Supply Constraints on Employment and Output: NAIRU Versus Natural Rate

Abstract

Every macroeconomic theory needs a concept of the economy’s productive capacity, the overall constraint on the effectiveness of increasing aggregate demand in increasing actual output and employment. This is not a technocratic physical limit, such as could be relevant to a wartime emergency. In the United States in World War II the entire population was working overtime, unemployment was 1 per cent, plants were operating on shifts around the clock, and quantitative controls dictated by central government priorities displaced market prices and wages in allocating resources. This regime performed miracles. In 1944 nearly half the GNP was commandeered for war, and the remainder was greater than the entire prewar GNP. Clearly this kind of economy is not feasible in peacetime.

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