Types of Employment Equilibrium

This topic answers one big question: Can an economy be "in balance" even when people are unemployed?

Classical economists said that no balance (equilibrium) always means full employment. Keynes said yes — an economy can settle into balance even with unemployment, because it all depends on how much people are spending (Aggregate Demand).​

Aggregate Demand (AD)
= Total spending in the economy = Consumption (C) + Investment (I)​
Think of it as: "How much are people buying?"

Aggregate Supply (AS)
= Total goods and services produced = National Income (Y)​
Think of it as: "How much is the economy making?"

Equilibrium = When AD = AS (what people want to buy = what the economy produces)​

"The ideal situation"

• AD = AS at the full employment level
• Every worker who wants a job gets one​
• No one is involuntarily unemployed
• Resources are used 100%
• No gap exists — prices are stable

Think of it like: A factory running at exactly 100% capacity — all machines running, all workers employed, no waste, no overload.

"The economy is in balance, but people are still jobless"

• AD = AS, but below the full employment level​
• Some workers are involuntarily unemployed (they want work but can't find it)
• Resources and labour are NOT fully used
• Caused by deficient demand — people aren't spending enough​

Think of it like A factory that can employ 100 workers but only runs 70 because customers aren't buying enough. The factory isn't losing money (it's in balance), but 30 workers sit at home.

"The economy is overheated — prices rise instead of output"

• AD exceeds the full employment level​
• All resources are already fully used — output CANNOT increase
• So instead of more goods being made, prices go up (inflation)​
• The AS curve becomes a vertical line here — no more output is possible

 Think of it like this: During a festival season, everyone rushes to buy sweets. The sweet shops are already running at full capacity — they can't make more sweets. So they simply raise the price.

• The AS curve goes up at 45° and then becomes vertical at point M (full employment)​
• AD (green line) → meets AS at point E → Under-employment (only ON workers employed; NM are unemployed)
• AD₁ (orange line) → meets AS at point E₁ → Full employment (all OM workers employed)
• AD₂ (red line) → meets the vertical AS at point E₂ → Over-employment (prices rise)​

• Full Employment Equilibrium: Occurs when aggregate demand (AD) equals aggregate supply (AS) at full use of resources; all willing workers get jobs at the prevailing wage.
• Under-Employment Equilibrium: AD = AS but at less than full employment due to deficient demand; resources and labour are underutilised (Keynesian view).
• Over-Employment Equilibrium: AD exceeds full-employment AS; output cannot rise further, so prices increase, leading to inflation.