Tuesday, April 13, 2010

First and Second Welfare Theorems

It probably won't occur to students without mention that the First Welfare Theorem is viewed by many economists as the formalization of Smith's Invisible Hand. (Though this critique by Mark Blaug, to the effect that Smith was focusing on dynamic efficiency, how fast a society would grow, while the Welfare Theorems are fundamentally about static efficiency, suggests that many current day economists misinterpret the Invisible Hand.) Also, there is no effort given in the video to even hint at the proof of the First Welfare theorem, to the extent that if there are unexploited gains from trade at current market prices, then some agent(s) can't be maximizing under their budget constraint(s). All that the video shows is that the familiar picture of Competitive Equilibrium within the Edgeworth Box results in the indifference curves of the two consumers to be tangent, the necessary condition for Pareto Optimality.

The treatment of the Second Fundamental Theorem is even more cursory because there is no discussion at all of redistributing the initial allocation. All that is noted is that if the initial allocation happens to be a Competitive Equilibrium allocation, there there will be prices to support the allocation.

This is the audio only in case the student prefers to play with the spreadsheet while listening.