Friday, June 22, 2012

General Theory Study Guide: Chapter 2, Sections III, IV and V

In these sections, Keynes finishes demolishing the classical understanding of unemployment that he started in section II.  By the end of section V, his theory of employment should start(START!) coming into focus.  If by the end of section V, you don't understand his argument of why there is involuntary unemployment in a money economy, I would reread sections II through V over and over until you do before moving on.

Section III
Section III starts off by repeating that workers have no mechanism to lower their own REAL wages across the economy.  This is such an important point, Keynes can be forgiven if he repeats it a couple (or even a hundred) times.  Workers can only cut their dollar-wages, but that doesn't necessarily lower their REAL wage. Understanding this is critical to Keynesian economics.  From Section III

In other words, the struggle about money-wages primarily affects the distribution of the aggregate real wage between different labour-groups, and not its average amount per unit of employment, which depends, as we shall see, on a different set of forces. The effect of combination on the part of a group of workers is to protect their relative real wage. The general level of real wages depends on the other forces of the economic system.
I cannot over stress the criticality of understanding this.  Keynes is pointing out that because people make their deals in money-terms and not REAL-wage terms, there is no way for workers to increase the general level of employment by accepting wage cuts.  Even if workers start a cycle of slashing their wage demands, all that will happen is either the price of what they're making is slashed or their wages will be redistributed to other groups.  If all workers lower their dollar-wage, it redistributes wages to capital or land in the form of interest and rent.

More detail on how and why this is will be explained later and throughout the book.  For now, just understand that Keynes rejects the notion of obstinate workers as an explanation for involuntary unemployment.

Keynes also points out now why it is actually logical(remember how the Classicals thought it illogical) for workers to resist reduction in dollar-pay, but not resist loss of REAL wages from a sudden increase in the cost of living.  A rise in cost-of-living affects all industries equally and happen so often that resisting them is impractical.  Of course, Keynes, being thorough, does point out that there are exceptions when things go to the extreme(i.e. A very high increase in cost of living).

Section IV
Section IV is where Keynes takes up the task of defining involuntary unemployment.  He makes some obvious caveats about his definition and existing definitions first(you shouldn't have a problem with theses).  Then he gets to his definition.  It is a complicated definition:

Men are involuntarily unemployed if, in the event of a small rise in the price of wage-goods relatively to the money-wage, both the aggregate supply of labour willing to work for the current money-wage and the aggregate demand for it at that wage would be greater than the existing volume of employment
Fortunately, if you have a hard time deciphering this "an alternative definition, which amounts to the same thing, will be given in the next chapter".  What he's saying here is if the cost of living rises, but dollar-wages stay about the same, and more people are working after the rise than before the rise, then there was some involuntary unemployment.
Keynes in this section then reiterates that his problem with "the classicals" isn't their reasoning, it is their assumptions.  They have assumed, whether they realize it or not, that "Full Employment" already exists.

Section V
In this section Keynes comes puts and explicitly states that he does believe a reduction in REAL wages will in fact increase employment(assuming land and capital remains even).  He is not disputing this.  Only thing he is disputing is the ability for workers to cut their REAL wages.  At the end of the section he states, "The theory of wages in relation to employment... cannot be fully elucidated, however, until Chapter 19 and its Appendix have been reached."

Leave a Comment