Price Flexibility and Full Employment: Barking up the Wrong (Neoclassical) Tree

This paper (a revised version of Strathclyde Paper 2004-07) questions the thesis (again in fashion) that price flexibility ensures full employment. (See most standard macro textbooks.) We make the point that explanation of unemployment in terms of price/wage stickiness typified much preKeynesian analysis, but not Keynes’s theory of involuntary unemployment. Under uncertainty - an essential aspect of the Keynes conception - no set of prices consistent with full employment may actually exist: if so, price inflexibility is not the critical obstacle to the attainment of full employment. Finally, with respect to current use of the AD/AS model, we note that once-rejected ideas have returned to the mainstream and that the strong arguments against attribution of necessarily beneficent effects to price and wage flexibility, which ought to be well-known, seem now to be forgotten.