Remember that we said this process is called

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Unformatted text preview: XRachel = XRachel(PX, PY, MRachel) = MRachel / (3 PX) YRachel = YRachel(PX, PY, MRachel) = 2MRachel / (3 PY) To calculate the aggregate (market demand in this tiny market of two people) demand, we simply add up their individual demands for each good. The market for X would have an aggregate demand of: XTOTAL = XRoss + XRachel = MRoss / (2 PX) + MRachel / (3 PX) = 3MRoss + 2MRachel 6 PX The market for Y would have an aggregate demand of: YTOTAL = YRoss + YRachel = MRoss / (2 PY) + 2MRachel / (3 PY) 84 = 3MRoss + 4MRachel 6 PY This illustrates our claim that the aggregate demands are a function of both individuals' incomes (unlike their individual demands where they optimize with only their own incomes in mind). Obviously, this is a very simple example with only two people in the economy. Of course, the horizontal summation technique can be extended to any number of consumers in the particular market by summing XTOTAL = XRoss + XRachel + XJoey + XChandler + ... + XMonica where there are any number of individual demands represented in the "..." portion of the summation. This can be represented generally as: XTOTAL = n Xi(PX, PY, Mi) where, n represents the summation for i = 1,...,n XTOTAL = Xi(PX, PY, M1, M2,..., Mi) So, for instance if n = 154 we have an aggregate demand as a function of two prices, PX & PY, and 154 individual incomes, M1, M2,..., M154. One of the key considerations of general equilibrium theory can be illustrated by considering an economy with a specified number of consumers and producers making individual optimizing decisions on a specified number of goods and factors. The consumers, such as they are fully described by their utility functions and incomes and the producers such as they are fully described by their production functions. Now the fundamental question of general equilibrium theory is to find a set of prices for goods and factors which simultaneously satisfy all the following conditions: [1] every consumer is in equilibrium (their indifference curve is tangent to their budget line), [2] every producer is in equilibrium (their isoquant is tangent to th...
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This note was uploaded on 05/25/2010 for the course ECON 301 taught by Professor Sning during the Spring '10 term at University of Warsaw.

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