The Relation Between Prices and Money Wages

Abstract

The working of the multiplier mechanism based on the principle of effective demand set out in the last chapter involved quantity- or price-adjustment. However, which type of adjustment would predominate as a result of an increase in effective demand depends on the supply conditions in the economy. It is easy to see that quantity-adjustment dominates when supply is elastic; conversely, price-adjustments dominate if supply is inelastic. The basic idea, representing the two polar opposite cases of either strict quantity- or price-adjustment, are shown in Figure 3.1.