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Monopolistic Competition, Efficiency Wages and Perverse Effects of Demand Shock

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  • Jim Malley
  • Hassan Molana

Abstract

In this paper we construct a stylised general equilibrium macromodel to show that demand led expansions may have unexpected effects when market imperfections lead to changes in labour productivity. We find some empirical support, from a number of European countries, for the main predictions of this model that unemployment and output are positively related when unemployment is low and inversely related when unemployment is high. An important policy insight that emerges from this study is that an exogenous stimulation of aggregate demand can only raise output and reduce unemployment provided the economy is operating relatively efficiently. However, when an economy is trapped in an inefficient equilibrium, positive demand shocks can lead, perversely, to an increase in unemployment.
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Suggested Citation

  • Jim Malley & Hassan Molana, 2001. "Monopolistic Competition, Efficiency Wages and Perverse Effects of Demand Shock," Dundee Discussion Papers in Economics 122, Economic Studies, University of Dundee.
    • Handle: RePEc:dun:dpaper:122
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    References listed on IDEAS

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    Cited by:

    1. Jim Malley & Hassan Molana, 2007. "The Relationship between Output and Unemployment with Efficiency Wages," German Economic Review, Verein für Socialpolitik, vol. 8(4), pages 561-577, November.
    2. repec:bla:germec:v:8:y:2007:i::p:561-577 is not listed on IDEAS

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    More about this item

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • J41 - Labor and Demographic Economics - - Particular Labor Markets - - - Labor Contracts
    • H3 - Public Economics - - Fiscal Policies and Behavior of Economic Agents

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