INTRODUCTION

As a start, it is natural to ask the following question: To what extent is the competitive paradigm useful in understanding the main features of the economic landscape described in Chapter 1? The general competitive equilibrium model is indeed the benchmark used by economists when they want to study the market properties of an economic issue. Before proceeding, we should remind the reader that the essence of this model is that all trades are impersonal: When making their production or consumption decisions, economic agents need to know the price system only, which they take as given. At a competitive equilibrium, prices provide firms and consumers with all the information they need to know to maximize their profit and their utility.

The most elegant and general model of a competitive economy is undoubtedly that developed by Kenneth Arrow, Gerard Debreu, and Lionel McKenzie. According to this model, the economy is formed by agents (firms and households) and by commodities (goods and services). A firm is characterized by a set of production plans, each production plan describing a possible input-output relation. A household is identified by a relation of preference, by a bundle of initial resources, and by shares in firms' profits. When both consumers' preferences and firms' technologies are convex, a price system (one price per commodity), a production plan for each firm, and a consumption bundle for each household exist that satisfy the following conditions at the prevailing prices:

1. i. Supply equals demand for each commodity;

2. ii. Each firm maximizes its profit subject to its production set; and

3. iii. Each household maximizes her utility under her budget constraint defined by the value of her initial endowment and her shares in firms’ profits. In other words, all markets clear while each agent chooses her most preferred action at the equilibrium prices.