More on The Edgeworth Box Lectures in Microeconomics-Charles W. Upton
Marginal Rates of Substitution Apples Harry More on the Edgeworth Box Bananas When they are on the contract curve, MRSSAB = MRSHAB Sally
Marginal Rates of Substitution Apples Sally Then trade Harry More on the Edgeworth Box Bananas When they are on If not, trading is the contract curve, possible. MRSSAB = MRSHAB Suppose MRSSAB = 4 MRSHAB= 3
Two Qualifications • Consumer Sovereignty More on the Edgeworth Box
Two Qualifications • Consumer Sovereignty – Are we comfortable with welfare checks being spend on drugs and alcohol? – Do we think children know what is best for them? More on the Edgeworth Box
Two Qualifications • Consumer Sovereignty • Do we have anything to say about the right point on the contract curve? More on the Edgeworth Box
The Utility Possibility Frontier Harry’s Utility We construct the Utility Possibility Frontier by reading off the different levels of utility from the Contract Curve Sally’s Utilitythe Edgeworth Box More on
The Utility Possibility Frontier Harry’s Utility Simply another way of stating the We construct the contract curve Utility Possibility Frontier by reading off the different levels of utility from the Contract Curve Sally’s Utilitythe Edgeworth Box More on
The Utility Possibility Frontier Harry’s Utility Simply another way If we had social of stating the We construct the indifference curves for contract curve Utility Possibility the various Frontier by combinations of utility, reading off the we could find the best different levels of point along the utility from the Contract Curve contract curve Sally’s Utilitythe Edgeworth Box More on
The Utility Possibility Frontier Harry’s Utility Sally’s Utilitythe Edgeworth Box More on
The Core and Markets • The yellow area is the core. More on the Edgeworth Box
The Core and Markets • The yellow area is the core. • If only Harry and Sally are involved, they will sit down and simply haggle with each other. More on the Edgeworth Box
The Core Apples Bananas If only Harry and Sally are involved, they will sit down and simply haggle with each other. Harry Sally More on the Edgeworth Box
The Core Apples Bananas Suppose there are hundreds of Harry's and If only Harry Sallies? and Sally are involved, they will sit down and simply haggle with each other. Harry More on the Edgeworth Box Sally
The Core Apples Harry Bananas The normal laws of supply and demand will work and will tell us exactly where we will end up Sally More on the Edgeworth Box
The Core Apples Sally Bananas The normal laws of supply and demand will work and will tell us exactly where we will end Suppose that Harry and Sally start up out with (a. XH, b. XH) and (a. XS, b. XS). Harry More on the Edgeworth Box
The Core Apples Bananas We tell Harry that he can buy and sell apples and bananas at prices (1, pb). The only constraint is that (a. XH- a. H) + pb(b. XH- b. H) = 0 Harry More on the Edgeworth Box Sally
Markets (a. XH- a. H) + pb(b. XH- b. H) = 0 Revenue from Apples Purchases of Bananas More on the Edgeworth Box
The Core Apples Harry Z More on the Edgeworth Box Bananas If Harry’s budget line is the dotted line, he will want to move to Z Sally
Markets • If Sally is told that she can buy and sell apples and bananas subject to a budget constraint (a. XS- a. S) + pb(b. XS- b. S) = 0 she will be willing to buy and sell. More on the Edgeworth Box
Markets • If Sally is told that she can buy and sell apples and bananas subject to a budget constraint (a. XS- a. S) + pb(b. XS- b. S) = 0 she will be willing to buy and sell. • However the price that persuaded Harry to move to Z, might or might not move her to Z. More on the Edgeworth Box
The Fundamental Theorem For any starting point there is a price pb which will lead both Harry and Sally to move to the same point on the contract curve. More on the Edgeworth Box
The Fundamental Theorem For any starting point there is a price pb which will lead both Harry and Sally to move to That is, there is a price that on the same point equates supply and demand. It contract curve. puts Harry and Sally on the contract curve More on the Edgeworth Box
Summary • Normal trading gets Pareto Optimality in distribution. MRS(Harry ) = MRS(Sally) • More to Come More on the Edgeworth Box
End © 2006 Charles W. Upton More on the Edgeworth Box
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