Aggregate Demand Policies

From the point of view of job search and flows, what the Keynesian prescription of increasing Aggregate Demand tries to do is to increase the number of opportunities for job placements, by stimulating increased production. If successful, the increase in opportunities would lead directly to an increase in the flow of people from unemployment to employment, and by increasing the productivity of job search, would also increase the marginal benefits from search and so, indirectly, the average search effort. The flow perspective also alerts us to something else: increasing the flow of people out of the unemployed pool will reduce the size of the pool gradually over time. If the prescription succeeds, it will take time for it to work, and the longer it is left in place the more thoroughly it is likely to work. That's a "common sense" point, but the flow approach to job search helps us to integrate in into the macroeconomic theory and to see what its implications are for the different kinds of macroeconomic policies.

How does Aggregate Demand policy create opportunities?

An increase in the supply of money increases the supply of loans, and that leads to lower interest which favors increased investment.

By expanding production in general, but especially production of capital goods and other durables, this would increase the number of employment opportunities for labor and skill categories roughly in the proportion that the categories are employed in the production of capital goods and durables.

A tax cut would stimulate more spending by taxpayers.

By expanding production in general, predominantly for consumer goods, but also to some extent for more capital goods to produce those consumer goods, this would increase the number of employment opportunities for labor and skill categories roughly in the proportion that the categories are employed in the production of goods and services in general.

Government purchases of goods and services could, in principle, be more targeted. Expanding the production of military weapons, roads and hospitals by buying the weapons and hiring contractors and subsidizing hospitals would create opportunities in proportion as the labor categories are employed by the weapons firms, contractors and hospitals. A program of direct employment of the unemployed by the government, such as the Works Progress Administration (in the United States in the 1930's), by contrast, could draw people out of the unemployed category very fast, and could be targeted to those who have the fewest opportunities. As a result, it probably makes sense mostly as an emergency measure. And, of course, it raises the question as to whether the government ought to provide make-work jobs.

Make-Work Jobs