The Economics Book

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decades after Walras’s death, his
equations came under the scrutiny
of the brilliant Hungarian-born
American mathematician, John
von Neumann. Von Neumann
exposed a flaw in Walras’s
equations, showing that some
of their solutions produced a
negative price—which meant
sellers would be paying buyers.
John Maynard Keynes (p.161)
was particularly damning of
Walras’s approach, arguing that
general equilibrium theory is
not a good picture of reality
because economies are never in
equilibrium. Keynes also argued
that there is no use thinking
about a long-term, and potentially
agonizing, drive to equilibrium,
because “in the long-run, we
are all dead.”
However, Walras’s ideas
have been rescued by the work
of US economists Kenneth Arrow
and Lionel W. McKenzie and
French economist Gérard Debreu
(p.211) in the 1950s, who
developed a sleeker model
(pp.210–13). Using rigorous
mathematics, Arrow and Debreu
derived conditions under which
Walras’s general economic
equilibrium would hold.

Computable economies

Improvements to computers in

the 1980s allowed economists to

calculate the effects of interactions

between multiple markets in

actual economies. These

computable general equilibrium

(CGE) models applied Walras’s

idea of interdependence to

particular situations to analyze

the impact of changing prices

and government policies.

The attraction of CGE is

that it can be used by large

organizations—such as

governments, the World Bank,

and the International Monetary

Fund—to make quick and

powerful calculations showing the

Where prices are judged to be too high in

one market, this will lead to an excess in supply in

that market. Prices adjust to eliminate excesses

in supply or demand across an economy in a

process that Léon Walras called tâtonnement.

INDUSTRIAL AND ECONOMIC REVOLUTIONS

RIGHT PRICE

There was... a set of prices,

one for each commodity,

which would equate supply

and demand for all

commodities.

Kenneth Arrow

Low demand

Excess supply

Excess demand

Low supply

LOW PRICE

HIGH PRICE

state of the whole economy as

well as seeing the effects of

changing different parameters.

Today, analysis of partial

equilibrium—considering the

forces that bring supply and

demand into balance in a single

market—is the first thing that

an economics student learns.

Walras’s insights about general

equilibrium also continue to

generate work at the cutting edge

of economic theory. For most

economists equilibrium and the

existence of forces that return

an economy to this state remain

fundamental principles. These

ideas are perhaps the essence of

mainstream economic analysis. ■

Demand and supply

are balanced