Commodity-Supply Shock and Full-Employment Monetary Policy

If one or more unanticipated disturbances should cause the expectation of a lengthy contraction of commodity supplies, what quick adjustment of the money supply—failing a quick adjustment of money wage rates—would be required to maintain the normal volume of employment or whether the monetarist course be best suited to avoid both the Scylla of underemployment depression and the Charybdis of overemployment wage inflation. This chapter presents a formal analysis of this theoretical question. It discusses a closed economy producing a single final good with attention to traditional matters of capital, inflation, and interest. The supply shock is represented by a permanent decline in the supply per unit of time, to be denoted σ, of some raw material consumed in the production process.