Types of equilibrium:
The state of equilibrium is found in several aspects of economics. Any economy where
equilibrium condition prevails is said to prosper well. Major types of equilibrium are as
follows:
Market equilibrium
Market equilibrium is referred to as a state in which the goods produced is equal to the
goods consumed. Price here remains same and continues to remain same until there is
change in supply or demand of goods.
Partial equilibrium
Partial equilibrium is a state in economy where market is cleared of some specific goods.
The clearance is obtained irrespective of influences of prices and quantities of goods that
are either demanded or supplied in other markets. Thus, it can be said that the market
clearance is obtained when the prices of all substitutes and complements, as well as
income levels of consumers are invariable.
General equilibrium
General equilibrium is study of supply, demand, and prices. This is a branch of
microeconomics. Here consumers are assumed as price takers. They decide the price of
the commodity. General equilibrium can be explained by using several theorems. First
Fundamental Theorem, Second Fundamental Theorem and Sonnenschein-Mantel-Debreu
Theorem are the major theorems of general equilibrium. General equilibrium theory is a
branch of theoretical neoclassical economics. It seeks to explain the behavior of supply,
demand and prices in a whole economy with several or many markets, by seeking to
prove that equilibrium prices for goods exist and that all prices are at equilibrium, hence
general equilibrium, in contrast to partial equilibrium. As with all models, this is an
abstraction from a real economy; it is proposed as being a useful model, both by
considering equilibrium prices as long-term prices and by considering actual prices as
deviations from equilibrium. The difference is not as clear as it used to be, since much of
modern macroeconomics has emphasized microeconomic foundations, and has
constructed general equilibrium models of macroeconomic fluctuations. General
equilibrium macroeconomic models usually have a simplified structure that only
incorporates a few markets, like a "goods market" and a "financial market". In contrast,
general equilibrium models in the microeconomic tradition typically involve a multitude
of different goods markets. They are usually complex and require computers to help with
numerical solutions.
Properties and characterization of general equilibrium:
Fundamental theorems of welfare economics
Basic questions in general equilibrium analysis are concerned with the conditions under
which an equilibrium will be efficient, which efficient equilibria can be achieved, when
an equilibrium is guaranteed to exist and when the equilibrium will be unique and stable.
First Fundamental Theorem of Welfare Economics
The First Fundamental Welfare Theorem asserts that market equilibria are Pareto
efficient. In a pure exchange economy, a sufficient condition for the first welfare theorem
to hold is that preferences be locally nonsatiated. The first welfare theorem also holds for
economies with production regardless of the properties of the production function.
Implicitly, the theorem assumes complete markets and perfect information. In an
economy with externalities, for example, it is possible for equilibria to arise that are not
efficient.
The first welfare theorem is informative in the sense that it points to the sources of
inefficiency in markets. Under the assumptions above, any market equilibrium is
tautologically efficient. Therefore, when equilibria arise that are not efficient, the market
system itself is not to blame, but rather some sort of market failure.
Second Fundamental Theorem of Welfare Economics
While every equilibrium is efficient, it is clearly not true that every efficient allocation of
resources will be an equilibrium. However, the second theorem states that every efficient
allocation can be supported by some set of prices. In other words, all that is required to
reach a particular outcome is a redistribution of initial endowments of the agents after
which the market can be left alone to do its work. This suggests that the issues of
efficiency and equity can be separated and need not involve a trade-off. The conditions
for the second theorem are stronger than those for the first, as consumers' preferences
now need to be convex (convexity roughly corresponds to the idea of diminishing rates of
marginal substitution, or to preferences where "averages are better than extrema").
Existence
Even though every equilibrium is efficient, neither of the above two theorems say
anything about the equilibrium existing in the first place. To guarantee that an
equilibrium exists we once again need consumer preferences to be convex (although with
enough consumers this assumption can be relaxed both for existence and the second
welfare theorem). Similarly, but less plausibly, feasible production sets must be convex,
excluding the possibility of economies of scale.
Proofs of the existence of equilibrium generally rely on fixed point theorems such as
Brouwer fixed point theorem or its generalization, the Kakutani fixed point theorem. In
fact, one can quickly pass from a general theorem on the existence of equilibrium to
Brouwer’s fixed point theorem. For this reason many mathematical economists consider
proving existence a deeper result than proving the two Fundamental Theorems.
Competitive market equilibrium
Competitive market equilibrium is referred to the state of stability that prevails in a
market where there are flexible prices and many traders. Competitive market equilibrium
includes a vector of prices and allocation is done in such a way that each trader
maximizes his profit function.