The capital stock and equilibrium unemployment: a new theoretical perspective

By assuming Cobb-Douglas production technology, many well-known imperfectly competitive macroeconomic models of the labour market (e.g. Layard, Nickell and Jackman, 1991) imply that equilibrium unemployment is independent of the capital stock. This paper introduces a new notion of capacity into the standard framework. Specifically, we adapt the Cobb-Douglas production function so that when the capital-labour ratio drops below a certain threshold, the returns to labour fall while the returns to capital increase. Using this assumption, we show that equilibrium unemployment depends on the capital stock over a certain range. We also briefly discuss the generalisation for an endogenous capital stock