FFTWE Flashcards
What does the First Fundamental Theorem of Welfare Economics state?
If markets are perfectly competitive, complete, and in equilibrium, then the resulting allocation of resources is Pareto efficient.
What is Pareto efficiency?
An allocation is Pareto efficient when no reallocation can improve one individual’s welfare without reducing another’s.
Define Complete Markets
Complete markets mean that there is a market for every conceivable good, service, and state of the world.
What role do perfectly competitive markets play in FFTWE?
They ensure price-taking behavior, leading to an efficient price‐allocation mechanism.
What are the main ‘unrealistic assumptions’ challenged by critics?
- Complete markets
- Zero transaction costs
- Perfect information
- Perfectly rational agents
- No externalities
How did Frank Hahn critique the possibility of complete markets?
He showed there would need to be infinitely many markets, making true completeness practically impossible.
Why do externalities violate FFTWE assumptions?
When costs or benefits spill over private transactions, private‐market prices don’t reflect true social costs.
How does asymmetric information undermine FFTWE?
Markets can fail if one party has more or better information, leading to inefficiencies.
Why is Pareto efficiency a poor measure of ‘performance’ from a distributive justice viewpoint?
It ignores how welfare is distributed, which can lead to inequitable outcomes.
What is the Kaldor–Hicks criterion?
An outcome is Kaldor–Hicks efficient if winners could compensate losers and still be better off.
What are adaptive preferences, and why are they problematic?
They are when people adjust desires to circumstances, making ‘efficiency’ reflect deprivation rather than true welfare.
What is the ‘knowledge problem’ according to Hayek?
Economic information is dispersed and tacit; no central planner can fully capture or coordinate it.
How do markets ‘discover’ information?
Through the price mechanism and entrepreneurial trial-and-error.
Why is viewing the economy as always converging to a single equilibrium misleading?
Real economies are in constant flux due to innovation, shocks, and institutional change.
What is the ‘core problem’ of FFTWE?
It attempts to freeze contingent, conflictual, and historical processes into a neutral scientific formula.
Who stated that ‘General equilibrium requires an infinite number of markets’?
Frank Hahn.
What is the curious task of economics according to Friedrich A. Hayek?
To demonstrate how little people know about what they can design.
What did Karl Marx say about capital?
Capital is dead labour, that, vampire‐like, only lives by sucking living labour.
What does Kenneth J. Arrow say about ideal conditions in competitive markets?
Under ideal conditions, the competitive market system leads to allocations that no one can improve without harming someone else.
What is the significance of the Kaldor–Hicks efficiency?
Winners could in principle compensate losers and still be better off.
Fill in the blank: The Second Fundamental Theorem shows any Pareto efficient allocation can be reached by redistributing initial _______ then letting markets work.
endowments
