Microeconomic Foundations

Abstract

There is a tradition in economics and political science to formulate theories that stand like the laws of nature for all time and throughout the world. This chapter outlines the ahistorical theory of the perfectly competitive economy as a foundation for macroeconomics. This standard model is unrealistic; it is characterized by rational consumers who live forever and who plan their economic lives from the present extending into the infinite future as an optimization constrained by the resources they own and by market prices. Commodities are supplied by profit maximizing producers who are limited by market prices, as well as by technology. Both consumers and producers, pursuing their personal objectives simultaneously, may arrive at a set of market prices which clear all markets. This market equilibrium, if it exists, has certain beneficial properties, although these are limited and might be improved upon if its citizens can collectively agree on a definition of justice.