ABSTRACT
Most of the debate in macroeconomics during the past several decades has concerned itself with the ability of stabilization policy to change the unemployment rate and very little with the desirability of such action. Neoclassical macroeconomists argue against interventionism on the basis that governments are unable to influence the unemployment rate. They seem to take for granted that equilibrium is Pareto efficient and that everyone has an interest to eliminate unemployment. This view leaves out of account the fact that most labor-force participants are not threatened by unemployment and have no direct interest in providing job opportunities for the small minority that may from time to time experience involuntary unemployment. Keynesians, on the other hand, are convinced that a reduction in the unemployment rate would be a Pareto improvement; those who become employed gain, while those with prior employment do not lose. In fact, Okun’s Law, which showed that a onepercentage point reduction in the unemployment rate increased output by two to three percent, provided a dividend to everyone through greater productivity. These Keynesian welfare evaluations are inconsistent with the requirement that a reduction in the unemployment rate must be accompanied by a lower real wage and with the finding reported in Ch. 1 that Okun’s coefficient is too low to generate the necessary productivity dividend. Thus, both macroeconomic ideologies have an inadequate welfare basis for their policy conclusions. The purpose of this chapter is to remedy this deficiency and to determine whether there are any Pareto improvements in the traditional stabilization-policy framework that concentrates on adjusting aggregate demand for goods and services to achieve full employment. The next chapter will continue the search for welfare-improving policies that operate directly in the labor market.
