Home > Uncategorized > Supply and Demand: fundamentally flawed model of labor market

Supply and Demand: fundamentally flawed model of labor market

from Asad Zaman

I am currently engaged in teaching the final semester of Advanced Micro in our Ph.D. program. I have freedom to do here at PIDE, Pakistan, what may be extremely difficult in US/Europe — My course is built around demonstrating how conventional micro theory is strongly contradicted by empirical evidence. I also go on to build a convincing alternative. The first lecture on micro topics, starts by dismantling the fundamental Supply and Demand model in the context of the Labor Market. This is exactly where Keynes starts his book the General Theory. What amazes me is that conventional Labor Econ texts use exactly the same theory that Keynes demolished, and never mention Keynes — his objections are swept under the carpet, instead of being adressed or answered. I have posted an outline of the first lecture on WEA Pedagogy Blog:

This is an outline of the lecture 3 in Advanced Microeconomics — expands somewhat on the slides available from the link. This should be useful to heterodox economists looking for ways to teach an alternative course, radically different from conventional approaches. First two lectures consisted of some preliminary math, and can be skipped without lack of continuity.  Video of the lecture (90m) is available at the bottom of the post.

Supply & Demand is Central to Economics: This is the modern Theory of Value. The market price determines the value – this is in conflict with classical conceptions of value.

BUT, this theory is WRONG!  The central question in theory of Value is: HOW are prices determined? Why are water and tomatoes cheap, and why are diamonds expensive?   read more


  1. April 8, 2017 at 12:03 am

    What Keynes focused on was the importance of *demand* and, specifically, propensity to spend on the part of consumers, in determining employment. In a pure Keynesian world, employment is determined by the demand for goods and services, not by the cost of employees. In a pure Keynesian world, the number of employees hired are the minimum needed to fulfil the demand for goods and services, and not one more — even if the additional worker would be paid 1 cent an hour, he’s not going to be hired, because then the competitor that *didn’t* hire that extra worker will be able to undercut you on price and put you out of business. The employees are paid as little as the employer can get away with (see previous), but the number of employees hired is not related to the price of the employees — they’re the minimum needed to meet demand, and if their price in the economy is too high, the prices of goods and services sold rise in order to a) reduce demand, and b) thus increase unemployment enough that the price of labor can be driven back down again.

    In short, in a Keynesian world, employment converges upon the minimum needed to fulfil the demand for goods and services in the economy, regardless of the price of labor or the supply of labor. If labor becomes expensive, in a Keynesian world employers raise their prices, which in turn reduces consumer demand, which in turn reduces need for employees and thus the price of employees. In a Keynesian world unemployment is the gap between the available supply of labor, and the amount of labor needed to fulfill consumer demand for goods and services.

    Of course, we no longer live in a Keynesian world, thanks to internationalism. In Keynes’ time, international trade was fairly insignificant as far as the US economy is concerned, less than 5% of the US economy prior to the Great Depression. In today’s world, the labor to fulfil consumer demand for goods may be in China, meaning that even if you increase demand here in the United States, it will not affect unemployment here in the United States as much as Keynes would have predicted if he’d had the statistical tools we have now.

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