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Walras General Equilibrium Model

1. Critically appraise the role of the Auctioneer in Walras' presentation of general equilibrium.
2. Critically appraise Walrasian general equilibrium theory.
3. Distinguish clearly between Walras' Law and Say's Law.
4. Distinguish between partial and general equilibrium.
5. Explain the role of the numéraire in a GE model.
6. Explain and discuss the questions which emerged from Walras's research strategy. (Is GE possible? Is the GE economically meaningful? How is production integrated into the GE? Are individual market equilibrium conditions consistent with the GE? Is the GE stable?)
7. Compare and contrast Marshall and Walras on method.

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1 & 2.
The auctioneer in Walras' theory is a hypothetical machine, so to speak, that perfectly matches demand with supply. The mechanism is the transference of consumer to production utility functions. The "auctioneer" is that mechanism. The neoclassical approach has been criticized as overly simplistic, mechanistic and automatic. In other words, it assumes that utility functions are quantitative, can be grasped my the market mechanism quickly, and that other, sometimes non-economic variables, can play a role in both utility, markets and production decisions.

Walrasian equilibrium theory is based on two propositions: first, that all consumption is a function of the maximization of the agent's utility price, and second, production will always match it, leading to the matching and balance of both sides of the equation. In other words, all deficits and surpluses will be canceled out.

The problems here are that the rationality-utility calculus is problematic empirically. It is difficult to separate a critical approach to the general equilibrium theory from the auctioneer, since the latter is just a personification of the former. The former is the system as a whole, the latter is how the whole both comes into existence and maintains itself. In real terms, they are the same thing.

The reaction against this systemic theory of utility balancing can be reduced, but does not have to be reduced, to Keynes. Keynes is convenient in that he summarizes the problems with neo-classical equilibrium in general. He does this by introducing the full complexity of economics. Such variables that are not part of the neo-classical equation such as status demands, irrational behaviors as aspects of social practice, the problem of utility as such, and the nature of such human propensities as habit and the simple fact that maybe economic rationality is not the sole and exclusive purpose of human beings in the market place. Keynes writes:

Or look at the matter thus. Consumption is satisfied partly by objects produced currently and partly by objects produced previously, ie by disinvestment. To the extent that consumption is satisfied by the latter, there is a contraction of current demand, since to that extent a part of current expenditure fails to find its way back as a part of net income. Contrariwise whenever an object is produced within the period with a view to satisfying consumption subsequently, an expansion of current demand is set up. Now all capital-investment is destined to result, sooner or later, in capital-disinvestment. Thus the problem of providing that new capital-investment shall always outrun capital-disinvestment sufficiently to fill the gap between net income and consumption, presents a problem which is increasingly difficult as capital increases. New capital-investment can only take place in excess of current capital-disinvestment if future expenditure on consumption is expected to increase. Each time we secure to-day's equilibrium by increased investment we are aggravating the difficulty of securing equilibrium to-morrow. A diminished propensity to consume to-day can only be accommodated to the public advantage if an increased propensity to consume is expected to exist some day.

This challenges both the general model and the personification of the auctioneer. The very existence of market forecasting, risk assessment and the human propensity to err is taken seriously by Keynes, but not by the neo-classical school. The assumption of this school are fantastic. They include, of course, the concept of maximizing utility, the levels of knowledge that consumers have and that utility is easily expressible and exchangeable. Very good arguments can be thrown at these Enlightenment-era mechanical assumptions.

The financial crisis of 2007 might be an example used to criticize any approach to economic rationality, which is at the root of all equilibrium work. In the mortgage industry, there were so many demands to refinance, that banks and insurance firms were not carefully reading all applications. They were bundled, approved as such, and sold off to different investors. The irrationality here is dual: first, that housing values were going to continue to rise for the near or even indefinite future, and that approving mortgages and refinances had become a matter of routine. Even the Federal Reserve bank of San Francisco admitted that the assumptions of future defaults were deliberately kept low by all concerned. Rationality and utility were thrown out the window as soon as housing prices began to make big and quick ...

Solution Summary

The solution discusses the walras general equilibrium model.