Answer to Question #233094 in Macroeconomics for UpKel

Question

Describe Keyne's theory of aggregate demand as it relates to wage levels and employment. Did Keynes believe that unemployment is caused by sticky wage.

Answer 1

J. M. Keynes wrote the famous book 'General Theory,' in which he criticized an explanation for the Great Depression of the 1930s and proposed solutions. In addition, he provided his own income and employment hypothesis. In Keynes opinion Aggregate demand and supply in the country determine the amount of national income and hence employment in the short run. When aggregate demand equals aggregate supply, national income reaches equilibrium. This point is also known as the effective demand point. Keynes employment theory is a demand-oriented theory. This means Keynes viewed employment and unemployment from the demand side of the equation. The volume of employment in a country, according to Keynes, is determined by the degree of effective demand for goods and services. The lack of effective demand is attributed for unemployment.

In J.M. Keynes The General Theory of Employment, Interest, and Money, nominal wage rigidity and stickiness were key concepts. In a recession, Keynes claimed that wages did not decrease to restore equilibrium because prices were decreasing. Real wage unemployment resulted as a result of this. . Deflation and a fast rise in unemployment marked the Great Depression of the 1930s. Keynes, on the other hand, did not regard it as a supply-side issue. The solution, according to Keynes, was to increase aggregate demand, and therefore labour demand, rather than to make wages flexible and impose pay reduction. In a moment of recession and deflation, Keynes claimed that cutting wages would result in reduced worker income, a further drop in aggregate demand, and a knock-on effect of decreasing labour demand. To stimulate demand, Keynes advocated for an expansionary fiscal policy. Sticky wages are important because they disrupt the connection between microeconomics and macroeconomics. It indicates that inflation and deflation may significantly affect economic growth and inflation.