Wage Flexibility and Unemployment: The Keynesian Perspective Revisited |
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Authors: | Mario Amendola Jean-Luc Gaffard Francesco Saraceno |
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Institution: | 1University of Roma La Sapienza; 2University of Nice Sophia Antipolis, Institut Universitaire de France and Observatoire Français des Conjunctures Économiques; 3Observatoire Français des Conjunctures Économiques |
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Abstract: | Keynes' main concern in the General Theory is about the capacity of an economy to return to full employment equilibrium when subject to a (negative) demand shock. He maintains that money wages cuts may not help reabsorb unemployment, as they do not necessarily imply a fall in real wages. On the contrary, wage rigidity may be necessary for avoiding that a cumulative process propels the economy far away the full employment equilibrium. Co‐ordination failures in the investment‐saving market are behind this conclusion. However, the analysis is carried out within a static equilibrium framework. This paper is an attempt to focus on the problems of intertemporal co‐ordination arising within the context of a sequential economy. Our analysis of the out‐of‐equilibrium process of adjustment stirred by a shock allows to generalize the original Keynesian intuition. Unemployment emerges as the result of a lack of co‐ordination due to irreversibly constrained choices, and not only nominal but also real wage flexibility does not necessarily help to restore equilibrium. As a matter of fact, it may even be harmful, by triggering processes that make the economy diverge from equilibrium. Our analysis has important analytical implications as regards the role of market imperfections and the interpretation of the effects of monetary policy. |
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Keywords: | Co-ordination Unemployment Wage Rigidity Keynesian Economics |
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