Chapter 2

The Postulates of Classical Economics Icon

Most theories of value and production focus on the distribution of a given volume of employed resources between different uses. These uses determine their relative rewards and the relative values of their products.

Those theories describe the volume of the available resources relative to:

  • the employable population size
  • the extent of natural wealth
  • the accumulated capital equipment

But the pure theory of what determines the actual employment of the available resources has seldom been examined in detail.

The Classical Theory Of Employment

This is based on two fundamental postulates:

  1. Wage is equal to the marginal product of labour

A worker’s wage is equal to the value which would be lost if employment were reduced by one unit after deducting any other costs which this reduction of output would avoid.

This equality is disturbed if competition and markets are imperfect.

This gives the demand curve for employment.

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

The worker’s real wage is that which is just enough (in the workers’ view) to induce the workers to work.

This assumes that the equality for each individual woker may be disturbed when the workers combine as to create the imperfections of competition among workers which qualify the first postulate.

This gives the supply curve for employment.

“Disutility” is when the worker stops working rather than accept a slave-wage [provides less value than is minimum needed by the worker].

‘Frictional’ unemployment is unemployment due to:

  • a temporary imbalance between the number of workers and the intermittent demand,
  • time-lags from unforeseen changes; or
  • the fact that changing from one job to another has a certain delay. This causes employable people to be unemployed ‘between jobs’.

In addition to ‘frictional’ unemployment, this second postulate is also compatible with ‘voluntary’ unemployment due to the refusal or inability of a worker to accept wages corresponding to the value of his marginal productivity. This could be a result of:

  • legislation,
  • social practices,
  • a combination for collective bargaining,
  • a slow response to change, or
  • mere human obstinacy

Classical postulates do not have the concept of ‘involuntary’ unemployment.

The amount of employment is fixed where the utility of the marginal product [wages] balances the disutility of the marginal employment [workers refusing to work for slave wages].

Four Classical Ways to Increase Employment

It follows that there are only four ways to increase employment:

  1. An improvement in organisation or in foresight which reduces ‘frictional’ unemployment

  2. A decrease in the marginal disutility of labour [workers refusing to work for slave wages] by raising real wages so as to reduce ‘voluntary’ unemployment

  3. An increase in the marginal physical productivity of labour in the “wage-goods industries” (this is Pigou’s term for goods that is the basis for the utility of the money-wage)

  4. An increase in the price of non-wage-goods [luxuries] compared with the price of wage-goods [essentials], arising from a shift in the spending of non-wage-earners from wage-goods to non-wage-goods [increased demand].

This is Pigou’s Theory of Unemployment, which is the only detailed account of the classical theory of employment*.

Superphysics Note: Adam Smith has a more complete version in the Wealth of Nations Book 1, Chapters 6-9. But no one seems to bother to check it

Keynes Corrupts Classical Economics by Enshrining Nominal Money-Wages over Real Wages

Are the above categories enough?

More labour would come at the existing money-wage if it were demanded.

The classical school reconciles this with their second postulate. They argue that the demand for workers at the existing nominal wage* can be satisfied before everyone willing to work is employed.

However, this situation is due to an agreement amongst workers not to work for less. If all workers agree to lower nominal wages* , then more employment would come. In this case, such unemployment is apparently involuntary. But it should be included under the ‘voluntary’ unemployment due to the effects of collective bargaining, etc.

*Superphysics Note: Here, Keynes corrupts the Classical Theory by replacing real wages with nominal wages

Let us assume that:

  • workers do not want to work for a lower nominal wage
  • a reduction of nominal wages would lead to unemployment through strikes
This does not mean that the existing real wages accurately measures the marginal disutility of labour* [workers refusing to work for slave wages]

*Superphysics Note: Keynes’ wrong assumption of making nominal wages more important than real wages leads to this wrong statement. He wrongly assumes that humans work for money (dollar bills, coins) and not for the food, essentials, and luxuries that that money provides

A reduction in the existing nominal-wage would lead to work stoppage. But it does not follow that a fall in the value of the existing nominal-wage in terms of wage-goods would do so, if it were due to inflation.

Within a certain range, the demand of labour is for a minimum nominal-wage and not for a minimum real wage.
WTF?!? Humans work for paper bills and coins??

The classical school has assumed that this would involve no significant change in their theory*. But this is not so. If the supply of labour is not a function of real wages as its sole variable, their argument breaks down entirely. It leaves the question of what the actual employment will be quite indeterminate.

*Superphysics note: Keynes here purposely corrupts the Classical theory which is based on real wages and does not care about nominal or money-wages. Real wages always has consumer prices (wage-goods) as their reference. But Keynes is all for nominal money-wages which he imposes on the Classical theory. He then blames the Classical theory for its mistake when Keynes is the one making the mistake. The Classical theory has been in force since the time of the ancient Greeks up to the 18th century. How could the collective billions of people from that timespan be wrong, and only Keynes be correct?

They did not realise that, unless the supply of labour is a function of real wages alone*, their supply curve for labour will shift bodily with every movement of prices.

*Superphysics note: Yes, the Classical economists knew that. That’s why they ignore nominal wages. But Keynes imposes nominal wages which is not what the Classical theory is about.

Thus their method is tied up with their very special assumptions*. It cannot be adapted to deal with the more general case.

*Superphysics note: Yes, the Classical postulates require the ignoring of nominal values which is opposite of what Keynes is doing and imposing as a general case

Workers normally want a a nominal-wage rather than a real wage. This is because workers will usually resist a reduction of money-wages. But they do not withdraw their labour whenever inflation hits*.

WTF?!? The reason why workers resist reduction in money-wages is because such a reduction is large and happens in one time. Inflation, on the other hand, is slow and happens in small amounts. Eventually when those small amounts add up to a large amount, workers will resist inflation too, just as they resisted an instant reduction in money wages.

*Superphysics Note: Workers actually go on strike during inflation which is a temporary withdrawal of labour.

Moreover, it is not true that the unemployment in a depression is due to workers refusing to accept lower money-wages . Unemployment in the United States in 1932 was not due to:

  • workers obstinately refusing to accept lower money-wages or
  • its obstinately demanding a real wage beyond what the productivity of the economy could provide

Wide variations are experienced in the volume of employment without any apparent change either:

  • in the minimum real demands of labour or
  • in the productivity of labour

Labour is not more truculent in the depression than in the boom — far from it. Nor is its physical productivity less. These facts are a prima facie ground for questioning the adequacy of the classical analysis*.

*Superphysics Note: The Classical theory does not blame workers for the Depression. It blames the profit maximization of the investment function which prevents investments and the circulation of value. Profit maximization is a new invention by the Marginal Revoltion of the 1870’s that is incompatible with Classical Economics. Keynes totally ignores profit maximization and instead blames the workers not agreeing to lower money wages for the Depression.His solution then becomes to flood the economy with money via quantitative easing and deficit spending which lead to even more problems. His system is thus socialism for Wall Street and the financial system. The banking system likes this and so it became their interest to promote Keynes over Pigou and Hayek through lobbying.


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