Technical Progress and Involuntary Unemployment Under Deflation With Real Balance Effect

We study the steady state with involuntary unemployment and fiscal policy to realize full-employment in a situation with technical progress. Under involuntary unemployment the nominal wage rate may decline. Then, the prices of the goods also decline, and the real balance effects work. In a three-generations OLG model of this paper consumptions in the childhood period are financed by borrowing money from the previous generation consumers, and these debts must be repaid in the next period. In such a model there may exist positive or negative real balance effect of decline of the nominal wage rate and the prices. Among others we show the following results. If the deflation (nominal wage rate decline) rate is equal to the technical progress rate, in order to maintain a steady state with constant employment a balanced budget is required. If the deflation rate is smaller than the technical progress rate and there exists a positive (or negative) real balance effect, in order to maintain a steady state with constant employment a budget deficit (surplus) is required. Also we show that fiscal policy to realize full-employment usually requires larger budget deficit, and the extra budget deficit for full-employment should be financed by seigniorage not by public debt