The Edgeworth Box

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# The Edgeworth Box - PowerPoint PPT Presentation

The Edgeworth Box. The Basic Theorem. The basic theorem in welfare economics: A market, exchange, economy will achieve efficient resource allocation . We intend to show the basics of that proof. Some Basic Assumptions. A simple economy:Harry and Sally. Some Basic Assumptions.

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Presentation Transcript

### The Edgeworth Box

Lectures in Microeconomics-Charles W. Upton

The Basic Theorem
• The basic theorem in welfare economics:

A market, exchange, economy will achieve efficient resource allocation.

• We intend to show the basics of that proof.

The Edgeworth Box

Some Basic Assumptions
• A simple economy:Harry and Sally.

The Edgeworth Box

Some Basic Assumptions
• A simple economy:Harry and Sally.
• There are two factors of production, capital, K, and labor, L.

L = LH + LS

The Edgeworth Box

Some Basic Assumptions
• A simple economy:Harry and Sally.
• There are two factors of production, capital, K, and labor, L.

L = LH + LS

• These two factors of production can be used to produce either apples or bananas.

The Edgeworth Box

Three Basic Questions
• How many apples and how many bananas should be produced?

The Edgeworth Box

Three Basic Questions
• How many apples and how many bananas should be produced?
• How should the apples and bananas be allocated between Harry and Sally?

The Edgeworth Box

Three Basic Questions
• How many apples and how many bananas should be produced?
• How should the apples and bananas be allocated between Harry and Sally?
• How should capital and labor be allocated to the production of apples and bananas?

The Edgeworth Box

The Edgeworth Box

Apples

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The Edgeworth Box

Apples

Bananas

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The Edgeworth Box

Apples

Sally

Bananas

Harry

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The Edgeworth Box

Sally

Sally’s Bananas

Harry’s Bananas

Harry

Harry’s Apples

Sally’s Apples

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The Edgeworth Box

Sally

bs

aH

aS

bH

Harry

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Indifference Curves for Harry

Apples

Sally

Bananas

Harry

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Indifference Curves for Sally

Apples

Sally

Bananas

Harry

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Indifference Curves for Both

Apples

Sally

C

Bananas

B

A

Harry

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The Points of Tangency

Apples

The Contract Curve

Sally

C

Bananas

B

A

Harry

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The Contract Curve

Apples

Sally

Bananas

Harry

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The Core

Apples

Sally

Points in yellow area (the Core) make Harry and Sally better off.

Bananas

Harry

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More on the Core

Apples

Points on black portion of contract curve are Pareto Optimum.

Sally

Points in yellow area (the Core) make Harry and Sally better off.

Bananas

Harry

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Getting There

Apples

Points on black portion of contract curve are Pareto Optimum.

Sally

Harry and Sally will move to the contract curve via voluntary exchange.

Points in yellow area (the Core) make Harry and Sally better off.

Bananas

Harry

The Edgeworth Box

Getting There

Apples

Points on black portion of contract curve are Pareto Optimum.

Sally

Harry and Sally will move to the contract curve via voluntary exchange.

Points in yellow area (the Core) make Harry and Sally better off.

Here, they will end up along the black portion of the line

Bananas

Harry

The Edgeworth Box

Pareto Optimality

When Harry and Sally are on the contract curve, we say that they have achieved Pareto Optimality, the economist’s equivalent of “bliss”.

Apples

Sally

Bananas

Harry

The Edgeworth Box

Pareto Optimality

When Harry and Sally are on the contract curve, we say that they have achieved Pareto Optimality, the economist’s equivalent of “bliss”.

Apples

Sally

Bananas

Harry

The Edgeworth Box

Pareto Optimality

When Harry and Sally are on the contract curve, we say that they have achieved Pareto Optimality, the economist’s equivalent of “bliss”.

Apples

Sally

Bananas

It is impossible to make Harry better off without making Sally worse off (or vice versa)

Harry

The Edgeworth Box

Pareto Optimality

When Harry and Sally are on the contract curve, we say that they have achieved Pareto Optimality, the economist’s equivalent of “bliss”.

Apples

Sally

If they are not on the contract curve, it is possible to make one or both better off without making the other worse off.

Bananas

It is impossible to make Harry better off without making Sally worse off (or vice versa)

Harry

The Edgeworth Box

End