THEORYOFEMPLOYMENT

changesinmoney-wagesandchangesinrealwages。Inthecaseofachangepeculiartoaparticularindustryonewouldexpectthechangeinrealwagestobeinthesamedirectionasthechangeinmoney-wages。Butinthecaseofchangesinthegenerallevelofwages，itwillbefound，Ithink，thatthechangeinrealwagesassociatedwithachangeinmoney-wages，sofarfrombeingusuallyinthesamedirection，isalmostalwaysintheoppositedirection。Whenmoney-wagesarerising，thatistosay，itwillbefoundthatrealwagesarefalling；andwhenmoney-wagesarefalling，realwagesarerising。Thisisbecause，intheshortperiod，fallingmoney-wagesandrisingrealwagesareeach，forindependentreasons，likelytoaccompanydecreasingemployment；labourbeingreadiertoacceptwage-cutswhenemploymentisfallingoff，yetrealwagesinevitablyrisinginthesamecircumstancesonaccountoftheincreasingmarginalreturntoagivencapitalequipmentwhenoutputisdiminished。

If，indeed，itweretruethattheexistingrealwageisaminimumbelowwhichmorelabourthanisnowemployedwillnotbeforthcominginanycircumstances，involuntaryunemployment，apartfromfrictionalunemployment，wouldbenon-existent。Buttosupposethatthisisinvariablythecasewouldbeabsurd。Formorelabourthanisatpresentemployedisusuallyavailableattheexistingmoney-wage，eventhoughthepriceofwage-goodsisrisingand，consequently，therealwagefalling。Ifthisistrue，thewage-goodsequivalentoftheexistingmoney-wageisnotanaccurateindicationofthemarginaldisutilityoflabour，andthesecondpostulatedoesnotholdgood。

Butthereisamorefundamentalobjection。Thesecondpostulateflowsfromtheideathattherealwagesoflabourdependonthewagebargainswhichlabourmakeswiththeentrepreneurs。Itisadmitted，ofcourse，thatthebargainsareactuallymadeintermsofmoney，andeventhattherealwagesacceptabletolabourare[Page11]POSTULATES

OFTHECLASSICALECONOMICS

notaltogetherindependentofwhatthecorrespondingmoney-wagehappenstobe。Neverthelessitisthemoney-wagethusarrivedatwhichisheldtodeterminetherealwage。Thustheclassicaltheoryassumesthatitisalwaysopentolabourtoreduceitsrealwagebyacceptingareductioninitsmoney-wage。Thepostulatethatthereisatendencyfortherealwagetocometoequalitywiththemarginaldisutilityoflabourclearlypresumesthatlabouritselfisinapositiontodecidetherealwageforwhichitworks，thoughnotthequantityofemploymentforthcomingatthiswage。

Thetraditionaltheorymaintains，inshort，thatthewagebargainsbetweentheentrepreneursandtheworkersdeterminetherealwage；

sothat，assumingfreecompetitionamongstemployersandnorestrictivecombinationamongstworkers，thelattercan，iftheywish，bringtheirrealwagesintoconformitywiththemarginaldisutilityoftheamountofemploymentofferedbytheemployersatthatwage。Ifthisisnottrue，thenthereisnolongeranyreasontoexpectatendencytowardsequalitybetweentherealwageandthemarginaldisutilityoflabour。

Theclassicalconclusionsareintended，itmustberemembered，toapplytothewholebodyoflabouranddonotmeanmerelythatasingleindividualcangetemploymentbyacceptingacutinmoney-wageswhichhisfellowsrefuse。Theyaresupposedtobeequallyapplicabletoaclosedsystemastoanopensystem，andarenotdependentonthecharacteristicsofanopensystemorontheeffectsofareductionofmoney-wagesinasinglecountryonitsforeigntrade，whichlie，ofcourse，entirelyoutsidethefieldofthisdiscussion。Noraretheybasedonindirecteffectsduetoalowerwages-billintermsofmoneyhavingcertainreactionsonthebankingsystemandthestateofcredit，effectswhichweshallexamineindetailinchapter19。Theyarebasedonthebeliefthatinaclosedsystemareduction[Page12]THEGENERAL

THEORYOFEMPLOYMENT

inthegenerallevelofmoney-wageswillbeaccompanied，atanyrateintheshortperiodandsubjectonlytominorqualifications，bysome，thoughnotalwaysaproportionate，reductioninrealwages。

Nowtheassumptionthatthegenerallevelofrealwagesdependsonthemoney-wagebargainsbetweentheemployersandtheworkersisnotobviouslytrue。Indeeditisstrangethatsolittleattemptshouldhavebeenmadetoproveortorefuteit。Foritisfarfrombeingconsistentwiththegeneraltenoroftheclassicaltheory，whichhastaughtustobelievethatpricesaregovernedbymarginalprimecostintermsofmoneyandthatmoney-wageslargelygovernmarginalprimecost。Thusifmoney-wageschange，onewouldhaveexpectedtheclassicalschooltoarguethatpriceswouldchangeinalmostthesameproportion，leavingtherealwageandthelevelofunemploymentpracticallythesameasbefore，anysmallgainorlosstolabourbeingattheexpenseorprofitofotherelementsofmarginalcostwhichhavebeenleftunaltered。[23]Theyseem，however，tohavebeendivertedfromthislineofthought，partlybythesettledconvictionthatlabourisinapositiontodetermineitsownrealwageandpartly，perhaps，bypreoccupationwiththeideathatpricesdependonthequantityofmoney。Andthebeliefinthepropositionthatlabourisalwaysinapositiontodetermineitsownrealwage，onceadopted，hasbeenina~ntainedbyitsbeingconfusedwiththepropositionthatlabourisalwaysinapositiontodeterminewhatrealwageshallcorrespondtofullemployment，i。e。themaximumquantityofemploymentwhichiscompatiblewithagivenrealwage。

Tosumup:therearetwoobjectionstothesecondpostulateoftheclassicaltheory。Thefirstrelatestotheactualbehaviouroflabour。Afallinrealwagesdue[Page13]POSTULATES

OFTHECLASSICALECONOMICS

toariseinprices，withmoney-wagesunaltered，doesnot，asarule，causethesupplyofavailablelabouronofferatthecurrentwagetofallbelowtheamountactuallyemployedpriortotheriseofprices。Tosthatitdoesistosupposethatallthosewhoarenowunemployedthoughwillingtoworkatthecurrentwagewillwithdrawtheofferoftheirlabourintheeventofevenasmallriseinthecostofliving。YetthisstrangesuppositionapparentlyunderliesProfessorPigou'sTheoryofUnemployment，[24]anditiswhatallmembersoftheorthodoxschoolaretacitlyassuming。

Buttheother，morefundamental，objection，whichweshalldevelopintheensuingchapters，flowsfromourdisputingtheassumptionthatthegenerallevelofrealwagesisdirectlydeterminedbythecharacterofthewagebargain。Inassumingthatthewagebargaindeterminestherealwagetheclassicalschoolhavesliptinanillicitassumption。Fortheremaybenomethodavailabletolabourasawholewherebyitcanbringthewage-goodsequivalentofthegenerallevelofmoneywagesintoconformitywiththemarginaldisutilityofthecurrentvolumeofemployment。Theremayexistnoexpedientbywhichlabourasawholecanreduceitsrealwagetoagivenfigurebymakingrevisedmoneybargainswiththeentrepreneurs。

Thiswillbeourcontention。Weshallendeavourtoshowthatprimarilyitiscertainotherforceswhichdeterminethegenerallevelofrealwages。

Theattempttoelucidatethisproblemwillbeoneofourmainthemes。Weshallarguethattherehasbeenafundamentalmisunderstandingofhowinthisrespecttheeconomyinwhichweliveactuallyworks。

III

Thoughthestruggleovermoney-wagesbetweenindividualsandgroupsisoftenbelievedtodetermine[Page14]THEGENERAL

THEORYOFEMPLOYMENT

thegenerallevelofreal-wages，itis，infact，concernedwithadifferentobject。Sincethereisimperfectmobilityoflabour，andwagesdonottendtoanexactequalityofnetadvantageindifferentoccupations，anyindividualorgroupofindividuals，whoconsenttoareductionofmoney-wagesrelativelytoothers，willsufferarelativereductioninrealwages，whichisasufficientjustificationforthemtoresistit。Ontheotherhanditwouldbeimpracticabletoresisteveryreductionofrealwages，duetoachangeinthepurchasing-powerofmoneywhichaffectsallworkersalike；andinfactreductionsofrealwagesarisinginthiswayarenot，asarule，resistedunlesstheyproceedtoanextremedegree。Moreover，aresistancetoreductionsinmoney-wagesapplyingtoparticularindustriesdoesnotraisethesameinsuperablebartoanincreaseinaggregateemploymentwhichwouldresultfromasimilarresistancetoeveryreductioninrealwages。

Inotherwords，thestruggleaboutmoney-wagesprimarilyaffectsthedistributionoftheaggregaterealwagebetweendifferentlabour-groups，andnotitsaverageamountperunitofemployment，whichdepends，asweshallsee，onadifferentsetofforces。Theeffectofcombinationonthepartofagroupofworkersistoprotecttheirrelativerealwage。Thegenerallevelofrealwagesdependsontheotherforcesoftheeconomicsystem。

Thusitisfortunatethattheworkers，thoughunconsciously，areinstinctivelymorereasonableeconomiststhantheclassicalschool，inasmuchastheyresistreductionsofmoney-wages，whichareseldomorneverofanall-roundcharacter，eventhoughtheexistingrealequivalentofthesewagesexceedsthemarginaldisutilityoftheexistingemployment；whereastheydonotresistreductionsofrealwages，whichareassociatedwithincreasesinaggregateemploymentandleaverelativemoney-wagesunchanged，unlessthereductionproceedssofarastothreatenareductionofthereal[Page15]POSTULATES

OFTHECLASSICALECONOMICS

wagebelowthemarginaldisutilityoftheexistingvolumeofemployment。

Everytradeunionwillputupsomeresistancetoacutinmoney-wages，howeversmall。Butsincenotradeunionwoulddreamofstrikingoneveryoccasionofariseinthecostofliving，theydonotraisetheobstacletoanyincreaseinaggregateemploymentwhichisattributedtothembytheclassicalschool。

IV

Wemustnowdefinethethirdcategoryofunemployment，namely'involuntary'

unemploymentinthestrictsense，thepossibilityofwhichtheclassicaltheorydoesnotadmit。

Clearlywedonotmeanby'involuntary'unemploymentthemereexistenceofanunexhaustedcapacitytowork。Aneight-hourdaydoesnotconstituteunemploymentbecauseitisnotbeyondhumancapacitytoworktenhours。

Norshouldweregardas'involuntary'unemploymentthewithdrawaloftheirlabourbyabodyofworkersbecausetheydonotchoosetoworkforlessthanacertainrealreward。Furthermore，itwillbeconvenienttoexclude'frictional'unemploymentfromourdefinitionof'involuntary'unemployment。

Mydefinitionis，therefore，asfollows:MenareinvoluntarilyunemployedIf，intheeventofasmallriseinthepriceofwage-goodsrelativelytothemoney-wage，boththeaggregatesupplyoflabourwillingtoworkforthecurrentmoney-wageandtheaggregatedemandforitatthatwagewouldbegreaterthantheexistingvolumeofemployment。Analternativedefinition，whichamounts，however，tothesamething，willbegiveninthenextchapter(p。26below)。

Itfollowsfromthisdefinitionthattheequalityoftherealwagetothemarginaldisutilityofemploymentpresupposedbythesecondpostulate，realisticallyinterpreted，correspondstotheabsenceof'involuntary'

unemployment。Thisstateofaffairsweshalldescribe[Page16]THEGENERAL

THEORYOFEMPLOYMENT

as'full'employment，both'frictional'and'voluntary'unemploymentbeingconsistentwith'full'employmentthusdefined。Thisfitsin，weshallfind，withothercharacteristicsoftheclassicaltheory，whichisbestregardedasatheoryofdistributioninconditionsoffullemployment。

Solongastheclassicalpostulatesholdgood，unemployment，whichisintheabovesenseinvoluntary，cannotoccur。Apparentunemploymentmust，therefore，betheresulteitheroftemporarylossofworkofthe'betweenjobs'typeorofintermittentdemandforhighlyspecialisedresourcesoroftheeffectofatradeunion'closedshop'ontheemploymentoffreelabour。Thuswritersintheclassicaltradition，overlookingthespecialassumptionunderlyingtheirtheory，havebeendriveninevitablytotheconclusion，perfectlylogicalontheirassumption，thatapparentunemployment(apartfromtheadmittedexceptions)mustbedueatbottomtoarefusalbytheunemployedfactorstoacceptarewardwhichcorrespondstotheirmarginalproductivity。Aclassicaleconomistmaysympathisewithlabourinrefusingtoacceptacutinitsmoney-wage，andhewilladmitthatitmaynotbewisetomakeittomeetconditionswhicharetemporary；butscientificintegrityforceshimtodeclarethatthisrefusalis，nevertheless，atthebottomofthetrouble。

Obviously，however，iftheclassicaltheoryisonlyapplicabletothecaseoffullemployment，itisfallacioustoapplyittotheproblemsofinvoluntaryunemployment&frac34；iftherebesuchathing(andwhowilldenyit？)。TheclassicaltheoristsresembleEuclideangeometersinanon-Euclideanworldwho，discoveringthatinexperiencestraightlinesapparentlyparalleloftenmeet，rebukethelinesfornotkeepingstraight&frac34；astheonlyremedyfortheunfortunatecollisionswhichareoccurring。Yet，intruth，thereisnoremedyexcepttothrowovertheaxiomofparallelsandtoworkoutanon-Euclideangeometry。Somethingsimilarisrequiredto-dayineconomics。

Weneedtothrowover[Page17]POSTULATES

OFTHECLASSICALECONOMICS

thesecondpostulateoftheclassicaldoctrineandtoworkoutthebehaviourofasysteminwhichinvoluntaryunemploymentinthestrictsenseispossible。

V

Inemphasisingourpointofdeparturefromtheclassicalsystem，wemustnotoverlookanimportantpointofagreement。Forweshallmaintainthefirstpostulateasheretofore，subjectonlytothesamequalificationsasintheclassicaltheory；andwemustpause，foramoment，toconsiderwhatthisinvolves。

Itmeansthat，withagivenorganisation，equipmentandtechnique，realwagesandthevolumeofoutput(andhenceofemployment)areuniquelycorrelated，sothat，ingeneral，anincreaseinemploymentcanonlyoccurtotheaccompanimentofadeclineintherateofrealwages。ThusIamnotdisputingthisvitalfactwhichtheclassicaleconomistshave(rightly)assertedasindefeasible。

Inagivenstateoforganisation，equipmentandtechnique，therealwageearnedbyaunitoflabourhasaunique(inverse)correlationwiththevolumeofemployment。Thusifemploymentincreases，then，intheshortperiod，therewardperunitoflabourintermsofwage-goodsmust，ingeneral，declineandprofitsincrease。[25]Thisissimplytheobverseofthefamiliarpropositionthatindustryisnormallyworkingsubjecttodecreasingreturnsintheshortperiodduringwhichequipmentetc。isassumedtobeconstant；sothatthemarginalproductinthewage-goodindustries(whichgovernsrealwages)neces-

[Page18]THEGENERAL

THEORYOFEMPLOYMENT

sarilydiminishesasemploymentisincreased。Solong，indeed，asthispropositionholds，anymeansofincreasingemploymentmustleadatthesametimetoadiminutionofthemarginalproductandhenceoftherateofwagesmeasuredintermsofthisproduct。

Butwhenwehavethrownoverthesecondpostulate，adeclineinemployment，althoughnecessarilyassociatedwithlabour'sreceivingawageequalinvaluetoalargerquantityofwage-goods，isnotnecessarilyduetolabour'sdemandingalargerquantityofwage-goods；andawillingnessonthepartoflabourtoacceptlowermoney-wagesisnotnecessarilyaremedyforunemployment。

Thetheoryofwagesinrelationtoemployment，towhichwearehereleadingup，cannotbefullyelucidated，however，untilchapter19anditsAppendixhavebeenreached。

VI

FromthetimeofSayandRicardotheclassicaleconomistshavetaughtthatsupplycreatesitsowndemand；&frac34；meaningbythisinsomesignificant，butnotclearlydefined，sensethatthewholeofthecostsofproductionmustnecessarilybespentintheaggregate，directlyorindirectly，onpurchasingtheproduct。

InJ。S。Mill'sPrinciplesofPoliticalEconomythedoctrineisexpresslysetforth:Whatconstitutesthemeansofpaymentforcommoditiesissimplycommodities。Eachperson'smeansofpayingfortheproductionsofotherpeopleconsistofthosewhichhehimselfpossesses。Allsellersareinevitably，andbythemeaningoftheword，buyers。Couldwesuddenlydoubletheproductivepowersofthecountry，weshoulddoublethesupplyofcommoditiesineverymarket；butweshould，bythesamestroke，doublethepurchasingpower。

Everybodywouldbringadoubledemandaswellassupply；everybodywouldbeabletobuytwiceasmuch，becauseeveryonewouldhavetwiceasmuchtoofferinexchange。[26]

[Page19]POSTULATES

OFTHECLASSICALECONOMICS

Asacorollaryofthesamedoctrine，ithasbeensupposedthatanyindividualactofabstainingfromconsumptionnecessarilyleadsto，andamountstothesamethingas，causingthelabourandcommoditiesthusreleasedfromsupplyingconsumptiontobeinvestedintheproductionofcapitalwealth。

ThefollowingpassagefromMarshall'sPureTheoryofDomesticValues[27]illustratesthetraditionalapproach:Thewholeofaman'sincomeisexpendedinthepurchaseofservicesandofcommodities。Itisindeedcommonlysaidthatamanspendssomeportionofhisincomeandsavesanother。Butitisafamiliareconomicaxiomthatamanpurchaseslabourandcommoditieswiththatportionofhisincomewhichhesavesjustasmuchashedoeswiththatheissaidtospend。Heissaidtospendwhenheseekstoobtainpresentenjoymentfromtheservicesandcommoditieswhichhepurchases。Heissaidtosavewhenhecausesthelabourandthecommoditieswhichhepurchasestobedevotedtotheproductionofwealthfromwhichheexpectstoderivethemeansofenjoymentinthefuture。ItistruethatitwouldnotbeeasytoquotecomparablepassagesfromMarshall'slaterwork[28]orfromEdgeworthorProfessorPigou。Thedoctrineisneverstatedto-dayinthiscrudeform。Neverthelessitstillunderliesthewholeclassicaltheory，whichwouldcollapsewithoutit。

Contemporaryeconomists，whomighthesitatetoagreewithMill，donothesitatetoacceptconclusionswhichrequireMill'sdoctrineastheirpremiss。

Theconviction，whichruns，forexample，throughalmostallProfessorPigou'swork，thatmoneymakesnorealdifferenceexceptfrictionallyandthatthetheoryofproductionandemploymentcanbe[Page20]THEGENERAL

THEORYOFEMPLOYMENT

workedout(likeMill's)asbeingbasedon'real'exchangeswithmoneyintroducedperfunctorilyinalaterchapter，isthemodernversionoftheclassicaltradition。Contemporarythoughtisstilldeeplysteepedinthenotionthatifpeopledonotspendtheirmoneyinonewaytheywillspenditinanother。[29]Post-wareconomistsseldom，indeed，succeedinmaintainingthisstandpointconsistently；fortheirthoughtto-dayistoomuchpermeatedwiththecontrarytendencyandwithfactsofexperiencetooobviouslyinconsistentwiththeirformerview。[30]Buttheyhavenotdrawnsufficientlyfar-reachingconsequences；andhavenotrevisedtheirfundamentaltheory。

Inthefirstinstance，theseconclusionsmayhavebeenappliedtothekindofeconomyinwhichweactuallylivebyfalseanalogyfromsomekindofnon-exchangeRobinsonCrusoeeconomy，inwhichtheincomewhichindividualsconsumeorretainasaresultoftheirproductiveactivityis，actuallyandexclusively，theoutputinspecieofthatactivity。But，apartfromthis，theconclusionthatthecostsofoutputarealwayscoveredintheaggregatebythesale-proceedsresultingfromdemand，hasgreatplausibility，becauseitisdifficulttodistinguishitfromanother，similar-lookingpropositionwhichisindubitable，namelythattheincomederivedintheaggregatebyalltheelementsinthecommunityconcernedinaproductiveactivitynecessarilyhasavalueexactlyequaltothevalueoftheoutput。

Similarlyitisnaturaltosupposethattheactof[Page21]POSTULATES

OFTHECLASSICALECONOMICS

anindividual，bywhichheenricheshimselfwithoutapparentlytakinganythingfromanyoneelse，mustalsoenrichthecommunityasawhole；sothat(asinthepassagejustquotedfromMarshall)anactofindividualsavinginevitablyleadstoaparallelactofinvestment。For，oncemore，itisindubitablethatthesumofthenetincrementsofthewealthofindividualsmustbeexactlyequaltotheaggregatenetincrementofthewealthofthecommunity。

Thosewhothinkinthiswayaredeceived，nevertheless，byanopticalillusion，whichmakestwoessentiallydifferentactivitiesappeartobethesame。Theyarefallaciouslysupposingthatthereisanexuswhichunitesdecisionstoabstainfrompresentconsumptionwithdecisionstoprovideforfutureconsumption；whereasthemotiveswhichdeterminethelatterarenotlinkedinanysimplewaywiththemotiveswhichdeterminetheformer。

Itis，then，theassumptionofequalitybetweenthedemandpriceofoutputasawholeanditssupplypricewhichistoberegardedastheclassicaltheory's'axiomofparallels'。Grantedthis，alltherestfollows&frac34；thesocialadvantagesofprivateandnationalthrift，thetraditionalattitudetowardstherateofinterest，theclassicaltheoryofunemployment，thequantitytheoryofmoney，theunqualifiedadvantagesoflaissez-faireinrespectofforeigntradeandmuchelsewhichweshallhavetoquestion。

VII

Atdifferentpointsinthischapterwehavemadetheclassicaltheorytodependinsuccessionontheassumptions:(1)thattherealwageisequaltothemarginaldisutilityoftheexistingemployment；

(2)thatthereisnosuchthingasinvoluntaryunemploymentinthestrictsense；

(3)thatsupplycreatesitsowndemandinthesense[Page22]THEGENERAL

THEORYOFEMPLOYMENTthattheaggregatedemandpriceisequaltotheaggregatesupplypriceforalllevelsofoutputandemployment。Thesethreeassumptions，however，allamounttothesamethinginthesensethattheyallstandandfalltogether，anyoneofthemlogicallyinvolvingtheothertwo。

ThePrincipleofEffectiveDemand[Page23]

Chapter3

THEPRINCIPLEOFEFFECTIVEDEMAND

I

Weneed，tostartwith，afewtermswhichwillbedefinedpreciselylater。Inagivenstateoftechnique，resourcesandcosts，theemploymentofagivenvolumeoflabourbyanentrepreneurinvolveshimintwokindsofexpense:firstofall，theamountswhichhepaysouttothefactorsofproduction(exclusiveofotherentrepreneurs)fortheircurrentservices，whichweshallcallthefactorcostoftheemploymentinquestion；

andsecondly，theamountswhichhepaysouttootherentrepreneursforwhathehastopurchasefromthemtogetherwiththesacrificewhichheincursbyemployingtheequipmentinsteadofleavingitidle，whichweshallcalltheusercostoftheemploymentinquestion。[31]Theexcessofthevalueoftheresultingoutputoverthesumofitsfactorcostanditsusercostistheprofitor，asweshallcallit，theincomeoftheentrepreneur。Thefactorcostis，ofcourse，thesamething，lookedatfromthepointofviewoftheentrepreneur，aswhatthefactorsofproductionregardastheirincome。Thusthefactorcostandtheentrepreneur'sprofitmakeup，betweenthem，whatweshalldefineasthetotalincomeresultingfromtheemploymentgivenbytheentrepreneur。Theentrepreneur'sprofitthusdefinedis，asitshouldbe，thequantitywhichheendeavourstomaximisewhenheisdecidingwhatamountofemploy-

[Page24]THEGENERAL

THEORYOFEMPLOYMENT

menttooffer。Itissometimesconvenient，whenwearelookingatitfromtheentrepreneur'sstandpoint，tocalltheaggregateincome(i。e。

factorcostplusprofit)resultingfromagivenamountofemploymenttheproceedsofthatemployment。Ontheotherhand，theaggregatesupplyprice[32]oftheoutputofagivenamountofemploymentistheexpectationofproceedswhichwilljustmakeitworththewhileoftheentrepreneurstogivethatemployment。[33]

Itfollowsthatinagivensituationoftechnique，resourcesandfactorcostperunitofemployment，theamountofemployment，bothineachindividualfirmandindustryandintheaggregate，dependsontheamountoftheproceedswhichtheentrepreneursexpecttoreceivefromthecorrespondingoutput。

[34]Forentrepreneurswillendeavourtofixtheamountofemploy-

[Page25]THEPRINCIPLE

OFEFFECTIVEDEMAND

mentatthelevelwhichtheyexpecttomaximisetheexcessoftheproceedsoverthefactorcost。

LetZbetheaggregatesupplypriceoftheoutputfromemployingNmen，therelationshipbetweenZandNbeingwrittenZ=f(N)，whichcanbecalledtheaggregatesupplyfunction。[35]Similarly，letDbetheproceedswhichentrepreneursexpecttoreceivefromtheemploymentofNmen，therelationshipbetweenDandNbeingwrittenD=f(N)，whichcanbecalledtheaggregatedemandfunction。

NowifforagivenvalueofNtheexpectedproceedsaregreaterthantheaggregatesupplyprice，i。e。ifDisgreaterthanZ，therewillbeanincentivetoentrepreneurstoincreaseemploymentbeyondNand，ifnecessary，toraisecostsbycompetingwithoneanotherforthefactorsofproduction，uptothevalueofNforwhichZhasbecomeequaltoD。Thusthevolumeofemploymentisgivenbythepointofintersectionbetweentheaggregatedemandfunctionandtheaggregatesupplyfunction；foritisatthispointthattheentrepreneurs'

expectationofprofitswillbemaximised。ThevalueofDatthepointoftheaggregatedemandfunction，whereitisintersectedbytheaggregatesupplyfunction，willbecalledtheeffectivedemand。

SincethisisthesubstanceoftheGeneralTheoryofEmployment，whichitwillbeourobjecttoexpound，thesucceedingchapterswillbelargelyoccupiedwithexaminingthevariousfactorsuponwhichthesetwofunctionsdepend。

Theclassicaldoctrine，ontheotherhand，whichusedtobeexpressedcategoricallyinthestatementthat'SupplycreatesitsownDemand'andcontinuestounderlieallorthodoxeconomictheory，involvesaspecialassumptionastotherelationshipbetweenthesetwofunctions。For'SupplycreatesitsownDemand'mustmeanthatf(N)andf(N)

areequalforallvalues[Page26]THEGENERAL

THEORYOFEMPLOYMENT

ofN，i。e。foralllevelsofoutputandemployment；andthatwhenthereisanincreaseinZ(=f(N))

correspondingtoanincreaseinN，D(=f(N))

necessarilyincreasesbythesameamountasZ。Theclassicaltheoryassumes，inotherwords，thattheaggregatedemandprice(orproceeds)

alwaysaccommodatesitselftotheaggregatesupplyprice；sothat，whateverthevalueofNmaybe，theproceedsDassumeavalueequaltotheaggregatesupplypriceZwhichcorrespondstoN。Thatistosay，effectivedemand，insteadofhavingauniqueequilibriumvalue，isaninfiniterangeofvaluesallequallyadmissible；andtheamountofemploymentisindeterminateexceptinsofarasthemarginaldisutilityoflaboursetsanupperlimit。

Ifthisweretrue，competitionbetweenentrepreneurswouldalwaysleadtoanexpansionofemploymentuptothepointatwhichthesupplyofoutputasawholeceasestobeelastic，i。e。whereafurtherincreaseinthevalueoftheeffectivedemandwillnolongerbeaccompaniedbyanyincreaseinoutput。Evidentlythisamountstothesamethingasfullemployment。Inthepreviouschapterwehavegivenadefinitionoffullemploymentintermsofthebehaviouroflabour。Analternative，thoughequivalent，criterionisthatatwhichwehavenowarrived，namelyasituationinwhichaggregateemploymentisinelasticinresponsetoanincreaseintheeffectivedemandforitsoutput。ThusSay'slaw，thattheaggregatedemandpriceofoutputasawholeisequaltoitsaggregatesupplypriceforallvolumesofoutput，isequivalenttothepropositionthatthereisnoobstacletofullemployment。

If，however，thisisnotthetruelawrelatingtheaggregatedemandandsupplyfunctions，thereisavitallyimportantchapterofeconomictheorywhichremainstobewrittenandwithoutwhichalldiscussionsconcerningthevolumeofaggregateemploymentarefutile。

[Page27]THEPRINCIPLE

OFEFFECTIVEDEMAND

II

Abriefsummaryofthetheoryofemploymenttobeworkedoutinthecourseofthefollowingchaptersmay，perhaps，helpthereaderatthisstage，eventhoughitmaynotbefullyintelligible。Thetermsinvolvedwillbemorecarefullydefinedinduecourse。Inthissummaryweshallassumethatthemoney-wageandotherfactorcostsareconstantperunitoflabouremployed。Butthissimplification，withwhichweshalldispenselater，isintroducedsolelytofacilitatetheexposition。Theessentialcharacteroftheargumentispreciselythesamewhetherornotmoney-wages，etc。，areliabletochange。

Theoutlineofourtheorycanbeexpressedasfollows。Whenemploymentincreases，aggregaterealincomeisincreased。Thepsychologyofthecommunityissuchthatwhenaggregaterealincomeisincreasedaggregateconsumptionisincreased，butnotbysomuchasincome。Henceemployerswouldmakealossifthewholeoftheincreasedemploymentweretobedevotedtosatisfyingtheincreaseddemandforimmediateconsumption。Thus，tojustifyanygivenamountofemploymenttheremustbeanamountofcurrentinvestmentsufficienttoabsorbtheexcessoftotaloutputoverwhatthecommunitychoosestoconsumewhenemploymentisatthegivenlevel。Forunlessthereisthisamountofinvestment，thereceiptsoftheentrepreneurswillbelessthanisrequiredtoinducethemtoofferthegivenamountofemployment。Itfollows，therefore，that，givenwhatweshallcallthecommunity'spropensitytoconsume，theequilibriumlevelofemployment，i。e。thelevelatwhichthereisnoinducementtoemployersasawholeeithertoexpandortocontractemployment，willdependontheamountofcurrentinvestment。Theamountofcurrentinvestmentwilldepend，inturn，onwhatweshallcalltheinducementtoinvest；andtheinducementtoinvestwill[Page28]THEGENERAL

THEORYOFEMPLOYMENT

befoundtodependontherelationbetweenthescheduleofthemarginalefficiencyofcapitalandthecomplexofratesofinterestonloansofvariousmaturitiesandrisks。

Thus，giventhepropensitytoconsumeandtherateofnewinvestment，therewillbeonlyonelevelofemploymentconsistentwithequilibrium；

sinceanyotherlevelwillleadtoinequalitybetweentheaggregatesupplypriceofoutputasawholeanditsaggregatedemandprice。Thislevelcannotbegreaterthanfullemployment，i。e。therealwagecannotbelessthanthemarginaldisutilityoflabour。Butthereisnoreasoningeneralforexpectingittobeequaltofullemployment。Theeffectivedemandassociatedwithfullemploymentisaspecialcase，onlyrealisedwhenthepropensitytoconsumeandtheinducementtoinveststandinaparticularrelationshiptooneanother。Thisparticularrelationship，whichcorrespondstotheassumptionsoftheclassicaltheory，isinasenseanoptimumrelationship。

Butitcanonlyexistwhen，byaccidentordesign，currentinvestmentprovidesanamountofdemandjustequaltotheexcessoftheaggregatesupplypriceoftheoutputresultingfromfullemploymentoverwhatthecommunitywillchoosetospendonconsurnptionwhenitisfullyemployed。

Thistheorycanbesummedupinthefollowingpropositions:

(1)Inagivensituationoftechnique，resourcesandcosts，income(bothmoney-incomeandrealincome)dependsonthevolumeofemploymentN。

(2)Therelationshipbetweenthecommunity'sincomeandwhatitcanbeexpectedtospendonconsumption，designatedbyD1，willdependonthepsychologicalcharacteristicofthecommunity，whichweshallcallitspropensitytoconsume。Thatistosay，consumptionwilldependonthelevelofaggregateincomeand，therefore，onthelevelofemploymentN，exceptwhenthereissomechangeinthepropensitytoconsume。

[Page29]THEPRINCIPLE

OFEFFECTIVEDEMAND

(3)TheamountoflabourNwhichtheentrepreneursdecidetoemploydependsonthesum(D)oftwoquantities，namelyD1，theamountwhichthecommunityisexpectedtospendonconsumption，andD2，theamountwhichitisexpectedtodevotetonewinvestment。Diswhatwehavecalledabovetheeffectivedemand。

(4)SinceD1+D2=D=f(N)，whereistheaggregatesupplyfunction，andsince，aswehaveseenin(2)above，D1isafunctionofN，whichwemaywritec(N)，dependingonthepropensitytoconsume，itfollowsthatf(N)-c(N)

=D2。

(5)Hencethevolumeofemploymentinequilibriumdependson(i)

theaggregatesupplyfunction，，(ii)thepropensitytoconsume，，and(iii)thevolumeofinvestment，D2。ThisistheessenceoftheGeneralTheoryofEmployment。

(6)ForeveryvalueofNthereisacorrespondingmarginalproductivityoflabourinthewage-goodsindustries；anditisthiswhichdeterminestherealwage。(5)is，therefore，subjecttotheconditionthatNcannotexceedthevaluewhichreducestherealwagetoequalitywiththemarginaldisutilityoflabour。ThismeansthatnotallchangesinDarecompatiblewithourtemporaryassumptionthatmoney-wagesareconstant。Thusitwillbeessentialtoafullstatementofourtheorytodispensewiththisassumption。

(7)Ontheclassicaltheory，accordingtowhichD

=f(N)forallvaluesofN，thevolumeofemploymentisinneutralequilibriumforallvaluesofNlessthanitsmaximumvalue；sothattheforcesofcompetitionbetweenentrepreneursmaybeexpectedtopushittothismaximumvalue。Onlyatthispoint，ontheclassicaltheory，cantherebestableequilibrium。

(8)Whenemploymentincreases，D1willincrease，butnotbysomuchasD；sincewhenourincomeincreasesourconsumptionincreasesalso，butnotbysomuch。Thekeytoourpracticalproblemistobefoundinthis[Page30]THEGENERAL

THEORYOFEMPLOYMENT

psychologicallaw。Foritfollowsfromthisthatthegreaterthevolumeofemploymentthegreaterwillbethegapbetweentheaggregatesupplyprice(Z)ofthecorrespondingoutputandthesum(D1)

whichtheentrepreneurscanexpecttogetbackoutoftheexpenditureofconsumers。Hence，ifthereisnochangeinthepropensitytoconsume，employmentcannotincrease，unlessatthesametimeD2isincreasingsoastofilltheincreasinggapbetweenZandD1。

Thus&frac34；exceptonthespecialassumptionsoftheclassicaltheoryaccordingtowhichthereissomeforceinoperationwhich，whenemploymentincreases，alwayscausesD2toincreasesufficientlytofillthewideninggapbetweenZandD1&frac34；theeconomicsystemmayfinditselfinstableequilibriumwithNatalevelbelowfullemployment，namelyatthelevelgivenbytheintersectionoftheaggregatedemandfunctionwiththeaggregatesupplyfunction。

Thusthevolumeofemploymentisnotdeterminedbythemarginaldisutilityoflabourmeasuredintermsofrealwages，exceptinsofarasthesupplyoflabouravailableatagivenrealwagesetsamaximumleveltoemployment。

Thepropensitytoconsumeandtherateofnewinvestmentdeterminebetweenthemthevolumeofemployment，andthevolumeofemploymentisuniquelyrelatedtoagivenlevelofrealwages&frac34；nottheotherwayround。Ifthepropensitytoconsumeandtherateofnewinvestmentresultinadeficienteffectivedemand，theactuallevelofemploymentwillfallshortofthesupplyoflabourpotentiallyavailableattheexistingrealwage，andtheequilibriumrealwagewillbegreaterthanthemarginaldisutilityoftheequilibriumlevelofemployment。

Thisanalysissuppliesuswithanexplanationoftheparadoxofpovertyinthemidstofplenty。Forthemereexistenceofaninsufficiencyofeffectivedemandmay，andoftenwill，bringtheincreaseofemploymenttoastandstillbeforealeveloffullemploy[Page31]THEPRINCIPLE

OFEFFECTIVEDEMAND

menthasbeenreached。Theinsufficiencyofeffectivedemandwillinhibittheprocessofproductioninspiteofthefactthatthemarginalproductoflabourstillexceedsinvaluethemarginaldisutilityofemployment。

Moreoverthericherthecommunity，thewiderwilltendtobethegapbetweenitsactualanditspotentialproduction；andthereforethemoreobviousandoutrageousthedefectsoftheeconomicsystem。Forapoorcommunitywillbepronetoconsumebyfarthegreaterpartofitsoutput，sothataverymodestmeasureofinvestmentwillbesufficienttoprovidefullemployment；whereasawealthycommunitywillhavetodiscovermuchampleropportunitiesforinvestmentifthesavingpropensitiesofitswealthiermembersaretobecompatiblewiththeemploymentofitspoorermembers。

Ifinapotentiallywealthycommunitytheinducementtoinvestisweak，then，inspiteofitspotentialwealth，theworkingoftheprincipleofeffectivedemandwillcompelittoreduceitsactualoutput，until，inspiteofitspotentialwealth，ithasbecomesopoorthatitssurplusoveritsconsumptionissufficientlydiminishedtocorrespondtotheweaknessoftheinducementtoinvest。

Butworsestill。Notonlyisthemarginalpropensitytoconsume[36

]weakerinawealthycommunity，but，owingtoitsaccumulationofcapitalbeingalreadylarger，theopportunitiesforfurtherinvestmentarelessattractiveunlesstherateofinterestfallsatasufficientlyrapidrate；

which'bringsustothetheoryoftherateofinterestandtothereasonswhyitdoesnotautomaticallyfalltotheappropriatelevel，whichwilloccupyBookIV。

Thustheanalysisofthepropensitytoconsume，thedefinitionofthemarginalefficiencyofcapitalandthetheoryoftherateofinterestarethethreemaingapsinourexistingknowledgewhichitwillbenecessarytofill。Whenthishasbeenaccomplished，[Page32]THEGENERAL

THEORYOFEMPLOYMENT

weshallfindthatthetheoryofpricesfallsintoitsproperplaceasamatterwhichissubsidiarytoourgeneraltheory。Weshalldiscover，however，thatmoneyplaysanessentialpartinourtheoryoftherateofinterest；andweshallattempttodisentanglethepeculiarcharacteristicsofmoneywhichdistinguishitfromotherthings。

III

TheideathatwecansafelyneglecttheaggregatedemandfunctionisfundamentaltotheRicardianeconomics，whichunderliewhatwehavebeentaughtformorethanacentury。Malthus，indeed，hadvehementlyopposedRicardo'sdoctrinethatitwasimpossibleforeffectivedemandtobedeficient；

butvainly。For，sinceMalthuswasunabletoexplainclearly(apartfromanappealtothefactsofcommonobservation)howandwhyeffectivedemandcouldbedeficientorexcessive，hefailedtofurnishanalternativeconstruction；

andRicardoconqueredEnglandascompletelyastheHolyInquisitionconqueredSpain。Notonlywashistheoryacceptedbythecity，bystatesmenandbytheacademicworld。Butcontroversyceased；theotherpointofviewcompletelydisappeared；itceasedtobediscussed。ThegreatpuzzleofeffectivedemandwithwhichMalthushadwrestledvanishedfromeconomicliterature。YouwillnotfinditmentionedevenonceinthewholeworksofMarshall，EdgeworthandProfessorPigou，fromwhosehandstheclassicaltheoryhasreceiveditsmostmatureembodiment。Itcouldonlyliveonfurtively，belowthesurface，intheunderworldsofKarlMarx，SilvioGesellorMajorDouglas。

ThecompletenessoftheRicardianvictoryissomethingofacuriosityandamystery。Itmusthavebeenduetoacomplexofsuitabilitiesinthedoctrinetotheenvironmentintowhichitwasprojected。Thatit[Page33]THEPRINCIPLE

OFEFFECTIVEDEMAND

reachedconclusionsquitedifferentfromwhattheordinaryuninstructedpersonwouldexpect，added，Isuppose，toitsintellectualprestige。Thatitsteaching，translatedintopractice，wasaustereandoftenunpalatable，lentitvirtue。Thatitwasadaptedtocarryavastandconsistentlogicalsuperstructure，gaveitbeauty。Thatitcouldexplainmuchsocialinjusticeandapparentcrueltyasaninevitableincidentintheschemeofprogress，andtheattempttochangesuchthingsaslikelyonthewholetodomoreharmthangood，commendedittoauthority。Thatitaffordedameasureofjustificationtothefreeactivitiesoftheindividualcapitalist，attractedtoitthesupportofthedominantsocialforcebehindauthority。

Butalthoughthedoctrineitselfhasremainedunquestionedbyorthodoxeconomistsuptoalatedate，itssignalfailureforpurposesofscientificpredictionhasgreatlyimpaired，inthecourseoftime，theprestigeofitspractitioners。Forprofessionaleconomists，afterMalthus，wereapparentlyunmovedbythelackofcorrespondencebetweentheresultsoftheirtheoryandthefactsofobservation；&frac34；adiscrepancywhichtheordinarymanhasnotfailedtoobserve，withtheresultofhisgrowingunwillingnesstoaccordtoeconomiststhatmeasureofrespectwhichhegivestoothergroupsofscientistswhosetheoreticalresultsareconfirmedbyobservationwhentheyareappliedtothefacts。

Thecelebratedoptimismoftraditionaleconomictheory，whichhasledtoeconomistsbeinglookeduponasCandides，who，havingleftthisworldforthecultivationoftheirgardens，teachthatallisforthebestinthebestofallpossibleworldsprovidedwewillletwellalone，isalsotobetraced，Ithink，totheirhavingneglectedtotakeaccountofthedragonprosperitywhichcanbeexercisedbyaninsufficiencyofeffectivedemand。Fortherewouldobviouslybeanaturaltendencytowardstheoptimumemploymentofresourcesinasocietywhichwasfunctioningafterthe[Page34]THEGENERAL

THEORYOFEMPLOYMENT

manneroftheclassicalpostulates。Itmaywellbethattheclassicaltheoryrepresentsthewayinwhichweshouldlikeoureconomytobehave。

Buttoassumethatitactuallydoessoistoassumeourdifficultiesaway。

TheChoiceofUnits[Page37]

Chapter4

THECHOICEOFUNITS

I

Inthisandthenextthreechaptersweshallbeoccupiedwithanattempttoclearupcertainperplexitieswhichhavenopeculiarorexclusiverelevancetotheproblemswhichitisourspecialpurposetoexamine。Thusthesechaptersareinthenatureofadigression，whichwillpreventusforatimefrompursulngourmaintheme。Theirsubject-matterisonlydiscussedherebecauseitdoesnothappentohavebeenalreadytreatedelsewhereinawaywhichIfindadequatetotheneedsofmyownparticularenquiry。

Thethreeperplexitieswhichmostimpededmyprogressinwritingthisbook，sothatIcouldnotexpressmyselfconvenientlyuntilIhadfoundsomesolutionforthem，are:firstly，thechoiceoftheunitsofquantityappropriatetotheproblemsoftheeconomicsystemasawhole；secondly，thepartplayedbyexpectationineconomicanalysis；and，thirdly，thedefinitionofincome。

II

Thattheunits，intermsofwhicheconomistscommonlywork，areunsatisfactorycanbeillustratedbytheconceptsofthenationaldividend，thestockofrealcapitalandthegeneralprice-level:

(i)Thenationaldividend，asdefinedbyMarshall[Page38]THEGENERAL

THEORYOFEMPLOYMENT

andProfessorPigou，[37]measuresthevolumeofcurrentoutputorrealincomeandnotthevalueofoutputormoney-income。[38]Furthermore，itdepends，insomesense，onnetoutput；&frac34；onthenetaddition，thatistosay，totheresourcesofthecommunityavailableforconsumptionorforretentionascapitalstock，duetotheeconomicactivitiesandsacrificesofthecurrentperiod，afterallowingforthewastageofthestockofrealcapitalexistingatthecommencementoftheperiod。Onthisbasisanattemptismadetoerectaquantitativescience。

Butitisagraveobjectiontothisdefinitionforsuchapurposethatthecommunity'soutputofgoodsandservicesisanon-homogeneouscomplexwhichcannotbemeasured，strictlyspeaking，exceptincertainspecialcases，asforexamplewhenalltheitemsofoneoutputareincludedinthesameproportionsinanotheroutput。

(ii)Thedifficultyisevengreaterwhen，inordertocalculatenetoutput，wetrytomeasurethenetadditiontocapitalequipment；forwehavetofindsomebasisforaquantitativecomparisonbetweenthenewitemsofequipmentproducedduringtheperiodandtheolditemswhichhaveperishedbywastage。Inordertoarriveatthenetnationaldividend，ProfessorPigou[39]deductssuchobsolescence，etc。，'asmayfairlybecalled"normal"；andthepracticaltestofnormalityisthatthedepletionissufficientlyregulartobeforeseen，ifnotindetail，atleastinthelarge'。But，sincethisdeductionisnotadeductionintermsofmoney，heisinvolvedinassumingthattherecanbeachangeinphysicalquantity，althoughtherehasbeennophysicalchange；i。e。heiscovertlyintroducingchangesinvalue。

[Page39]THECHOICE

OFUNITS

Moreover，heisunabletodeviseanysatisfactoryformula[40]toevaluatenewequipmentagainstoldwhen，owingtochangesintechnique，thetwoarenotidentical。IbelievethattheconceptatwhichProfessorPigouisaimingistherightandappropriateconceptforeconomicanalysis。

But，untilasatisfactorysystemofunitshasbeenadopted，itsprecisedefinitionisanimpossibletask。Theproblemofcomparingonerealoutputwithanotherandofthencalculatingnetoutputbysettingoffnewitemsofequipmentagainstthewastageofolditemspresentsconundrumswhichpermit，onecanconfidentlysay，ofnosolution。

(iii)Thirdly，thewell-known，butunavoidable，elementofvaguenesswhichadmittedlyattendstheconceptofthegeneralprice-levelmakesthistermveryunsatisfactoryforthepurposesofacausalanalysis，whichoughttobeexact。

Neverthelessthesedifficultiesarerightlyregardedas'conundrums'。

Theyare'purelytheoretical'inthesensethattheyneverperplex，orindeedenterinanywayinto，businessdecisionsandhavenorelevancetothecausalsequenceofeconomicevents，whichareclear-cutanddeterminateinspiteofthequantitativeindeterminacyoftheseconcepts。Itisnatural，therefore，toconcludethattheynotonlylackprecisionbutareunnecessary。

Obviouslyourquantitativeanalysismustbeexpressedwithoutusinganyquantitativelyvagueexpressions。And，indeed，assoonasonemakestheattempt，itbecomesclear，asIhopetoshow，thatonecangetonmuchbetterwithoutthem。

Thefactthattwoincommensurablecollectionsofmiscellaneousobjectscannotinthemselvesprovidethematerialforaquantitativeanalysisneednot，ofcourse，preventusfrommakingapproximatestatisticalcomparisons，dependingonsomebroadelementofjudgmentratherthanofstrictcalculation，whichmaypossesssignificanceandvaliditywithincertainlimits。

[Page40]THEGENERAL

THEORYOFEMPLOYMENT

Buttheproperplaceforsuchthingsasnetrealoutputandthegenerallevelofpriceslieswithinthefieldofhistoricalandstatisticaldescription，andtheirpurposeshouldbetosatisfyhistoricalorsocialcuriosity，apurposeforwhichperfectprecision&frac34；suchasourcausalanalysisrequires，whetherornotourknowledgeoftheactualvaluesoftherelevantquantitiesiscompleteorexact&frac34；isneitherusualnornecessary。Tosaythatnetoutputto-dayisgreater，buttheprice-levellower，thantenyearsagooroneyearago，isapropositionofasimilarcharactertothestatementthatQueenVictoriawasabetterqueenbutnotahappierwomanthanQueenElizabeth&frac34；apropositionnotwithoutmeaningandnotwithoutinterest，butunsuitableasmaterialforthedifferentialcalculus。Ourprecisionwillbeamockprecisionifwetrytousesuchpartlyvagueandnon-quantitativeconceptsasthebasisofaquantitativeanalysis。

III

Oneveryparticularoccasion，letitberemembered，anentrepreneurisconcernedwithdecisionsastothescaleonwhichtoworkagivencapitalequipment；andwhenwesaythattheexpectationofanincreaseddemand，i。e。araisingoftheaggregatedemandfunction，willleadtoanincreaseinaggregateoutput，wereallymeanthatthefirms，whichownthecapitalequipment，willbeinducedtoassociatewithitagreateraggregateemploymentoflabour。Inthecaseofanindividualfirmorindustryproducingahomogeneousproductwecanspeaklegitimately，ifwewish，ofincreasesordecreasesofoutput。Butwhenweareaggregatingtheactivitiesofallfirms，wecannotspeakaccuratelyexceptintermsofquantitiesofemploymentappliedtoagivenequipment。Theconceptsofoutputasawholeanditsprice-levelarenotrequiredinthiscontext，sincewehavenoneedofanabsolute[Page41]THECHOICE

OFUNITS

measureofcurrentaggregateoutput，suchaswouldenableustocompareitsamountwiththeamountwhichwouldresultfromtheassociationofadifferentcapitalequipmentwithadifferentquantityofemployment。When，forpurposesofdescriptionorroughcomparison，wewishtospeakofanincreaseofoutput，wemustrelyonthegeneralpresumptionthattheamountofemploymentassociatedwithagivencapitalequipmentwillbeasatisfactoryindexoftheamountofresultantoutput；&frac34；thetwobeingpresumedtoincreaseanddecreasetogether，thoughnotinadefinitenumericalproportion。

IndealingwiththetheoryofemploymentIpropose，therefore，tomakeuseofonlytwofundamentalunitsofquantity，namely，quantitiesofmoney-valueandquantitiesofemployment。Thefirstoftheseisstrictlyhomogeneous，andthesecondcanbemadeso。For，insofarasdifferentgradesandkindsoflabourandsalariedassistanceenjoyamoreorlessfixedrelativeremuneration，thequantityofemploymentcanbesufficientlydefinedforourpurposebytakinganhour'semploymentofordinarylabourasourunitandweightinganhour'semploymentofspeciallabourinproportiontoitsremuneration；

i。e。anhourofspeciallabourremuneratedatdoubleordinaryrateswillcountastwounits。Weshallcalltheunitinwhichthequantityofemploymentismeasuredthelabour-unit；andthemoney-wageofalabour-unitweshallcallthewage-unit。[41]Thus，ifEisthewages(andsalaries)

bill，Wthewage-unit，andNthequantityofemployment，E=N&times；W。

Thisassumptionofhomogeneityinthesupplyoflabourisnotupsetbytheobviousfactofgreatdifferencesinthespecialisedskillofindividualworkersandintheirsuitabilityfordifferentoccupations。For，[Page42]THEGENERAL

THEORYOFEMPLOYMENT

iftheremunerationoftheworkersisproportionaltotheirefficiency，thedifferencesaredealtwithbyourhavingregardedindividualsascontributingtothesupplyoflabourinproportiontotheirremuneration；whilstif，asoutputincreases，agivenfirmhastobringinlabourwhichislessandlessefficientforitsspecialpurposesperwage-unitpaidtoit，thisismerelyonefactoramongothersleadingtoadiminishingreturnfromthecapitalequipmentintermsofoutputasmorelabourisemployedonit。Wesubsume，sotospeak，thenon-homogeneityofequallyremuneratedlabourunitsintheequipment，whichweregardaslessandlessadaptedtoemploytheavailablelabourunitsasoutputincreases，insteadofregardingtheavailablelabourunitsaslessandlessadaptedtouseahomogeneouscapitalequipment。Thusifthereisnosurplusofspecialisedorpractisedlabourandtheuseoflesssuitablelabourinvolvesahigherlabourcostperunitofoutput，thismeansthattherateatwhichthereturnfromtheequipmentdiminishesasemploymentincreasesismorerapidthanitwouldbeifthereweresuchasurplus。[42]Eveninthelimitingcasewheredifferentlabourunitsweresohighlyspecialisedastobealtogetherincapableofbeingsubstitutedforoneanother，thereisnoawkwardness；forthismerelymeansthattheelasticityofsupplyofoutputfromaparticulartypeofcapitalequipmentfallssuddenlytozerowhenalltheavailablelabourspecialisedtoitsuseisalreadyemployed。[43]Thusourassumptionofahomo-

[Page43]THECHOICE

OFUNITS

geneousunitoflabourinvolvesnodifficultiesunlessthereisgreatinstabilityintherelativeremunerationofdifferentlabour-units；andeventhisdifficultycanbedealtwith，ifitarises，bysupposingarapidliabilitytochangeinthesupplyoflabourandtheshapeoftheaggregatesupplyfunction。

Itismybeliefthatmuchunnecessaryperplexitycanbeavoidedifwelimitourselvesstrictlytothetwounits，moneyandlabour，whenwearedealingwiththebehaviouroftheeconomicsystemasawhole；reservingtheuseofunitsofparticularoutputsandequipmentstotheoccasionswhenweareanalysingtheoutputofindividualfirmsorindustriesinisolation；

andtheuseofvagueconcepts，suchasthequantityofoutputasawhole，thequantityofcapitalequipmentasawholeandthegenerallevelofprices，totheoccasionswhenweareattemptingsomehistoricalcomparisonwhichiswithincertain(perhapsfairlywide)limitsavowedlyunpreciseandapproximate。

[Page44]THEGENERAL

THEORYOFEMPLOYMENT

Itfollowsthatweshallmeasurechangesincurrentoutputbyreferencetothenumberofhoursoflabourpaidfor(whethertosatisfyconsumersortoproducefreshcapitalequipment)ontheexistingcapitalequipment，hoursofskilledlabourbeingweightedinproportiontotheirremuneration。

Wehavenoneedofaquantitativecomparisonbetweenthisoutputandtheoutputwhichwouldresultfromassociatingadifferentsetofworkerswithadifferentcapitalequipment。Topredicthowentrepreneurspossessingagivenequipmentwillrespondtoashiftintheaggregatedemandfunctionitisnotnecessarytoknowhowthequantityoftheresultingoutput，thestandardoflifeandthegenerallevelofpriceswouldcomparewithwhattheywereatadifferentdateorinanothercountry。

IV

Itiseasilyshownthattheconditionsofsupply，suchasareusuallyexpressedintermsofthesupplycurve，andtheelasticityofsupplyrelatingoutputtoprice，canbehandledintermsofourtwochosenunitsbymeansoftheaggregatesupplyfunction，withoutreferencetoquantitiesofoutput，whetherweareconcernedwithaparticularfirmorindustryorwitheconomicactivityasawhole。Fortheaggregatesupplyfunctionforagivenfirm(andsimilarlyforagivenindustryorforindustryasawhole)isgivenbyZr=fr(Nr)，whereZristheproceeds(netofusercost)theexpectationofwhichwillinducealevelofemploymentNr。If，therefore，therelationbetweenemploymentandoutputissuchthatanemploymentNrresultsinanoutputOr，whereOr=yr(Nr)，itfollowsthatZr+Ur(Nr)fr(Nr)+Ur(Nr)

p=&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；

=&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；&frac34；

Oryr(Nr)

[Page45]THECHOICE

OFUNITS

istheordinarysupplycurve，whereUr(Nr)

isthe(expected)usercostcorrespondingtoalevelofemploymentNr。

Thusinthecaseofeachhomogeneouscommodity，forwhichOr=yr(Nr)

hasadefinitemeaning，wecanevaluateZr=fr(Nr)intheordinaryway；butwecanthenaggregatetheNr'sinawayinwhichwecannotaggregatetheOr's，sinceSOrisnotanumericalquantity。Moreover，ifwecanassumethat，inagivenenvironment，agivenaggregateemploymentwillbedistributedinauniquewaybetweendifferentindustries，sothatNrisafunctionofN，furthersimplificationsarepossible。

ExpectationandEmployment[Page46]

Chapter5

EXPECTATIONASDETERMINING

OUTPUTANDEMPLOYMENT

I

Allproductionisforthepurposeofultimatelysatisfyingaconsumer。

Timeusuallyelapses，however&frac34；andsometimesmuchtime&frac34；betweentheincurringofcostsbytheproducer(withtheconsumerinview)andthepurchaseoftheoutputbytheultimateconsumer。Meanwhiletheentrepreneur(includingboththeproducerandtheinvestorinthisdescription)hastoformthebestexpectations[44]hecanastowhattheconsumerswillbepreparedtopaywhenheisreadytosupplythem(directlyorindirectly)aftertheelapseofwhatmaybealengthyperiod；andhehasnochoicebuttobeguidedbytheseexpectations，ifheistoproduceatallbyprocesseswhichoccupytime。

Theseexpectations，uponwhichbusinessdecisionsdepend，fallintotwogroups，certainindividualsorfirmsbeingspecialisedinthebusinessofframingthefirsttypeofexpectationandothersinthebusinessofframingthesecond。Thefirsttypeisconcernedwiththepricewhichamanufacturercanexpecttogetforhis'finished'outputatthetimewhenhecommitshimselftostartingtheprocesswhichwillproduceit；outputbeing'finished'(fromthepointofviewofthemanufacturer)whenitisreadytobeusedortobesoldtoasecondparty。The[Page47]EXPECTATION

ANDEMPLOYMENT

secondtypeisconcernedwithwhattheentrepreneurcanhopetoearnintheshapeoffuturereturnsifhepurchases(or，perhaps，manufactures)

'finished'outputasanadditiontohiscapitalequipment。Wemaycalltheformershort-termexpectationandthelatterlong-termexpectation。

Thusthebehaviourofeachindividualfirmindecidingitsdaily[45

]outputwillbedeterminedbyitsshort-termexpectations&frac34；expectationsastothecostofoutputonvariouspossiblescalesandexpectationsastothesale-proceedsofthisoutput；though，inthecaseofadditionstocapitalequipmentandevenofsalestodistributors，theseshort-termexpectationswilllargelydependonthelong-term(ormedium-term)expectationsofotherparties。Itisuponthesevariousexpectationsthattheamountofemploymentwhichthefirmsofferwilldepend。Theactuallyrealisedresultsoftheproductionandsaleofoutputwillonlyberelevanttoemploymentinsofarastheycauseamodificationofsubsequentexpectations。Nor，ontheotherhand，aretheoriginalexpectationsrelevant，whichledthefirmtoacquirethecapitalequipmentandthestockofintermediateproductsandhalf-finishedmaterialswithwhichitfindsitselfatthetimewhenithastodecidethenextday'soutput。Thus，oneachandeveryoccasionofsuchadecision，thedecisionwillbemade，withreferenceindeedtothisequipmentandstock，butinthelightofthecurrentexpectationsofprospectivecostsandsale-proceeds。

Now，ingeneral，achangeinexpectations(whethershort-termorlong-term)willonlyproduceitsfulleffectonemploymentoveraconsiderableperiod。Thechangeinemploymentduetoachangeinexpectationswillnotbethesameontheseconddayafterthechangeasonthefirst，orthesameonthe[Page48]THEGENERAL

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