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Keynes (1936, Chapter 2) says that based on the classical theory, "there are only four possible means of increasing employment", the fourth of which is:

an increase in the price of non-wage-goods compared with, the price of wage-goods, associated with a shift in the expenditure of non-wage-earners from wage-goods to non-wage-goods.

What does the above quote mean? What are wage-goods and non-wage-goods? And why would an increase in the price of non-wage-goods increase employment?

P.S. Keynes's discussion here is with reference to AC Pigou's Theory of Unemployment (1933), which I can't find online. It seems that Pigou makes a distinction between "wage-goods" and "non-wage-goods". Keynes mentions very briefly that "non-wage-goods" is "Professor Pigou's convenient term for goods upon the price of which the utility of the money-wage depends", but I'm not sure I understand this.

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Wage-goods are goods that a worker with wages might buy, perhaps now more commonly called consumption goods

Non-wage-goods are goods that a rentier receiving profits or interest might buy, including what might now be called capital goods or investment goods

As to how to read Keynes's interpretation of Pigou's position (so actually neither Keynes's nor Pigous's), it might be saying that if non-wage-earners shift their demand towards non-wage-goods, this would have the demand-side effect of pushing up the relative price of non-wage-goods and reduce the relative price of wage-goods, with presumably

  • either the direct effect of increasing both the number of wage-earners employed producing non-wage-goods and their wages,

  • or the indirect effect of increasing the real wage for all wage-earners (since their wage-goods are now relatively cheaper) above the previous "marginal disutility of labour", and this encourages increased wage-earning employment (what today would be called a substitution effect)

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According to Keynes, the first fundamental postulate of the classical theory of employment

I. The wage is equal to the marginal product of labour

or $$ W(N) = P \cdot \frac{dQ}{dN}(N) $$

where $W(N)$ is a money wage, $N$ is an employment level, $Q(N)$ is a physical productivity of labour at that employment level and $P$ is a price of goods or as we call it today price level.

In accordance with the principle of diminishing returns $\frac{dQ}{dN}(N)$ is a decreasing function of an employment level $N$.

$W(N)$ is a non-decreasing function for those who agree to work for a smaller wage are hired first.

Then the money wage $W(N)$ is equal to $P_w \cdot W_r(N)$, where $P_w$ is a price of wage-goods (or as we call it today consumer or final goods) and $W_r(N)$ is a real wage. Keynes uses it in the second postulate of classical theory:

II. The utility of the wage when a given volume of labour is employed is equal to the marginal disutility of that amount of employment.

That is to say, the real wage of an employed person is that which is just sufficient (in the estimation of the employed persons themselves) to induce the volume of labour ctually employed to be forthcoming

Thus for a production of wage-goods the first postulate can be written as $$ P_w \cdot W_r(N) = P_w \cdot \frac{dQ_w}{dN}(N)$$ or $$ W_r(N) = \frac{dQ_w}{dN}(N)\tag{1}\label{wg}$$

where $Q_w(N)$ is a physical production of wage-goods.

For non-wage-goods (or as we call them today investment goods) the equation will be different:

$$W_r(N) = \frac{P_{n-w}}{P_{w}}\frac{dQ_{n-w}}{dN}(N)\tag{2}\label{nwg}$$

where $P_{n-w}$ and $P_{w}$ are prices of non-wage-goods and wage-goods respectively.

Essentially we can't "pay" employees in non-wage-goods!

Now we can comprehend three out of "four possible means of increasing employment:"

(b) a decrease in the marginal disutility of labour, as expressed by the real wage for which additional labour is available, so as to diminish 'voluntary' unemployment;

i.e. $W_r(N)$ in equations $\eqref{wg}$ and $\eqref{nwg}$ is shifts down so intersection with the function on the right side of equations shifts to the right.

(c) an increase in the marginal physical productivity of labour in the wage-goods industries

i.e. the function on the right side of $\eqref{wg}$ shifts up so intersection with the function on the left side of the equation shifts to the right.

And finally:

(d) an increase in the price of non-wage-goods compared with the price of wage-goods

i.e. increase of the ratio $\frac{P_{n-w}}{P_{w}}$ in $\eqref{nwg}$ effectively shift the marginal product of labour for non-wage goods expressed in wage-goods $\frac{P_{n-w}}{P_{w}}\frac{dQ_{n-w}}{dN}$ up so the intersection with $W_r(N)$ will move again to the right.

Please note that Keynes aims to refute (some of) the above speculations.

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Yes, it increases the benefit of selling and buying investment goods which will increase the demand for labor. Employers find that they can increase output at relatively lower cost. For e.g., if you hold the marginal productivity of labor constant, and are a producer, then you can now produce more with higher profits because the MPL's diminishing returns can be compensated via higher prices.

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  • $\begingroup$ This does not seem to answer the question. In fact I cannot quite make out what you are trying to say. After "e.g." who 'are you'? "you hold the marginal productivity of labor constant" "you can now produce more". Also "you hold the marginal productivity of labor constant" and "MPL's diminishing returns" seems to be contradictory. $\endgroup$ – Giskard Mar 11 '18 at 15:36

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