Theory of Employment

THEORIES OF EMPLOYMENT

INTRODUCTION

         There are mainly two theories of employment in macroeconomic analysis, i.e., traditional theory and modern theory of employment. Traditional theory of employment is introduced and developed by classical economists like J.B. Say, J.S. Mill, A. Marshall, A.C. Pigou, etc. According to classical economists, unemployment is a temporary phenomenon.

         On the other hand, modern economist John Maynard Keynes in his general theory of employment, interest and money published in 1936, made a frontal attack on the classical postulates. He developed a new economics brought about revolution in economic thought and policy. The general Theory was written against the background of Classical thought. Classical economic thought and policy was dominated before and during the 1930's great Depression. Since, the Keynesian Economics is based on the criticism of classical economics; it is necessary to know the latter as embodied in the theory of employment.

CLASSICAL THEORY OF EMPLOYMENT

            Classical Theory of employment is related to classical economists such as David Ricardo, J.S. Mill, A.C. Pigou. This theory is based on the assumption of full employment of factors of production without inflation. According to this law, there are automatic forces that tend to maintain full employment and produce output at that level. This theory is based on various assumptions they are as follows:

(1)    There is existence of full employment. Full employment means all factors of production are employed except voluntary, unemployment, but there is no any type of inflation.

(2)    There is closed laissez faire capitalist economy. This theory assumes free market economy, but there is no foreign trade.

(3)    There is perfect competition in product market as well as factor market. Factor market is labour market.

(4)    Labour is homogeneous. All labourer possesses perfectly equal quality and productivity.

(5)    National income is divided among consumption and investment expenditure.

(6)    The quantity of money is given.

(7)    Wages and prices of product are flexible.

(8)    Money wage and real wage are proportional and directly related.

(9)    Capital stock and technological knowledge are given in short period of time.

(10)  Function of money is only medium of exchange.

            This theory assumes flexibility of wages, interest and prices. It means that prices of products, interest rate and wage rage depend upon relative force of demand and supply for them changes in there variables automatically adjust the economic system in such a way that economy holds the status of full employment.

Say's Law of Market

            Jean Baptiste Say was on early 19^th century French economist who wrote the book political economy and propounded law of market with famous proposition "supply creates its own demand." It is pivot of classical theory. According to Say- "It is production which creates markets for goods. A product is no sooner created than it, from that instant, affords a market for other products to the full extent of its own value. Nothing is more favourable to the demand for one product, than the supply of another".

            Thus, every additional supply creates an additional demand. There can be no generally over production. It is original form. This is applicable for a barter economy where commodities are exchanged for each other. Every commodity brought to the market for fulfill the need of other commodity. In say's opinion, work being unpleasant no-body will produce a product unless he wants to exchange it for other products which he desire. Thus, supply of any product is demand for other products. Therefore, there will be no any over production because supply of products will not exceed aggregate demand.

            The existence of money does not alter the basic law. Neo-classical economists consider that say's law has wider application in monetary economy. In a free market economy, the money cost of the goods produced by the firm are actual paid out as incomes to households for their factor services supplied. This means that supply of a product generates the income to the households in the form of wages, interest, rent and profit to demand other goods produced. According to Professor Hansen "Say's law, in a very broad way is a description of a free exchange economy. So conceived, it illuminates the truth that the main source of demand is the flow of factor income generated from the process of production itself."