Q.Enumerate the assumptions of Classical Theory of Employment.

The classical theory assumed that the economy is normally at full employment because of Say's Law (supply creates its own demand), flexible wages, prices and interest rates, perfect competition and laissez-faire, with money being neutral. Any unemployment is temporary and self-correcting.

Background

The Classical Theory of Employment, associated with economists like J.B. Say, Adam Smith, Ricardo, Pigou and Marshall, held that the economy automatically achieves full employment of its resources. It was built on certain basic assumptions, which Keynes later criticised.

Assumptions of the Classical Theory of Employment

1. Existence of full employment — full employment of labour and other resources is the normal situation; unemployment is only temporary and abnormal.
2. Laissez-faire policy — there is a free-market economy with no government interference in economic activity.
3. Say's Law of Markets — "supply creates its own demand"; the act of producing goods generates income exactly enough to buy all that is produced, so there can be no general over-production or deficiency of demand.
4. Self-adjusting economy — the economy automatically corrects itself through flexible wages, prices and the rate of interest, which bring saving and investment and the demand and supply of labour into balance.
5. Perfect competition — perfect competition prevails in both product and factor markets, with flexible wages and prices.
6. Wage-price flexibility — money wages and prices are fully flexible; any unemployment is removed by a fall in wages. …