Testing GE theory

It was Léon Walras in 1874 who first suggested that the maximizing behavior of consumers and producers can and, under certain conditions, will result in an equilibrium between amounts demanded and supplied in every product and factor market of the economy. This proposition of the possibility and even the likelihood of general equilibrium (GE) was not rigorously proved until the 1930s, but long before that date the sort of crude proof that Walras himself had supplied carried conviction with an increasing number of economists. Insofar as Walrasian GE is a logical consequence of the maximizing behavior of economic agents, rigorous existence proofs of GE seemed to provide an independent check on the validity of various partial equilibrium theories. However, modern industrialized economies frequently display disequilibrium and perhaps even chronic disequilibrium in labor markets. Can we then infer that the manifest failure of an economy to exhibit an equilibrium in all markets also falsifies such microeconomic theories as the utility-maximizing theory of consumer behavior and the profit-maximizing theory of the firm? No, because the widespread occurrence of economies of scale in certain industries, not to mention the phenomenon of externalities, suggests straightaway that some of the initial conditions of GE theory are not satisfied; GE theory, therefore, is inapplicable rather than false.

It could be argued, however, that GE theory is simply inadequately formulated for purposes of testing its central implication that there exists at least one equilibrium configuration of prices in all markets of the economy.