# Wage setting/price setting question

I'm currently working through the textbook Macroeconomics: European Perspective. I'm on chapter 7: the labour market. I'm a little confused by one of the sections. Let's jump in.

We can define the wage setting relation as given by:

$$W=P\times F(u,z)$$, where $$W$$ is the nominal wage, $$P$$ is the price level (discarding impacts of expected prices for now), $$u$$ it the unemployment rate, $$z$$ is a catch-all variable that covers anything other than employment that impacts wages, and $$F()$$ is the function that relates them.

The real wage is then given by: $$\frac{W}{P}=F(u,z)$$

To simplify the example lets assume that the only input into the production process is labour, and labour productivity is $$1$$, so that the marginal cost of production is just $$W$$, then we can then define the price setting equation as given by:

$$P = (1+m)\times W$$, where $$m$$ is the mark-up of price over cost. Where $$m > 0$$ we are not in a perfectly competitive market.

It then follows that: $$\frac{W}{P} = \frac{1}{1+m}$$

The equilibrium is then given when the wage set through wage setting and price setting are equal, that is:

$$F(u,z)=\frac{1}{1+m}$$

We can see that shifts in the wage setting curve will impact the level of unemployment, but not the real wage given by $$\frac{1}{1+m}$$

What I'm slightly lost with is why, at equilibrium, the price setting, and the level of mark-up, is independent of the level of unemployment. Intuitively, I would have thought that high levels of unemployment would lead to lower aggregate demand. Lower demand would depress prices and could lead to a lower level of mark-up. However, this dynamic appears to be completely missing from the model.

Have I interpreted this incorrectly?

Thanks for any help,

Hmmm16