Keynesian Theory of Employment

• Keynesian Theory of Employment
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• Introduction:-  Keynesian theory of employment depends upon effective demand. Effective demand is the situation where aggregate demand and aggregate supply equals to each other.

Effective demand leads to increase in production and production creates income,then income creates employment.

because of inter-relationship among effective demand, output, income and Employment, therefore Keynes assume that employment is a function of income.

Y=f(N).      Y-income,N-employment

Effective demand signifies money in terms of consumption of goods and services and investment.

Consumption of goods and services and investment are the combinations of total expenditure.the total expenditure is equal to the national output which is equal to the national income.Therefore, effective demand is equal to total expenditure as well as national income and national output.

He criticized "classical theory of employment" in his book "General Theory of Employment, Interest and Money".
Acc to him market forces cannot attain equilibrium themselves .they need an external support for achieving it. This is why Keynes view of employment more reliable than classical.

The Keynes theory of employment was based on short run phenomenon. In the short run,Acc to him, the factors of production, such as capital goods, supply of labor, technology, and efficiency of labor, remain unchanged while determining the level of employment. So the level of employment is dependent on national income and national output.

If there is any increase in national income lavel,there would be an increase in employment level and vise versa.

PRINCIPLE OF EFFECTIVE DEMAND

According to keynesian theory of employment, effective demand is a situation where aggregate demand and aggregate supply equals to each other.

ED :- Aggregate demand=Aggregate supply

As we mentioned that keynesian theory of employment is a short run phenomenon therefore aggregate supply would be fixed factors in short run.
Keynes focused only on the aggregate demand to overcome the depression and unemployment.According to him, an increase in the aggregate demand would increase the level of employment and vice-versa.Total employment of a country would be increase with the help of increase in effective demand of the country and vise versa.

Effective demand affects employment level of a country, any mismatch between income and consumption leads to decline in Employment.

Any increase in the national income leads to increase in consumption  , but the increase in consumption rate is relatively low as compared to the increase in national income. Low consumption rate declines the effective demand.

Therefore, the gap between the income and consumption rate should be reduced by increasing the number of investment. After increase in investment, effective demand also increases, which further helps in reducing unemployment and achieving full employment condition.

In short run period, total output or total national income depends on the level of employment the level of employment depend upon effective demand.

ASSUMPTIONS

1. All factors of production are in perfectly elastic supply so long as there is any unemployment.

2. All unemployed factors are homogeneous, perfectly divisible and interchangeable.

3. there is a existence of under employment equilibrium in the economy.

4. There are constant returns to scale so that prices do not rise or fall as output increases.

5. Diminishing marginal productivity.

6. Effective demand and quantity of money change in the same proportion so long as there are any unemployed resources.

7. It assume short run and perfect competition in the economy.

PRINCIPLE OF EFFECTIVE DEMAND

Keynes used two key terms, that are, aggregate demand and aggregate supply, for determining effective demand. Aggregate demand and aggregate supply together determine effective demand, which further helps in estimating the level of employment of an economy at a particular period of time.

Aggregate supply (AS) :- Aggregate supply refers to the total amount of money that all organizations in an economy should receive from the sale of output produced by employing a specific number of workers.

AS = C+S.       C-Consumption, S - Savings

Aggregate demand (AD):- Aggregate demand refers to the total amount which all the producer expect to receive by selling the output produced at a given level of employment.As result, the increase in the employment level would increase the aggregate demand price.

AD= C+I.        C- consumption,.  I-investment

(Must read -the-classical-theory-of-employment )

Determination of Equilibrium Level of Employment:

The aggregate demand (AD) and aggregate supply (AS) curve are used for determining the equilibrium level of employment,

In diagram,AD represents the aggregate demand curve, while AS represents the aggregate supply curve.

Determination of employment level

At x-axis we have taken employment level and at y-axis we have taken receipts (national income)
at AS curve, the frim would employ OA1 number of workers, when they receive OF amount of sales receipts. On the other hand, in case of AD curve, the frim would employ OA1 number of workers with the expectation that they would produce OG amount of sales receipt for them.

Here aggregate demand exceeds aggregate supply.here at OA1 (employment level) national income is more than narional output.For the point of  OI and OA3-here aggregate supply exceeds aggregate demand.there is not an equilibrium situation for both.

On the other hand,at OA2 and OH , aggregate demand and aggregate supply cut each other at E ,here nariaonl income (OH) is equal to national output (OA2).
So E is the point of equilibrium where effective demand justify the level of employment.