Effective Demand and Employment Determination

8/2/2019 Effective Demand and Employment Determination

1/24

Aggregate Demand and Supply:

Determination and Equilibrium

of Employment


2/24

It plays important role in the determination of

employment.

Aggregate Demand at any level of

employment is the amount of total money or

price which all the entrepreneurs expect toreceive from the sale of output produced by a

given number of workers employed.

Aggregate Demand


3/24

Aggregate Demand

Based on factors:

AD = ( f) C+I+G+(N-X)

However, in reference to Employment ADbased on :

AD = ( f) C+I

Consumption Demand Investment Demand


4/24

1. Consumption Demand :

C = f (Yd)

Disposable income (Yd) Propensity to Consume


5/24

Objective Factors -

Price level

Taxation policy of the Government

Interest rate

Propensity to consume based on two

Factors:


6/24

Subjective FactorsSubj

ective Factors

Willingness to save,Willingness to save, Desire to Imitate othersDesire to Imitate others Standard of LivingStandard of Living


7/24

Investment Demand: I = f ( r)

based on two aspects:

Rate of interest Marginal efficiency of capital;

(expected rate of profit by the entrepr-

eneurs) which is based on their estim-ates of consumer demand for goods

and taxation policy of Govt.


8/24

Aggregate Demand Curve Aggregate demand curveADstarts from the point oforigin which implies that atzero level of employmentaggregate demand is alsoNil

When ON is employment

then aggregate demand isOR and so on.

There is rise in aggregatedemand because of rise inemployment. But it is atdiminishing rate, resultantlyslope of demand curve startdeclining as it movesupward to right

N N

1

N3

Aggregate

Demand

Employment

R

R1

R

2

AD

0


9/24

Aggregate Supply

AS = f (N) It is minimum price paid by all the

entrepreneurs in the economy must

expect to receive from the sale of outputproduced by the given number of labour

employed. Based on:

Physical and Technical Conditions

of production .


10/24

Slope of the Aggregate supply curve isdepends on the Physical and Technical

Conditions :

1. If the technical conditions are

such :

Marginal cost of production does not

increase with the increase in production.(Increasing returns to scale) Slope ofSupply curve will be straight line.


11/24

2. If the technical conditions are such:

Marginal cost of production will rise withthe rise in production. (Diminishing returns

to scale) Slope of Supply curve will

continuously rise rightwards.


12/24

Aggregate Supply

(Aggregate Supply/Proceeds)(Aggregate Supply/Proceeds)

Employment

R2

R1

R

N N1 N2

ASAggregate supply curve

AS originates from point

of origin because at zerolevel of employment

output is also zero,

f


13/24

In the beginning AS supply curve rise slowlyLater on rise rapidly, showing number of men

employed increased.

Cost of production rises as more people areemployed. Further due to the operations of lawof diminishing returns total cost of production

rise at an increasing rate.

Once all the men willing to get employmentare employed, then economy reached at Full

Employment Level.


14/24

Under the condition of full employmentproduction can not be expanded because

of exploitation of all resources but cost will

rise.

Resultantly, aggregate supply curve

assumes as a vertical shape at full emp-loyment.


15/24

SAYS LAW SUPPLY CREATES

ITS ON DEMAND

No Deficiency of Demand and fullemployment of labour is guaranteed.

No part of income is saved No possibility of Involuntary unemp-

loyment but possibility of voluntary

unemployment because of wagerigidity


16/24

UNEMPLOYMENT

Frictional : unemployment which resultsfrom people moving between jobs, and

new workers entering the labour force.

Seasonal : is defined as, unemployment

which is caused by economic slowdowns

related to seasonal variations. Examplesof this would be agricultural workers,

whose activities slow down in the winter


17/24

Structural Unemployment : is caused

by structural changes in demand patterns.

The introduction of labour-saving

machines in various industries has created

a special kind of structural unemployment

called technological unemployment.


18/24

Effective Demand

Effective demand is that point where

aggregate demand and aggregate

supply intersects each other.

It is based on two determinants:

Aggregate Demand

Aggregate supply


19/24

Determination of the Equilibrium level

of Employment by Effective Demand

These aggregate demand

and supply curves determine

the equilibrium Level

of employment inthe Economy.

Given Competition in the

Economy because of

opportunities to earn profit

the entrepreneur increase

the employment.

EAD

M

0

T

H

C

N1 N

2

NF

Receipts

EMPLOYMENT

AS


20/24

The opportunities to earn profit exist if aggregate

demand is greater than the aggregate supply.

Hence, as long as aggregate demand exceeds

aggregate supply the entrepreneur will go on employing

extra men.

When at a level of employment aggregate demandbecomes equal to aggregate supply, after this it is not

profitable to employ men.

Since beyond this point, aggregate supply will exceed

aggregate demand , the cost of production incurred onemploying a certain number of people.

Therefore, when aggregate demand falls short of

aggregate supply employment of labour will fall.


21/24

Employments of labour will be in equilibrium at the levelat which:

AD =ASAt point E AD and AS intersect each other which is

known as the point of effective demand on ON2 level

of employment.

At less than ON2 level of employment, aggregatedemand curve lies above the aggregate supply curve

AS showing that it is profitable to expand the amount ofemployment.

However, beyond ON2 amount of employment , the

AD lies below aggregate supply curve AS, which showsthat it is no more profitable to employ extra men beyond

ON2.level.


22/24

Under-Employment Equilibrium:

The problem of Demand Deficiency

As per Keynes,

economy can be in

equilibrium at less than

full employment

At the equilibrium

of employment

level ON2, the N2NF

remain unemployed. 0

R

AS

AD

AD

N2

NF

RECEIPTS

E


23/24

Thus equilibrium at E represents an under-

employment equilibrium.

N2NF persons are involuntarily unemployed. This

is due to deficiency of Aggregate demand.

This unemployment will be removed and full

employment equilibrium through increase in

investment demand or consumption can be

established, if :Demand curve shifts upward so that it intersects the

aggregate supply at point R and equilibrium in

employment is established at full-employment level

ONF.


24/24

As per Keynes,

Aggregate demand and aggregate supply will beequal at full-employment only if investment

demand is sufficient to cover the gap between

the aggregate supply and aggregate demand.

When investment in capitalist countries declines

due to the fall in marginal efficiency of capital

(expected profit) aggregate demand falls so thatequilibrium is established at less than full

employment level. As a result, output and

income of the community also fall.

Effective Demand and Employment Determination

Documents

Transcript of Effective Demand and Employment Determination