- Flexible wages: Fall in money wages reduces real wages, increases demand for labour, and removes unemployment.
- Flexible interest rate: Fall in interest rate reduces saving and increases investment, restoring full employment.
- Flexible prices: Fall in prices raises real income and demand, increasing output and employment.
- Conclusion: Flexibility of wages, interest, and prices automatically ensures full employment in the economy.
Definitions [6]
Definitions: Full Employment
- According to Lerner, “Full Employment is a situation in which all those who want to work at the existing rate of wage get work without any undue difficulty.” There is no “involuntary unemployment”.
- “Full employment is a situation in which everyone who want to work is working, except for those who frictionally and structurally unemployed.” — Prof. Spencer
- “Full employment is a level cemployment associated with a normal level of unemployment.”
Definition: Natural Employment
“The natural rate of unemployment is the rate of unemployment arising from normal labour market frictions that exist when the labour market is in equilibrium. Natural unemployment, refers to frictional unemployment and structural unemployment.” — Ruffin and Gregory
Definition: Full Employment
- “Full employment is a situation in which everyone who want to work is working except for those who frictionally and structurally unemployed.”
— Prof. Spencer
Definition: Volume of Employment
According to Keynes, “The volume of employment is given by the point of intersection between the Aggregate Demand function and Aggregate Supply function.”
Definition: Frictional Unemployment
According to Gardner, “Frictional Unemployment is the unemployment associated with the changing of jobs in dynamic economy”.
Definition: Structural Unemployment
According to Gardner, “Structural unemployment is the unemployment that results from the long term decline of certain industries.”
Formulae [1]
Formula: Flexibility of Wages
\[RealWage=\frac{MoneyWage}{PriceLevel}\]
- When real wages are low → hiring is cheaper → firms demand more labour
- When real wages are high → more people want to work → supply of labour increases
Key Points
Key Points: The Concept of Full Employment
- Full employment exists when all people willing to work at the prevailing wage rate are employed.
- It does not include voluntary unemployment (e.g., idle rich).
- Frictional unemployment (about 3–4%) due to job changes or structural shifts is normal.
- An economy is at full employment even with this natural rate of unemployment.
Key Points: Classical View on Full Employment
- Full employment ≠ zero unemployment.
- Everyone willing to work at the current wage rate gets a job.
- No involuntary unemployment (only voluntary or frictional unemployment may exist).
- Job vacancies ≥ unemployed people.
- Classical theory: Aggregate demand is enough to maintain full employment.
- Self-correction mechanism:
Wages ↓ → more hiring
Interest rates ↓ → more investment
Prices ↓ → demand and production ↑ - Economy is self-adjusting, so unemployment is temporary.
Key Points: Flexibility of Wages, Interests and Prices
Key Points: Keynes's View on Full Employment
- Keynes argued that economies usually face underemployment, not full employment, due to deficiency of aggregate demand.
- Full employment does not mean zero unemployment; frictional and structural unemployment always exist (natural rate of unemployment).
- Employment is determined by effective demand, i.e., where aggregate demand equals aggregate supply (AD = AS).
- To achieve full employment, state intervention and increased investment are necessary.
Key Points: Determination of Equilibrium Level of Income and Employment
- Equilibrium employment is determined where Aggregate Demand (AD) equals Aggregate Supply (AS).
- When AD > AS, producers increase output → employment rises.
- When AD < AS, producers reduce output → employment falls.
- Full employment is achieved only by increasing aggregate demand, mainly through higher investment; otherwise equilibrium may exist with unemployment (under-employment equilibrium).
Key Points: Important Terms of Employment and Unemployment
- Involuntary unemployment is when someone wants and is able to work but cannot find a job.
- Voluntary unemployment is by personal choice and not considered in economic unemployment rates.
- Full employment does not mean zero unemployment but the absence of involuntary unemployment.
