III. Pareto efficiency

General equilibrium and Pareto efficiency

I. General equilibrium conditions (revision)

II. Equilibrium in exchange economy

· Producers are not engaged in trade (e.g. bartering system) · In order to find General Equilibrium in exchange economy in is enough to solve 1. and 3. from the list above under given initial endowments
You are given:	You need to find:
2x2 economy (2 goods, 2 consumers) Utility functions (UA(x;y)= ; UB(x;y)= ) Initial endowments:WA=( ; ); WB=( ; )
Step 1 Each consumer maximizes his utility s.t. BC =>Demand on goods
Remember that you can apply positive monotonic transformation and your preferences won’t change: So for Cobb Douglas general formula for demand is:
Step 2 Overall quantity Demanded= Overall quantity Supplied for each good Market X: => =>

Walras’ law

Expenses=Income for A: Assume exchange economy Expenses=Income for B: Both markets: =0 Walras' Law implies that the sum of the values of excess demands across all markets must equal zero, whether or not the economy is in a general equilibrium. Implication: If (N-1) markets are in equilibrium (ED on each=0) then Nth market will be in equilibrium(EDN=0)

Edgeworth box

1. Show length and width of the box 2. Show initial endowment point 3. Show new allocation(general equilibrium) 4. Draw a line through these points=> BC with slope

III. Pareto efficiency

Efficiency in consumption (allocation of goods among consumers is efficient): Efficiency in production (allocation of goods among producers is efficient): (point on PPF) Allocation efficiency (production process of goods is efficient):

Efficiency in consumption (allocation of goods among consumers is efficient): Offer curve - the amount of one good that consumer is willing to give up for another good at given prices. Contract curve – set of all efficient allocations.

Allocation efficiency (allocation of goods among consumers is efficient):

Date: 2016-01-14; view: 449