In contrast to supply side dogma, modern economies appear to be subject to
strong fluctuations in demand. This at any rate will be our premiss.
Moreover, there do not appear to be, in the modern world, any strong,
market-based forces leading to stability. So there is a need for
stabilization policies.
Investment spending appears to be a major source of demand variation. Yet if
the purpose of investment were simply a corrective, moving the actual
capital/labor ratio to its optimal level, stabilization would hardly be
needed. Such a long-run position would be stationary, or, if the labor force
were growing, the economy would expand uniformly. This is the picture
presented by neo-Classical theory, articulated, for example, by Hayek
(1941).
But both Keynes and the older Classicals, especially Ricardo and Marx, offer a
different view: investment is the accumulation of capital, a process by which
productive power is created, organized and managed. It is driven by the desire
for power and wealth, and there is no definable 'optimum'. Investment expands
productive power, but does not move the economy towards any definite
destination. Given such motivation and the important role of technological
innovation, the urge to invest will sometimes be strong and widespread, but at
other times weak and uncertain. This may help to explain the need for
stabilizing policies, arising from the demand side.
In post-War Mass Production economies (Nell, 1998), constant returns appear to
prevail in the short run; to put it differently, unit costs are broadly
constant1. Workers need only be
semi-skilled and teams can easily be broken up and re-formed; processes can be
operated at varying levels of intensity in response to variations in demand,
and they can easily be shut down and started up. It is likewise easy to
layoff and recall workers.
Models can be developed based on an aggregate utilization
function2, with distinctive
properties3. The Mass Production
economy will be characterized by a straight line rising from the origin. As a
first approximation Consumption can be identified with wages and
salaries4, while Investment can be
taken as exogenous. As employment rises, the wage bill -- and so
Consumption spending -- will rise at a constant rate, namely the normal
wage rate. The wage bill -- assumed equal to Consumption spending --
is represented by a straight line rising to the right from the origin; its
angle is the wage rate. Investment spending will be treated as exogenous in
the short run, so will be marked off on the vertical axis. Aggregate demand
will then be the line C+I, rising to the right from the I point on the
vertical axis; its slope is the wage rate.
Adjustment to Demand Fluctuations in the Mass Production
economy
Fig 1: Adjustment in the Mass Production economy
The origin, here and in later diagrams, is the point at which labor cost
absorbs all output. Employment in such an economy will depend only on
effective demand; there is no marginal productivity adjustment.
5 Output will increase with the amount of
labor employed (capacity utilized); all and only wages will be spent on
consumption, and all profits will be saved as retained earnings. Investment
can be taken as exogenous as a first approximation.
6
Expenditure is given by the C + I line. (This ignores G, government
spending, for the moment, although in the modern world it will be much greater
than in the earlier forms of the capitalist economy.) But the output function
will be a straight line rising from the origin with a slope equal to the
average productivity of labor. Suppose Investment is exceptionally high; then
employment will be increased, and Consumption will also be exceptionally high.
Conversely, if Investment is low, employment will be low, and thus so will
Consumption. Consumption adjusts in the same direction that Investment
moves.7 When investment rises,
consumption, output and employment also increase in a definite
proportion.8
Fig 2: Government stabilization in the Mass Production
economy
The effect of Government can be illustrated with a flat tax on wages and
Government spending on unemployment insurance. Tax revenues rise with N, and
welfare spending falls. Rates are adjusted so the budget balances at full
employment. If Investment spending falls below the level required for full
employment, tax revenues decline and welfare spending rises, providing a
stimulus. If Investment booms, taxes rise and spending falls, and the
resulting surplus acts as a drag on the economy.
In modern economies Investment and Consumption tend to move in the same
direction, so that fluctuations are enhanced, rather than dampened. The
system is volatile, and will be even more so if Investment responds to changes
in output through an accelerator. But the Government budget automatically
moves counter-cyclically.
An unstable labor market
In the labor market in modern economies we find that money wages tend
systematically to be driven in the wrong direction. The labor demand
function -- or employment function -- is derived by plotting the
components of the employment multiplier, namely the real wage, and employment,
against each other. Assuming Profits to be retained and saved, and Wage
income spent, ignoring both household saving and household spending financed
by credit, the curve will show the employment generated (measured on the
horizontal axis) by consumption spending at each level of the real wage (on
the vertical axis.) The intercept on the horizontal axis shows the employment
generated by Investment spending; then the curve rises at a falling rate from
left to right, approaching the line 1/n asymptotically, where n is labor per
unit of output9. (Nell, 1988, 1991;
Rowthorn, 1982; Lavoie, 1992)
This curve can be combined with either
of two hypotheses about labor supply. Households may be supposed to defend a
certain target level of consumption. If the real wage falls the household will
then have to offer more labor. In the extreme case this may take the form of
a rectangular hyperbola. Alternatively there is the more conventional view
that higher wages will call forth greater labor force participation.
Fig 3. Mass Production Labor Market: Lifestyle
Defense
In Figure 3, it is clear that if the real wage is too high, labor
demand will exceed labor supply, and there will be a tendency to bid
money wages up. (If labor is in short supply, so that goods are not
being produced, there will also be pressure on prices and inflation will
result.) If the real wage is too low, labor supply will exceed labor demand,
and the labor market will be slack, putting downward pressure on money wages.
But in the modern economy money wages are likely to be sticky, so may not
drift down. Nevertheless, there will be no tendency for the market to make a
correction. The same clearly holds in Figure 7, with a conventional labor
force participation function10.
Fig 4. Mass Production Labor Market: Rising
Participation
The development of Mass Production (Nell, 1998), then, besides vastly
increasing productivity and raising normal growth rates, has also brought us a
system in which volatility is self-augmenting, in both product and labor
markets.11
The problem is that Mass Production labor markets seem to tend to generate
inflation. To control inflation Governments in the advanced economies have
typically resorted to slowing down the economy, i.e. creating unemployment. In
this case the automatic stabilizer would tend to undermine the effort to
control inflationary pressures. Consequently, such stabilizers have been
neglected or even dismantled.
Constructing an automatic stabilizer that covers
inflation
Automatic stabilization has significant advantages. It is not necessary to
wait on policy makers to reach decisions and act. Policy need not wait on
legislation by Congress, or upon decisions by courts. Stabilization will not
depend on which party is in power. Nor does it rest on the frequently weak and
unreliable effects of interest rates and monetary policy.
'Automatic stabilizers' expand in the slump and contract in the boom, thereby
providing the economy with a tendency to self-regulation. To date these have
been largely transfer payments to the jobless. But the program could be
combined with the 'buffer stock' principle and operate so as to stabilize
wages as well as the level of output.12 This would largely dispense with transfers; it would
become a stabilizing public sector employment program, expanding in hard times
and contracting in good, at a fixed wage. Such a program will be superior to
one based on transfer payments -- it will be shown here that, when other
aspects of the economy are the same, it will produce a larger output, with the
same level of private sector employment. It will also help to stabilize the
money wage.
This is the idea behind the proposals for an Employer of Last Resort program.
A public service sector will be created that will offer a job at a basic
living wage to anyone who able and willing to work.13 These workers will not only do useful and
productive work; they will also keep up their skills and work habits, perhaps
even receiving extra training. This sector will then provide an effective
labor supply to the private sector when the latter expands, and will absorb
excess labor when the private sector contracts. Labor will move from the ELR
to the private sector, first, because the latter offers a higher wage, but
also because it offers opportunities for advancement, not generally available
in the ELR. Full employment -- employment of everyone that wants a job
and is able to work -- will thus be maintained, and the basic wage will
be stabilized, since the ELR acts as a 'buffer stock'. (Mitchell, 1997)
Moreover, the ELR supports and develops 'human capital' -- the skills and
habits of the labor force -- independently of the level and fluctuations
of investment in the private sector. And it provides income for families,
reducing poverty, benefiting children, all of which can be expected to reduce
crime and social disorder.
The working of automatic stabilizers
Fig 5: Employment and Output with Transfer Payments
An automatic stabilizer will change the Mass Production employment adjustment
by raising consumption at every level short of full employment, while reducing
its range of variation. This can be seen in Figure 5, which plots income on
the vertical axis and employment on the horizontal. Private employment runs
from the origin to Nf here (and in subsequent diagrams.) At full
employment, Nf, transfers will be zero; as employment falls,
transfers rise, until at zero employment transfers reach their maximum at the
intercept of the line T. The aggregate household income function will be the
sum of wages plus transfers, and by assumption, this will equal household
consumption, C = T+W. When Investment (and Government spending on goods and
services) are added, the result is aggregate demand, which intersects the
utilization function to determine employment and output.
Now consider an ELR (Figure 6). As above private employment will measured from
the origin running to Nf; ELR employment will be measured from
Nf moving back towards the origin.
Fig. 6: Employment and Output with an ELR
So, a diagram for total output can be constructed in similar way to the above
aggregate household function. Output will depend on ELR employment as well as
on private sector employment. The latter will normally be more productive.
ELR output will be at its maximum when private sector employment is zero;
private sector output will be at its maximum when ELR employment is zero. As
private sector employment increases ELR employment will fall, until all labor
is employed in the private sector. The aggregate output line labeled Y is the
linear combination of these two. Provisionally, ELR output will be taken as
equal to ELR costs, here assumed to be only wage costs.14
As in the case of unemployment insurance, (continuing to ignore both household
saving and household credit) total consumption demand will consist of two
parts. There will be consumer spending out of private wages and this will be
augmented by consumer spending out of ELR wages, in the same way that transfer
payments supported consumption above. ELR wages will lie substantially below
the private sector average -- so that the private sector can always attract
labor from the ELR.15 As private
sector employment rises, ELR employment falls; hence as private consumer
spending rises, ELR-based consumer spending falls. Once again, the total is
the combination of both, again indicated by the line labeled
C = ELR + W. To get total spending Investment and
Government spending must be added to this.
But now Government spending must include ELR spending, in addition to its
normal spending on goods and services. The ELR produces socially useful goods
and services that are paid for by the Government, and provided free to the
community at large. This spending will fall as private sector employment
increases, starting from a maximum when private employment is zero. So total
spending will be private sector consumption and investment, ELR consumption
and Government spending 'purchasing' ELR output. The slope of aggregate
spending depends on whether or not the decline in Government spending as
private employment rises outweighs the rise in household spending as workers
shift from the public to the private sector16. If it does the slope will be negative; if the
differential between public and private wages is large enough, the slope will
be positive. If they just balance it will be flat. Equilibrium occurs at the
intersection of this line with the Y line, as indicated by the dot. Private
employment is N*, ELR employment is Nf - N*. ELR output
is given by the intersection of the vertical line rising from N* with the ELR
output line.
Comparing unemployment insurance with the ELR
Fig 7: Employment and Output: Transfers versus ELR
Now compare the ELR and a transfer payment system as answers to the problem of
unemployment arising from insufficient aggregate demand. In the simplest
case, with no markup on the ELR and ignoring taxes (they can be designed to be
neutral) the answer is simple. This can be seen in Figure 7, which
superimposes Figure 6 on Figure 5, by drawing the ELR solution on the
unemployment insurance diagram. At every point on the employment axis, output
will be the combined output of the private sector and the ELR. But Government
spending will exactly cover the output of the ELR. Therefore private spending
will depend only on Investment and the consumption supported by the combined
private and public sector wage bills. But this will be the same as the
consumption demand in an unemployment insurance system, where the transfer
payments were at the same level as the ELR wage. So if Investment is the same
in the two systems, private employment will be the same. But output will be
greater by the amount of the ELR output, which will be the same as Government
ELR spending.
The expenditure equilibrium of the economy will then be given by the
intersection of the output function and the aggregate spending function, each
including the ELR. The total output function will show the combined output of
the ELR and the private sector; the total expenditure function will show the
combined spending of ELR and private sector workers, plus Investment (and
normal Government spending), plus the Government spending on the ELR. Output
will be higher in the ELR economy than under a system of unemployment
insurance, but employment will be the same. (This conclusion will have to be
modified if the output of the ELR has the effect of increasing the
productivity of the private sector.17 In that event output would be even higher, but
employment would be lower.)
However this is a "stripped down" version of the ELR. The higher
level of employment ensured by the ELR is likely to stimulate private
investment; after all, the ELR creates a new set of active economic agents.
Moreover, in addition to private sector Investment there will have to be ELR
Investment, since the ELR program will have to grow to keep pace with the rest
of the economy. Such additional Investment would then raise employment in the
ELR above that of the corresponding 'transfer payment' system. Moreover, the
ELR will very likely make purchases from the private sector, which will
generate additional private employment. Further, many ELR services, e.g.
child-care, teaching assistance, Legal Aid, might be marketed to local
governments and the private sector. These services would be sold at a markup
over costs, earning profit. This profit would be a withdrawal, to be offset
by ELR investment.
Digression: implications for the currency
Fig. 8: Spending ELR Wages
An old argument against welfare asserts that if sufficiently large-scale, it
'undermines the currency'18. This
has never been a problem in practice even with very large welfare programs.
But there is a logic to the argument, even if it has been abused by
ideologues. Why work for money if you can get it for free? In an ELR everyone
has to work to get money. The implications for incentives can shown, using the
same diagrams, by comparing the two systems at the point of zero private
sector employment.19 (Figure 8)
Assume no investment and that Government spending will be exclusively welfare
payments in the one case, and ELR payments in the other. In the transfer
economy, all economically active agents will be receiving welfare payments; in
the ELR all will be working in public sector jobs.
Initially we suppose that everyone works for the ELR, producing the maximum
public sector output, which the Government pays for, providing ELR wages.
These, however, are then spent on household consumption. But consumer goods
are produced by the private sector, which must bid away labor from the ELR.
The initial ELR spending purchases an output from the private sector, as
indicated by the arrow in Figure 8, which, in turn, requires employment.
Anticipating the spending of ELR wages, consumer sector firms will draw down
their lines of credit to offer employment. These new private sector workers,
in turn, will spend their wages on consumption goods, leading to further
private sector hiring, and further spending. There will be fewer ELR workers,
and more private sector workers, but total spending will go up, since private
sector wages are higher. Eventually this converges on N* employed in the
private sector, and Nf-N* in the public. The spending of ELR wages
on consumer goods generates employment and provides the profit for consumer
goods firms. Total output equals ELR output plus private sector
output.
Now consider this same process in the transfer payment economy. Ex
hypothesi, everyone is receiving payment for doing nothing in fiat
currency issued by the Government. Recipients of transfer payments try to
spend them to purchase consumer goods. But why would anyone give up useful
goods for paper or accounting units that everyone is already receiving for
nothing? Why open the shop to sell goods for the same paper or accounting
units that can be had by staying home and doing nothing? Why go to work in
the private sector? True the private sector wage is, say, twice the level of
transfer payments -- but that means working for half a week in order to get the
same payment that one could have by staying home and taking it easy!
In the ELR economy the fiat currency has value because everyone has to work
for ELR wages, to earn the currency in which taxes are paid. For labor to
shift to the private sector is reasonable because the private sector pays
twice as much for the same hours. But such a shift does not make sense in the
transfer economy. This is not an argument against transfer payments or welfare
systems; but it is a reminder that a currency rests on contrived scarcity.
Transfer payments cannot become universal without undermining the
incentives on which a fiat currency rests.
Money wages, the ELR and the labor market
Fig 9: Stability of the Private Sector Labor Market in an ELR
Economy
Money wages will be stabilized very simply (Figure 9). There is no longer any
interaction between demand and supply of labor that could put pressure on
money wages. The average wage level of the private economy will simply be a
markup over the ELR wage. Labor will be available to the private sector at
that wage; so the 'supply function' will be a horizontal line starting from
the vertical axis at point indicating the markup over the ELR wage. That is,
at the wage w/p* any workers needed will be willing to move on short notice
from the ELR to the private sector. (We assume that there is no point at
which additional inducements will be needed to attract further workers.) The
horizontal line at this wage will intersect the labor demand function.
Suppose the wage offered by the private sector is too low, resulting in N <
N*. Employment in the ELR will rise and ELR output will increase. As the
additional ELR wages are spent, demand for private sector goods increases, and
the intercept on the horizontal axis will shift out, increasing the demand for
workers at all levels of the wage. However, at too low a wage the private
sector will find that it has trouble attracting adequate labor; it will have
to raise the wage it offers. As it does it will hire more labor and N will
rise towards N*.
Alternatively, suppose it pays too high a wage. Labor will flow out of the
ELR, swamping the private sector, which will hire N > N*. The ELR wage
bill will decline, and so the intercept will shift in, reducing the private
sector demand for workers at all wage levels. At the same time the private
sector will be facing an oversupply of labor; it will find that it can easily
cut back and still have enough workers. As it does so, N will fall towards
N*.
Clearly this intersection will be stable at any point, since the ELR treats
the labor it employs as a 'buffer stock'. That is, it absorbs labor from the
private sector as the ELR wage while supplying it to the private sector at a
fixed markup over that wage. There is no longer any 'household labor supply'
to the private sector, so there cannot be a real wage that is 'too high' or
'too low', i.e. such that it would set up destabilizing market pressures on
the nominal wage.
Fig 10. A Change in the Level of Full Employment
Now consider what happens when both the ELR wage and the private sector wage
are changed together20. This is a
change in the wage structure of the whole system and it has a significant
impact on the economy . The effects of such a change can be decomposed into
two parts. First, there will be a change in household spending, and
consequently, in employment and output. Suppose the wage increases; then
spending and employment will be higher. But the new level of the wage now
means that the labor force will be smaller, if households typically defend a
target standard of living, or larger if higher wages attract new participants
in the labor force. Taking the latter as an example, we can draw in the
equilibrium level of employment and output at the new wage, exactly as in
Figure 6. Now however, in Figure 10, we mark off the new level of full
employment. The additional workers will now be employed in the ELR, so the
household consumption function will have to be redrawn to reflect this. Their
employment will now generate additional ELR output, so the output function
will likewise have to be redrawn, as will the Government ELR spending
function.
The additional ELR employment, matched by additional Government ELR spending,
must lead to an increase in household consumption spending by ELR-supported
households. This increases private sector employment, leading to further
respending of wages. So, as Figure 10 clearly shows, both output and private
sector employment will increase, when the level of full employment rises as a
result of an increase in the real wage. Of course, if the level of full
employment fell when the wage rose, as it would if households
uniformly aimed at target incomes, the opposite conclusions would follow. The
impact of a change in the wage structure depends on the nature and
shape of the labor supply function.
Conclusions
Technological developments in the modern economy replaced the stabilizing
price mechanism with a more volatile adjustment process, based on the
multiplier (and accelerator). But automatic stabilizers embedded in
government policy can be designed to reduce these fluctuations and restore a
measure of stability. These have important advantages over discretionary
policies, stemming from the fact that policy responses do not have to await
successful political action.
But to date automatic stabilizers have largely been built around transfer
payments, which do not put unemployed factors to use. Nor can a transfer
payment system help to control inflation. By contrast the ELR puts the
unemployed to work for a basic wage, and it stabilizes that wage.
In terms of short run comparisons, the ELR appears to be superior to a
transfer payment system in two ways. First it generates additional output. So
an economy operating an ELR, but otherwise identical to an economy with a
transfer payment system, will at least have a higher level of output but the
same private sector employment. Since the ELR will also require regular
investments, and may well market part of its output to the private sector,
this conclusion must be considered minimal -- the ELR economy might well be
substantially better in both employment and output. Since the higher level of
activity is likely to stimulate productivity growth it might also have higher
productivity.
Secondly, it will help control inflation. In contrast to the Craft Economy,
the money wage in a modern economy is arguably unstable, generating
inflationary pressures. The transfer payment system does not affect this one
way or the other. But the ELR exerts a stabilizing force on money
wages.
Finally, these comparisons obviously concern the short-term aspects of the
macro economy. We have taken Investment as exogenous. But it could be argued
in addition that an ELR could be designed to provide workers for venture
capital projects, promoting innovation, that it could provide services for
cleaning up the environment, and that provision of worker training and public
goods would tend to raise productivity. It will bring large sections of the
disadvantaged population into the economy on a permanent basis, thereby
creating large new markets for consumer durables. In the long run, then, an
ELR system could be designed to grow faster than an otherwise similar economy
stabilized by transfer payments. But that is another
subject. 
Appendix
To keep the diagrams simple, taxes and savings were excluded. It is easy to
show that the results do not depend on this assumption, either for the case of
unemployment insurance or for the ELR. First we take Investment as fixed
exogenously, since the analysis is for short-period effective demand. Then we
write the equation for Consumption in a system with unemployment insurance,
followed by the equation for Consumption in an ELR economy. Output in an
economy with unemployment insurance will simply be the private sector's
output; but in an ELR economy, ELR output must be added to that of the private
sector to get total output. Government spending on goods and services will
be lumped together with Investment; but ELR government spending will equal ELR
output.
I = I* Investment given
C = (1-h)[wpNp + wu(Nf - Np)] Consumption in unemployment
insurance case
C = (1-h)[wpNp + we(Nf&nb
sp;- Np)] Consumption in the ELR case
Here h is the tax rate on wages (alternatively, it could be interpreted as
savings), wp the private sector wage, wu unemployment
benefit, we the ELR wage, Np private sector employment,
Nf full employment, z output per worker private sector and u output
per worker employed by the ELR.
Y = zNp Output in the private sector;
unemployment insurance case
Y = zNp + u(Nf - Np
) Output in the ELR case
Ge = we(Nf - Np
) Government spending in the ELR case
Expenditure in the the two cases will differ by the amount of
Government spending
E = I + C Expenditure in the unemployment
insurance case
E = I + C + Ge Expenditure
in the ELR case
In both cases equilibrium requires that output equal expenditure
Y = E
Assuming that there is the same private economy in both scenarios, so that h,
I, wp, Nf, and z are the same and that
wu = we = u, then, in
equilibrium:,
Np = [I + (1 - h)wuNf
] / [z - (1 - h)(wp -
wu)] The unemployment insurance case
Np = [I + (1 - h)weN
f] / [z - (1 - h)(wp
- we)] The ELR case
Private employment will be the same in both scenarios. So we find from the
utilization functions that output in the ELR case will be greater than
output with unemployment insurance as long as:
zNp + u(Nf - Np)
> zNp, or
Nf > Np
Output in the ELR case will be greater as long as the economy is at less than
full employment.
Y = z[I + (1-h)wuNF] / [z
- (1 - h)(wp - wu)]
The unemployment insurance case
Y = uNf + (z - u)[I +
(1 - h)weNf] / [z
- (1 - h)(wp - we)]
The ELR case.
ENDNOTES
**Thanks to Warren Mosler, Mat Forstater and the Center for Full Employment
and Price Stability for encouragement and support, financial and otherwise.
Leanne Ussher did most of the diagrams; she, Ray Majewski, Per Berglund and
Goncalo Fonseca offered helpful comments and criticisms, as did a referee of
this journal. Thanks also to Neri Salvadori and Davide Gualerzi of the
University of Pisa, and Sandro Vercelli of the University of Siena. Any
errors or deficiencies remaining are mine.
The widespread existence of constant unit
costs came to light beginning with the debate on prices and pricing in the
1930s and 40s, cf. Hall and Hitch, 1938, Andrews, 1949. . The suggestion here
is that constant costs were the result of technological developments in
manufacturing processes (Hunter, 1985). The evidence for constant costs is
summarized and discussed in Lavoie, 1995, Ch. 3.
To move from individual firms to the
aggregate it is not necessary to hold the composition of output constant, so
long as the movements are small. The aggregate function, of course,
oversimplifies. When proportions of capital to consumer goods change in Mass
Production the degree of utilization changes, but unit costs and prices are
not affected.
The Penn World Tables provide data making it
possible to plot output per head against capital per head with a large number
of observations. When this is done for the advanced OECD economies, the
scatter diagram shows no evidence of curvature. The same plot for the
backward economies exhibits pronounced curvature, for middle range economies
moderate curvature. Of course this can be considered no more than
suggestive.
Wages and salaries in the aggregate are
closely correlated with Consumption spending, but do not fully explain it.
Some obvious adjustments are easily made. Consumer spending also depends on
the terms and availability of consumer credit. In addition it reflects
transfer payments. Wealth and profitability are significant variables. But
for the present purposes, which are purely illustrative, a simple 'absolute
income' theory will suffice.
That is, employment is not determined
in the labor market. It follows directly from the demand for output, given the
output-employment function -- as in Kalecki. Hicks, following Keynes,
initially modeled effective demand by setting up the IS-LM system together
with a labor market and a conventional production function. Later he came to
feel that this was a mistake (Hicks, 1977, 1989).
On these assumptions Investment
determines -- and equals -- realized Profits. When households save a
certain percentage out of wages and salaries the Consumption line will swing
below the Wages line -- Profits will be reduced. When wealth-owning
households (or businesses subsidizing top managers) add to their consumption
spending in proportion to the level of activity, this swings the
C + I line upwards, increasing Profits.
The output multiplier in this simple example
will be 1 / (1 - wn), where w is the real wage and n is
labor per unit of output.
And money? Let household saving increase
with the rate of interest (as consumer durable spending declines), while
business investment declines as the rate of interest rises. (Neither
influence is likely to be very great.) We can then construct a
downward-sloping function (an analogue to the traditional IS) relating the
rate of interest, i, to employment, N. It will intersect a horizontal line
representing the level of the rate of interest as pegged by the Central Bank;
this will determine the level of employment.
Why do unit wage increases at higher levels
of the wage generate larger increases in overall employment? Because at
higher levels of the wage, the respending effects will be greater. A higher
wage here functions like a higher marginal propensity to consume in
conventional theory.
If the intercept of the labor supply line
were to the left of the intercept of the labor demand, there could be two
intersections, one stable, the other unstable.
By contrast, it has been argued that the
Price Mechanism provided pre-World War I economies with a built-in system of
self-regulation -- although perhaps it didn't always work very well. This
suggests a new way of looking at the debate over the amplitude of the business
cycle, (Nell and Phillips, 1995, 1998.) In spite of a much larger government
sector, managed with an explicit intent to stabilize the system, the post-War
economy has not been significantly less unstable than the economies prior to
World War I. This is not a failure of Keynesian policies; it is rather that
Keynesian policies have been needed to dampen down the volatility inherent in
the new patterns of adjustment
Such a stabilization program would require
'functional finance', but financing questions are not the issue here. For how
to pay for an ELR, cf Nell and Majewski, forthcoming; Mosler, 1996; Wray,
1998.
Jobs doing what? Many socially useful
programs can be imagined; suggestions have included environmental cleanup,
community service, education and school assistance including day care and home
day care, home nursing and elder care, simple construction and home repair,
and many other projects. Organizing the work to be effective will require
managerial skill, particularly given that the workers may be untrained and
undereducated, and that the better ones are likely to be bid away by the
private sector. A good part of the effort will go into training, both formal
and informal. Problems include possible competition with the private sector
and 'substitution' of ELR workers in projects which local governments ought to
be doing on their own budgets. See Wray, 2000; Forstater, 1998; and Nell and
Majewski, forthcoming.
Changing this assumption makes the diagrams
a little more complicated.
This does not necessarily imply that they
are deliberately set at a low level. If they are set at a high level, then
private sector wages will be driven up until the private sector is able to
attract the labor it needs. The ELR is a market system; a basic wage is
set, and the rest of the economy has to adapt to it. Since this wage is
stabilized it will act both as a floor to money wages, and as a drag on rising
wages.
Assuming all ELR output is 'purchased' by
the Government, and ignoring any other Government spending. . Then
E = I+C+G, where
C = wpNp + we(Nf
-Np) and
G = we(Nf - Np). Under
these assumptions dE/dNp = wp -
2we. If wp is less than twice we then the
aggregate spending line will slope down; otherwise it will rise. If some ELR
output is sold commercially to the private sector, as might be plausible, or
if there are other elements of Government spending that depend on the level of
employment, the equation will have to be modified.
Munnel (1990), Aschauer (1990) and others
have presented evidence that Government capital spending is strongly
correlated with increases in private sector productivity. ELR spending , if
properly designed, might well have the same effect.
A fiat currency is issued as a way of
transferring resources to the State; it is 'tax-driven', (Wray, 1998). The
treatment of taxes is presented in the Appendix.
Thanks to Warren Mosler for discussions
regarding this section.
The effect of changes in the real wage on
Investment are not considered here. A rise in real wages increases demand; it
may even lead to a virtuous cycle of self-improvement in some set of
households (Nell, 2001; Nell and Argyrous, 2001) leading to a regular
growth of demand. This would surely stimulate Investment. On the other
hand, as Marglin and Bhaduri, 1990, and Taylor, 1991, have emphasized, a rise
in wages reduces profits. Business at some times might be more responsive to
changes in demand, at others to changes in profits. The evidence is not
strong for this, however, and the impact of wage changes on investment will
not be considered here.
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