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ch11notes - Keynesian Microeconomics Keynesians...

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Keynesian Microeconomics Keynesians traditionally assume Rigid Prices This may seem realistic . Incorrect Prices may imply irrational behavior. How can the failure to change prices be in anyone’s self-interest? New Keynesians work to answer this question. Labor Market Rigidities Classicals assume that wage adjustments assure that NS = ND at the market-clearing real wage rate. This would appear to preclude involuntary unemployment.
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Classical Labor Market N Real Wage ND NS N w N N < requires w w . N Real Wage ND NS N ˆ w ˆ w N
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Efficiency Wages Suppose that labor input requires effort in addition to workers merely being ‘present’ at work. Workers prefer not to put in effort. They would like to ‘shirk’ on the job. In a competitive labor market, workers have no incentive not to shirk. If they lose their jobs for shirking, they can always find another job that pays w . Monitoring workers may be difficult and costly. If they pay workers more than w , there will be a penalty for shirking. Fired workers may have to take a job at w .
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Wage-setting Behavior As wages rise above w , workers put in more and more effort.
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