Aggregative Wage Theory and Money Illusion

Abstract

IN AN interesting article in the December, 1956, issue of this Journal, Professor Bronfenbrenner addresses himself to the ageold question whether a general rise in wages will lead to a fall in employment (the classical view), leave employment unchanged (the Keynesian view), or stimulate employment (the philosophy of high wages).' In answering this question, Bronfenbrenner starts from a very simple model, which he later expands into a more complex structure. Since his fundamental ideas are fully included in the basic model, I shall restrict my remarks to it. Let me first very briefly reconstruct Bronfenbrenner's model. He assumes a closed economy with unemployed resources and an elastic monetary system and tries to find out what effect a general rise in wages will have on employment if there is no immediate change in employment (and output) following the wage increase (that is, if the impact demand for labor is absolutely inelastic). The increase in wages and payrolls can either come out of profits or be shifted onto prices. Bronfenbrenner designates as k that proportion of a unit (dollar) increase of wages and payrolls that is paid out of profits, so that (1 k) is the change in aggregate selling prices.2 He further introduces the terms m and in', which stand for the marginal propensity to consume in money terms of workers and capitalists, respectively.3 If wages are increased by one unit, the additional expenditure by workers will be equal to m. Capitalists' income will be reduced4 by k, and their expenditure will consequently decline by km'. The selling price of the (original) output will be raised by (1 k). For the (unit) rise in wages to lead to higher employment, the additional spending must be greater than the increase in the selling price of the output:5