2. Introduction
• One of the major feature of developing nation is the unlimited
supply of labour due to
1. High population growth rate
2. Comparatively low stock of capital and natural resources
• Consequently, full employment can bring down the marginal
productivity
• Downward wage rigidity creates unemployment
• This is explained with the help of Lewis Model
3. Lewis Model: Assumptions
• Total number of workers is constant in the country.
• There are two sectors in the economy
1. Rural Sector: Based on Agricultural Activities
2. Urban Sector: Based on Industrial Activities
• Production functions are subject to law of diminishing returns to a factor
• Markets are perfectly competitive: Constant commodity prices
• Demand for labour in each sector is determined by the value of marginal
productivity.
• In both sectors wages are same and institutionally fixed
4. The Model
• Horizontal and vertical axes represent the
number of workers and wage rate
respectively
• 𝑂𝐴 𝑂 𝑀= Total labour force
• 𝐷𝐿
𝐴
= DD curve for labour in rural sector
• 𝐷𝐿
𝑀
= DD curve for labour in urban sector
• 𝑊= Institutional Wage
• 𝑊1 = Market clearing wage
• 𝑂𝐴 𝐿 𝐴= Rural employment
• 𝑂 𝑀 𝐿 𝑀= Urban employment
• 𝐿 𝐴 𝐿 𝑀= level of unemployment
• 𝐴𝐵 𝑊 = Surplus in the hand of rural landowners
• 𝑀𝑁 𝑊 = Surplus of urban capitalists
• 𝐷𝐿1
𝑀
= DD curve for labour in urban sector after
capital formation
• 𝑅𝑀1 𝑊= Surplus of urban capitalists after capital
formation
• 𝑂 𝑀 𝐿 𝑀
1
= Urban employment after capital
formation
• 𝐿 𝐴 𝐿 𝑀
1
= Unemployment after capital formation
𝑊1 𝑊1
𝐷𝐿
𝑀
𝐷𝐿1
𝑀
5. Survival of Unemployed
• Question: How is it possible for unemployed people to survive
1. Malthusian Theory- No chance of survival causing a decrease in supply
of labour would cause the economy to move towards full employment
equilibrium.
2. Lewis- Survival of unemployed workers through family sharing by the
land and capital owners from their respective surplus in different
ways:
a. Sharing extra income as financial support
b. Employing them though the marginal productivity is below wage or
even close to zero.
3. Some of unemployed workers migrate to urban area: that can increase
urban unemployment and emergence of an informal sector as well.
6. Capital Formation in Lewis Model
• Capital formation increases the labour productivity and hence
demand for labour in urban manufacturing sector.
• Increase in employment opportunity causes a decline in
unemployment
• Increase in surplus of capitalist causes further expansion of the urban
manufacturing sector causing higher demand for labour.
