Economists have explained unemployment in terms of lack of capital, lack of investment and high production. Some believe that unemployment has its roots in the decline in the business cycle following a period of industrial prosperity. A few hold that dislocations in the industries and an inability to forecast the market have put a sizeable proportion of men out of work. Yet others are of the opinion that sudden economic deflation and impersonal forces of economic competition cause loss of work. Improvements in machine technology, over-production, falsely stimulated speculation, social emphasis upon monetary success and the inevitable depressions-all these make for crippling disruption in the demand of labour.
       The classical school of thought places the essential cause of unemployment on the ‘Wage Fund Theory’, according to which the wages of the workers are fixed in advance but because of lack of capital, the manufacturers engage only a small number of workers which results in unemployment. They say that the remedy for unemployment lie in lowering the wage rate. But how much down the wages could be brought? Could the labour be denied the minimum living standard to which it had got accustomed, and which in fact was it cause? This led the Cambridge professor John Maynard Keynes to enunciate a theory in 1936(in his book General Theory Of Employment, Money and Interest) which stated that national output, effective demand, and employment were interrelated and that volume of employment in an economy at any point of time, depended upon the level of effective demand which meant total volume of the country’s output of goods and services. If national output is rising constantly, employment would be doing so ipso facto. However, at times there could be some distortions in this framework. If savings exceeded investments, effective demand for goods and services would decline and with that would decline the demand for labour. This would result in some amount of unemployment. However this could be remedied, so goes the Keyne’s theory, by the state intervening and stimulating investments through proper fiscal measures and raising consumption level by injecting into the market new purchasing power, by producing deficit budgets. After this, as after Second World War full employment came to be accepted as the goal of the monetary policies to be pursued by governments , budgets deficit came to be looked upon as not only legitimate but also the most desirable instrument for ‘social engineering’. However, this was nothing but the distortion of Keynesian theory, which made inflation a perennial feature of economic scene both in developed and developing economies.
       The new classical school believes unemployment to be the result of overproduction. Overproduction reduces the prices of the commodities which necessitates reducing the workers, which in turn increases unemployment. Some economists have referred to the imbalance between demand and supply as the cause of unemployment. When effective demand declines for the products of industry, prices drop, factories close down, wages stop, and men are shifted from the employed to the unemployed status through no fault of their own. Less demand is the result of slow rate of development in early years, or postponing investments due to poor trade and commerce, and/or shift (or investment) from the industrial to the non-industrial sector. Lionel Edie (1926:422) is of the opinion that unemployment is caused by the disruption of the economic structure. Elliott and Merrill (1950:606) have said that unemployment is primarily a result of the decline in the business cycle following a period of industrial prosperity. Advances in technical skills and highly specialized division of labour also make it impossible for able-bodied and capable men to secure jobs. Bartlett (1949:6-9) has said that the virtually monopolistic industries, like iron and steel industry, have been major factors in producing depressions. These industries, he charges, do not lower their prices sufficiently during the period of declining price levels in other industries to make it possible to keep their production.

Read the above paragraph carefully and write the answers of the following questions in comments section to improve your comprehensive ability.

1.What do you think what is the most important cause for unemployment?

2. According the new classical school of thought Unemployment is the result of which process and why?

3. Explain in brief the ‘Wage Fund Theory’?

4.What is the opinion of Ellitt & Merrill about Unemployment?

5. Explain how national output, effective demand & employment are interrelated?


1. Crippling – Cause to become unable to walk or move properly .

2 .Distortion – The action of giving a misleading account or impression.

3 .Perennial – Lasting or existing for a long or apparently infinite time.

4 .Legitimate – Conforming to the law or rules.

5  .Enunciate – Say or pronounce clearly.

Sneha Chavan
(Team Supravi)