation

Money not neutral

Refutation of wage cut

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State intervention is essential Over production is possible

Refutation of says law

Long run analysis unrealistic

KEYNESIAN ECONOMICS : General Theory 3/26/13 of Emp: Interest & Money

1.

Full employment is not normal feature Unemployment equilibrium is normal. Short Run Theory : Amount of Capital, Population, labour Force, Technology, do not change. In the short run, higher level of income and employment can be attained by injection of macro economic measures which will lead to increase in aggregate demand for goods and services.

2.

3.

4. In a developed economy, employment depends on level of effective demand.

Aggregate Supply Price :

The minimum expected sale proceeds required to3/26/13 induce firms to produce and output and to provide employment on a given scale is called the aggregate supply price of that output. aggregate supply price increases with increase in the level of employment and vise versa.

At full employment , no increase in cost or sales proceeds can generate employment further.

Aggregate Demand Price :

Total money receipts expected by all the firms in the economy taken together from the sale of their products produced by a given number of workers. When the firms expect to earn through increased expenditure of the community on goods and services, they will employ more workers and vise versa.

Keynesian Theory of Employment 3/26/13 Concept of Effective Demand.

Aggregate Demand Function

(AD=total exp=C+I) aggregate supply function. As=F(N) AS is the aggregate supply price N=number of workers employed.

KEYNES ON CLASSICALS

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Income saved does not necessarily Create Demand=AD<AS Investment demand < Desired savings causes unemployment Factors determining investment are different. Savings and

Savings depends on income, old age, social security network, education, marriage of children, housing need etc.

Investment depends upon

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(a) Expected rate of profit. (b) Rate of interest. (c) Technological progress

(d) Population growth

Classical stood for Laissez faire policy; Keynes for active govt. intervention
and Important role for money supply in carrying out corrections in aggregate demand.

Comparison Between Classicals and Keynesians 3/26/13 Classical Keynesians

Economy is always in full employment. Full employment equilibrium is an exception. Wage and interest flexibilities restoresGeneral reduction in wages throughout the full employment equilibrium, if disturbed. economy can lead to fall in demand.
Monetary expansion may create inflation. Inflation will arise only after full employment has been achieved.

Interest rate brings about equality betweenSavings & investment is influenced by level of Savings and investment income and expected return on investment. Investment is interest elastic. Interest sensitivity of investment may not be adequate.

Classical depend on monetary policy forKeynesians depend on Fiscal Policy raising the level of income employment(public expenditure, deficit financing) for etc. reaching full employment equilibrium. 3/26/13 Classical place great emphasis onKeynes treats supply (Y) as given and supply side for establishing equilibrium. attaches great significance to demand.

S & I decisions are made by same groupS & I decisions are taken by different of people and interest rate brings aboutgroups of people changes in the equality between the investment andeconomy are the result of changes in savings. income and expenditure and not the rate of interest. Works in long run. Works in short run All are dead in the long run

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