THE TRUE THEORY OF UNEMPLOYMENT
Excerpts from Full Employment at Any Price? By F. A. HAYEK,
Nobel
Laureate 1974,
(IEA) THE INSTITUTE OF ECONOMIC AFFAIRS, 1975
The true, though untestable, explanation of extensive unemployment ascribes it to a discrepancy between the distribution of labour (and the other factors of production) between industries (and localities) and the distribution of demand among their products. This discrepancy is caused by a distortion of the system of relative prices and wages. And it can be corrected only by a change in these relations, that is, by the establishment in each sector of the economy of those prices and wages at which supply will equal demand.
The cause of unemployment, in other words, is a deviation from the equilibrium prices and wages which would establish themselves with a free market and stable money. But we can never know beforehand at what structure of relative prices and wages such an equilibrium would establish itself We are therefore unable to measure the deviation of current prices from the equilibrium prices which make it impossible to sell part of the labour supply. We are therefore also unable to demonstrate a statistical correlation between the distortion of relative prices and the volume of unemployment. Yet, although not measurable, causes may be very effective. The current superstition that only the measurable can be important has done much to mislead economists and the world in general.
The misdirection of labour
Inflation makes certain jobs temporarily attractive. They will disappear when it stops or even when it ceases to accelerate at a sufficient rate. This result follows because inflation
(a) changes the distribution of the money stream between the various sectors and stages of the process of production, and
(b) creates expectation of a further rise of prices.
The defenders of a monetary full employment policy often represent the position as if a single increase of total demand were sufficient to secure full employment for an indefinite but fairly long period. This argument overlooks both the inevitable effects of such a policy on the distribution of labour between industries and those on the wage policy of the trade unions.
As soon as government assumes the responsibility to maintain full employment at whatever wages the trade unions succeed in obtaining, they no longer have any reason to take account of the unemployment their wage demands might have caused. In this situation every rise of wages which exceeds the increase in productivity will make necessary an increase in total, demand if unemployment is not to ensue. The increase in the quantity of money made necessary by the upward movement of wages thus released becomes a continuous process requiring a constant influx of additional quantities of money. The additional money supply must lead to changes in the relative strength of demand for various kinds of goods and services. And these changes in relative demand must lead to further changes in relative prices and consequent changes in the direction of production and the allocation of the factors of production, including labour. I must leave aside here all the other reasons why the prices of different goods — and the quantities produced — will react differently to changes in the demand (such as elasticities — the speed with which supply can respond to demand).
The chief conclusion I want to demonstrate is that the longer the inflation lasts, the larger will be the number of the workers whose jobs depend on a continuation of the inflation, often even on a continuing acceleration of the rate of inflation — not because they would not have found employment without the inflation, but because they were drawn by the inflation into temporarily attractive jobs which after a slowing down or cessation of the inflation will again disappear.