Final answer:
In the Keynesian model with efficiency wages, full-employment output is determined by the balance between higher wages intended to increase efficiency and the accompanying involuntary unemployment.
Step-by-step explanation:
In the Keynesian model with efficiency wages, full-employment output is determined in a scenario where wages are higher than the equilibrium level due to employers paying a premium to motivate their workers, retain talent, and increase productivity. This leads to some level of voluntary unemployment because not all workers who want to work at these wages find employment.
In the context of the Keynesian aggregate supply curve, as economic output expands and approaches or surpasses potential GDP, unemployment decreases and the economy experiences a labor shortage. Employers compete for labor, which drives up wages. However, since wages are reviewed periodically, there is a delay before these wage increases permeate the economy. Higher wages eventually cause a leftward shift of the short-run Keynesian aggregate supply curve (SRAS₁), signifying an increase in production costs. Consequently, the economy settles into a new equilibrium (E₂) marked by the same level of real GDP as the original equilibrium (E₁) but accompanied by higher prices, indicating inflation.
The determination of full employment in a Keynesian context with efficiency wages involves complex dynamics between labor demand, wage stickiness, and shifts in the aggregate supply. With efficiency wages, the full employment level of output is somewhat lower than it would be in a perfectly competitive market due to the unemployment created by wages set above the market-clearing level.