(DP 1994-01) Macromodels and Walras' Law

Abstract

Using a short-period macromodel with familiar components, this paper reformulates the aggregate demand (AD) function so that in conjunction with an aggregate supply (AS) function, one has an AS/AD framework with the following features: unlike the textbook treatment based on IS-LM where the I = S equilibrium condition is satisfied at every point of the AD curve, I = S only where AS = AD; involuntary unemployment is the typical case; and the money wage is not exogenously given. Walras' Law does not hold in the model. It may hold in other short-period models but only because of special assumptions about AD or AS.