Question

In: Economics

Keynes critiques as follows: “In any case, since labour can only bargain over money wages and...

Keynes critiques as follows: “In any case, since labour can only bargain over money wages and the price level is outside their control, there is no way in which labour as a whole can reduce its real wage by revising money wage bargains with entrepreneurs.” Explain this argument.

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Expert Solution

Keynes critiques as follows: “In any case, since labour can only bargain over money wages and the price level is outside their control, there is no way in which labour as a whole can reduce its real wage by revising money wage bargains with entrepreneurs.”

Keynes says that money wage rigidity is a reason for the involuntary unemployment of labour. At a given wage rate the supply of labour exceeds the demand of labour which leads to the unemployment of workers. Keynes believed that in short run to the economy at full employment there wouldn’t be a sufficient change in the money wages.

The main cause of money wage rigidity is money illusion. Despite an excess supply of labour the firms are not able to cut wages because the workers will not accept any cut in money wages even though they are ready to accept the fall in the real wages brought about by the increase in the price of the commodities.

Money illusion here means that workers do not realise the purchasing power of money changes with the changes in the price of the commodities. They regard money as a thing that has got stable value or purchasing power.

Thus Keynes wrote, “Whilst workers will usually resist a reduction of money wages, it is not their practice to withdraw their labour whenever there is a rise in the price of wage goods”.

Money illusion exists because of two reasons:

i) Workers of an industry might think that the rise in the price of the commodities reduce their real wages, but this rise in the price would affect the workers of other industries too, so their relative position as compared to other workers of other industries remains the same.

So the workers who are more concerned with their relative position would strongly oppose the cut in their money wages, but they wouldn’t oppose the cut in their real wages that arises due to increase in the price of the commodities.

ii) Another reason for money illusion is that when there is a cut in money wages, the workers blame their employers for it. But when there is a cut in the real wages due to the rise in the price of the commodities they feel that it a result of the economic forces and market conditions over which their opposition in an industry would have no effect.


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