Metallism and Neoclassical
Metallism and Neoclassical
Economics
Economics
Lauri Holappa
16.3.2015
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
3/14/15
1
Outline
 
Metallist view of Money
 
Neoclassical Macroanalysis
 
Structural Unemployment
 
Logical Policy Recommendations
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
2
Metallist View of money (1)
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Adam Smith: economic system based on conceit and
pursuit of own interests
Barter as a natural consequence of these starting
points
Smith imagined a historical narrative that reinforced
these premises
Workers were able to gather surplusses as a
consequence of the increasing division of labour
Workers started to trade surplusses with each other
→ money was needed to foster the barter process
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
3
Metallist View of money (2)
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Precious metals were selected as money tokens for
various practial reasons
  They were later replaced by state coins and bank notes
Money was only a medium of exchange → quantity of
money did not have anything to do with levels of
production or employment
  Levels of production were set only according to the
prevailing levels of leisure/work preferences (labour
supply), productivity, and quantity of capital
Quantity of money should follow changes in the levels
of production → if quantity of money grew faster than
the level of production, inflation accelerated
  Value of money is based on its scarcity
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
4
Neoclassical Macroanalysis (1)
•  GDP consists of labour input, total productivity, and
quantity of capital (accounting identity)
•  Quantity of capital vaguely defined and exogenously
given
•  Productivity = input/output ratio
•  Exogenously determined to a great extent
•  Level of education and level of R&D funding affect the
productivity rate
•  Labour supply = Aggregate labour input
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
5
Neoclassical Macroanalysis (2)
•  Labour input = working age population x participation
rate x (1-U*)
•  (1-U*) = level of structural unemployment
•  Participation rate = share of the working age
population that is available for the labour market
•  E.g. Students might belong to working age population
but may not be available for the labour market
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
6
Structural Unemployment (1)
•  Rate of structural unemployment means the lowest
possible level of unemployment that can be achieved
in the long run
•  Also called the ’natural rate of unemployment’ or the
’non-accelerating inflation rate of
unemployment’ (NAIRU)
•  If the actual rate of unemployment goes below the
NAIRU, inflation begins to accelerate
•  If the actual rate of unemployment goes over the
NAIRU, inflation begins to slow down
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
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Structural Unemployment (2)
•  Marginal productivity of labour is assumed to be
diminishing
•  First hired worker produces 100 gadgets, second 98,
third 96…
•  Wage rate is assumed to be negatively correlated
with the unemployment rate
•  The barganing power of workers and unions increases
when the unemployment rate deacreases (and vice
versa)
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
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Real wage
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
Employment
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3/14/15
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Structural Unemployment (3)
•  Actual rate of unemployment always converges
towards the structural rate of unemployment
•  Accelerating inflation affects GDP growth negatively
 unemployment rate converges towards the nonaccelerating unemployment rate in the long run
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
10
Structural Unemployment (4)
•  Slowing inflation rate affects the purchasing power of
money positively
•  Deflation increases the purchasing power of money
•  Increasing unemployment rate  decreasing
aggregate demand  decreasing loan demand 
decreasing interest rates  inceasing aggregate
demand  decreasing unemployment rate  NAIRU
achieved again in the long run
•  Same result if the central bank cuts interest rates
whenever the unemployment rate is over the NAIRU
and hikes the rates whenever the unemployment rate is
below the NAIRU
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
11
Structural Unemployment (5)
•  So, unemployment rate may deviate from the NAIRU
in the short run
•  Adjustment mechanisms are slow because of wage and
price frictions
•  However, in the long run: unemployment rate =
NAIRU
•  Thus, the important questions is: can we change the
level of the NAIRU?
•  Yes, every society/economic system has its own
specific NAIRU
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
12
Structural Unemployment (6)
•  Various elements affect the NAIRU
•  Labour productivity
•  Incentives
‒  E.g. Unemployment benefits
‒  Tax incentives
•  Bargaining power
‒  Unionisation rate
‒  Level of wage bargaining (firm, union, state)
‒  Government backing
•  You may shift the PRW and BRW curves with structural
reforms  better employment levels possible
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
13
Logical Policy
Recommendations (1)
•  Economic growth is based on…
•  Labour input
•  Total productivity
•  Quantity of capital
•  Growth rate can be increased by increasing labour
input and total productivity
•  Quantity of capital given
•  How to increase total productivity?
•  Improve the level of education
•  Increase R&D funding
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
14
Logical Policy
Recommendations (2)
•  How to increase labour input?
•  Increase the size of working age population
‒  E.g. Increase immigration
•  Increase participation rate
‒  E.g. cut time devoted to studying
•  Decrease the rate of structural unemployment
‒  Increase labour productivity
‒  Weaken social benefits
‒  Cut taxation
‒  Weaken the power of unions
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
15
Logical Policy
Recommendations (3)
•  Economic policy is usually devided between demand
management policies and structural policies
•  Demand management policies try to improve GDP and
employment by stimulating aggregate demand (or by
suppressing it when economy is close to overheating)
•  Structural policies affect either productivity or labour
supply
•  Standard neoclassical theory assumes that aggregate
demand does not have any role in the long run
•  In the long run, unemployment rate = NAIRU
•  Only supply side factors affect the rate of NAIRU
• 
Only structural policies can improve the growth rate
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
16
Conclusions
•  Neoclassical theory makes a distinction between the
monetary factors and ’real’ factors
•  Only real factors can influence growth and (un)
employment rates
•  GDP is consisted of labour input, total productivity,
and quantity of capital (accounting identity)
•  Only structural policies can affect long run GDP
growth (neoclassical theory)
Valtiotieteellinen tiedekunta / Lauri Holappa /
Metallism and Neoclassical Macroeconomics
www.helsinki.fi/yliopisto
3/14/15
17