Fiscal Increasing Returns, Hysteresis, Real Wages and Unemployment

32 Pages Posted: 8 Jan 2007 Last revised: 25 Jul 2010

See all articles by Olivier J. Blanchard

Olivier J. Blanchard

National Bureau of Economic Research (NBER); Peter G. Peterson Institute for International Economics

Lawrence H. Summers

Harvard University; National Bureau of Economic Research (NBER); Harvard University - Harvard Kennedy School (HKS)

Date Written: October 1986

Abstract

European unemployment is widely regarded as a problem of excessive real wages. This view as it is usually expressed carries the disturbing implication that there is a sharp conflict between the interests of those currently employed and the unemployed because it suggests that increases in employment will require reductions in the real wages of those currently employed. The first part of this paper shows that increases in employment in Europe are likely to be associated with rising real take-home pay for workers because of fiscal increasing returns. Increases in employment and output will make possible reductions in taxes sufficiently large to offset any effects of diminishing returns to labor. The second part of the paper considers alternative explanations for the failure of nominal wages to adjust so as to restore full employment and their implications for the efficacy of fiscal policies. It concludes that under a variety of plausible conditions tax cuts would succeed in stimulating employment.

Suggested Citation

Blanchard, Olivier J. and Summers, Lawrence H., Fiscal Increasing Returns, Hysteresis, Real Wages and Unemployment (October 1986). NBER Working Paper No. w2034. Available at SSRN: https://ssrn.com/abstract=344825

Olivier J. Blanchard (Contact Author)

National Bureau of Economic Research (NBER) ( email )

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Peter G. Peterson Institute for International Economics ( email )

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Lawrence H. Summers

Harvard University ( email )

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Cambridge, MA 02138
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National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Harvard University - Harvard Kennedy School (HKS) ( email )

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Cambridge, MA 02138
United States

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