Chapter 16 General Equilibrium, Efficiency, and Equity

Question 1

What does it mean for an economy to be inefficient?

Answer 1

An economy is inefficient if it’s possible to reallocate resources in a way that makes at least one consumer better off without hurting someone else.

Question 2

What does the first welfare theorem state?

Answer 2

In a general equilibrium, with perfect competition, the allocation of resources is Pareto efficient

Question 3

In an edgeworth box, what does the slope of the budget line depend on?

Answer 3

The price ratio between two goods is the slope.

Question 4

Define Pareto Efficiency

Answer 4

An allocation of resources is pareto efficient if its impossible to make any consumer better off without hurting someone else.

Question 5

Describe the utility possibility frontier

Answer 5

The utility possibility frontier shows the utility levels associated with all efficient allocations of resources with each person’s utility on each axis. Any point not on the boundary is inefficient

Question 6

How are budget lines constructed in Edgeworth Box’s?

Answer 6

Budget lines are drawn based on the endowment point and the price ratio’s of goods. For example, if two goods are equally priced at $1, then the budget line will have a slope of -1. It is also dependent on the axes of the box.

Question 7

Why is the exchange efficiency condition important?

Answer 7

The exchange efficiency condition occurs when every pair of individuals shares the same marginal rate of substitution for every pair of goods, ie their indifference curves are tangent to one another. Any point satisfying this condition is pareto efficient.

Question 8

Define the contract curve. How do you find it?

Answer 8

The contract curve shows every efficient allocation of consumption goods in an edgeworth box.