The cost of focusing on general equilibrium theory

24 Aug, 2018 at 07:34 | Posted in Economics | 2 Comments

The largest problem with the economics profession’s focus on general equilibrium theory is the opportunity costs of that exploration. Important policy problems are not addressed. Consider Pareto optimality and the welfare theorems, which Fisher sees as the underpinnings of Western capitalism. In a world, such as ours, where property rights cannot be allocated effortlessly and costlessly, economist’s welfare theorems have little policy relevance. Does a policy maker care whether any Pareto efficient allocation can be decentralized as a competitive general equilibrium? The chance of discovering a real-world Pareto optimal policy that can be shown to harm no one in some infinitesimal way is essentially nil.

what ifBy focusing their theoretical policy analysis on Pareto optimal policies, economists avoid coming to grips theoretically with the messy value judgments that must be made in the policy space, which means that their theoretical models provide little guidance on how to deal with the messy problems of actual policy that are designed to achieve both efficiency and fairness. In its almost exclusive focus on efficiency, modern economists have moved away from Classical economist’s utilitarian moral philosophy that underlay Classical economist’s support of markets. Classical economists supported markets because they worked reasonably well in the real world, not because of any deductive proof of the benefits of markets.

Dave Colander


  1. Was Pareto optimality used a criterion for adopting our crappy policies that can’t be dropped because of Pareto optimality?

  2. Very interesting. I wrote about Pareto recently – specifically, I explored how considering Keynes without Pareto could imply we ignore how supply has inherent value beyond that established in market.
    This has practical implications not only for how we see price but also how we manage macroeconomic shocks.

    Let me know what you think :

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