SEMESTER – II

MACROECONOMIC

    10.   EQUILIBRIUM
LEVEL OF EMPLOYMENT

                                  OR

Equilibrium
Level of Employment and Real National Income.

Increase
in the level of Employment& Real National Income.

Limitations
of the Keynesian Theory of Employment

ANS:

The equilibrium level of
employment and real national income is determined at the
point of equality between the aggregate demand price and the
supply price. Employment and real output continues to rise
if demand price is greater than the supply price and stops at the
point of equality. You will notice from Table 2.3 below that when four
million workers are employed the AD price and the AS price are
equal i.e., Rs.800 Billion. This point of equality is the point of
Effective demand. If employment is increased beyond the point of
effective demand, the aggregate demand price will fall below
the supply price and the class of entrepreneurs will make
losses.

 

The equilibrium level of
employment and real national income or the point of
effective demand can be diagrammatically shown as in Fig.2.3 below.

Fig.
2.3: Equilibrium Level of Employment and Real National Income.

In Fig. 2.3 above, the two
curves ADP and ASP intersect each other at point ‘E’. Point
‘E’ is the point of effective demand. Corresponding to point ‘E’, point ‘R’ on
the Y-axis indicates equilibrium receipts and point ‘N’ on the X-axis indicates
equilibrium level of employment and real national income. However, point ‘E’ is
only an under employment or less than full employment equilibrium as full
employment level is indicated by point ‘F’ on the aggregate supply curve. Per
Keynes, the economy achieves equilibrium at less than full employment level
because the gap between income and consumption is not fully filled up by
investment. Both investment and savings are made by two different classes.
While savings are made by the household sector, investments are made by the
class of entrepreneurs. Hence, investment cannot be equal to saving. If aggregate
investment is less than aggregate savings, economy will operate at less than
full employment level.

Increase in the Level of
Effective Demand and Employment Per Keynes, the aggregate supply function is
constant in the short run because the productive capacity of the economy cannot
be increased in the short period. However, the level of effective demand and
employment can be increased by increasing the aggregate demand function. This
is shown in Fig.2.4 below.

Fig. 2.4: Increase in the
level of Employment& Real National Income.

In Fig. 2.4 above, the
aggregate demand price curve ADP1 intersects the aggregate
supply price curve ASP at point E1 and ON1 level of employment is
determined. When the aggregate demand is increased the ADP,
curve shifts upwards and intersects the ASP curve at point E2 and
a higher level of employment i.e. E2 is determined.

It may be concluded that the
level of employment in an economy can be increased if
aggregate demand is increased. Aggregate demand can be
increased if either investment demand or consumption demand
increases.

 

Limitations of the Keynesian
Theory of Employment

The Keynesian theory of
employment and real national income is criticized on the
following grounds:

1. Relevant to Free Market
Economy. The Keynesian theory is applicable only in free market
capitalist economies which operate based on market mechanism. It
is not relevant to other economic systems such as socialism
where all economic decisions are taken by the government. It is also
not relevant to a mixed economy where the role of the
government is substantially large.

2. Keynesian Theory is
Relevant to Depression. Keynes wrote his General Theory in 1936.
Both Europe and America were caught in the great economic
depression during the first half of the 20th century. Keynes
prescribed increased Government expenditure to increase the
level of effective demand under conditions of recession.
However, the theory cannot be applied under the conditions of
jobless growth when economy grows along with fall in employment and
stagflation when prices rise but employment and output falls.

3. Keynesian Theory is not
relevant to open Economies.

Keynes did not consider the
impact of international trade and investment on national
economies. Keynes assumed a closed economy while writing his
theory.

4. Keynesian Theory is not
Relevant to UDCs. Keynes had dealt with the problem of the
down-turn in business cycles and the resultant rise in
unemployment. However, under developed countries face the problem of
regular and disguised unemployment. 

5. Keynesian Theory Ignores
the Long Run Problems.

Keynes sought solution to the
short run macro-economic problems and went on to say that in the
long run we are all dead. He thus ignored the long run problems
of changes in the economic conditions.

      

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