Sunday, August 12, 2007

One Generation Passes And Another Comes, But The World Forever Stays

Léon Walras claimed that the economy would never be in equilibrium:
"Equilibrium in production, like equilibrium in exchange, is an ideal and not a real state. It never happens in the real world that the selling price of any given product is absolutely equal to the cost of the productive services that enter into that product, or that the effective demand and supply of services or products are absolutely equal..." -- Walras (1954: Lesson 18, Section 188).
and again:
"Finally, in order to come still more closely to reality, we must drop the hypothesis of an annual market period and adopt in its place the hypothesis of a continuous market. Thus, we pass from the static to the dynamic state. For this purpose, we shall now suppose that the annual production and consumption, which we had hitherto represented as a constant magnitude for every moment of the year under consideration, change from instant to instant along with the basic data of the problem... Every hour, nay, every minute, portions of these different classes of circulating capital are disappearing and reappearing. Personal capital, capital goods proper and money also disappear and reappear, in a similar manner, but much more slowly. Only landed capital escapes this process of renewal. Such is the continuous market, which is perpetuating tending towards equilibrium without ever actually attaining it, because the market has no other way of approaching equilibrium except by groping, and, before the goal is reached, it has to renew its efforts and start over again, all the basic data of the problem, e.g. the initial quantities possessed, the utilities of goods and services, the technical coefficients, the excess of income over consumption, the working capital requirements, etc., having changed in the meantime. Viewed in this way, the market is like a lake agitated by the wind, where the water is incessantly seeking its level without ever reaching it. But whereas there are days when the surface of a lake is almost smooth, there never is a day when the effective demand for products and services equals their effective supply and when the selling price of products equals the cost of the productive services used in making them. The diversion of productive services from enterprises that are losing money to profitable enterprises takes place in various ways, the most important being through credit operations, but at best these ways are slow. It can happen and frequently does happen in the real world, that under some circumstantces a selling price will remain for long periods of time above the cost of production and continue to rise in spite of increases in output, while under other circumstances, a fall in price, following upon this rise, will suddenly bring the selling price below cost of production and force entrepreneurs to reverse their production policies. For, just as a lake is, at times, stirred to its very depths by a storm, so also the market is sometimes thrown into violent confusion by crises, which are sudden and general disturbances of equilibrium. The more we know of the ideal conditions of equilibrium, the better we shall be able to control or prevent these crises." -- Walras (1954: Lesson 35, Section 322).
For Walras, equilibrium is a property of his theoretical model, never of the economy. His claim is that an equilibrium model can tell us something about actual economies because of tendencies existing in the economy at any time.

Now Walras could have misunderstood and mischaracterized his own theory. Perhaps properties of neoclassical theory prevent it from being applied with the method Walras describes. As I have previously blogged, Sraffians, such as Bharadwaj, Garegnani, Gram, and Petri, have made this case for neo-Walrasian models adopted and developed by economists more recent than Walras. I take the Arrow-Debreu model of intertemporal equilibrium as the canonical example. This is a short-period model, and represents a dramatic change in economic method. In this model, the initial quantites of all capital goods are taken as data. Yet, some of these quantites, that is, those of circulating capital goods, change in any approach to equilibrium. Thus, if an economy is approaching an equilibrium, that equilibrium will not be the Arrow-Debreu equilibrium calculated for the data, as currently existing in the economy.

For the Arrow-Debreu model to be descriptive of existing capitalist economies, such economies must never be out of equilibrium. This is a defect of the theory.

  • Krishna Bharadwaj (1989). Themes in Value and Distribution: Classical Theory Reappraised, Unwin-Hyman
  • Pierangelo Garegnani (1976). “On a Change in the Notion of Equilibrium in Recent Work on Value and Distribution”, reprinted in Keynes’s Economics and the Theory of Value and Distribution (edited by J. L. Eatwell and M. Milgate, 1983), Oxford University Press
  • Harvey Gram (1995). “The Role of Perfect Foresight in Krishna Bharadwaj’s Critque of Demand and Supply Equilibrium-Based Theory”, in The Classical Tradition in Economic Thought: Perspectives on the History of Economic Thought: Volume Eleven (edited by I. H. Rima), Edward Elgar
  • Murray Milgate (1979). “On the Origin of the Notion of ‘Intertemporal Equilibrium’”, Economica, V. 46, N. 1: 1-10
  • Fabio Petri (2004). General Equilibrium, Capital and Macroeconomics: A Key to Recent Controversies in Equilibrium Theory, Edward Elgar
  • Léon Walras (1954). Elements of Pure Economics or The Theory of Social Wealth (translated by William Jaffé)

1 comment:

Anonymous said...

Thanks for the Walras quotes. Wonderful!

Whenever I hear an economist talking about equilibrium I always ask for a real-life example -- ie, a real economic marketplace which is, or which was, at some specified time, in equilibrium. Despite some 9,999 categories in the Standard Industrial Classification, no economist I have asked has been able to name one that is or ever was in equilibrium.