Monopolistic competition, efficiency wages and perverse effects of demand shock

Jim Malley, Hassan Molana

    Research output: Working paperDiscussion paper

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    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.
    Original languageEnglish
    PublisherUniversity of Dundee
    Publication statusPublished - 2001

    Publication series

    NameDundee Discussion Papers in Economics
    PublisherUniversity of Dundee
    No.122
    ISSN (Print)1473-236X

    Keywords

    • Efficiency wages
    • Effort supply
    • Monopolistic competition
    • Multiple equilibria
    • Stability
    • Fiscal multiplier

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    Malley, J., & Molana, H. (2001). Monopolistic competition, efficiency wages and perverse effects of demand shock. (Dundee Discussion Papers in Economics; No. 122). University of Dundee.