In the last class (summary) we have discussed trade and that, under certain conditions, trade leads to Pareto improvements (which means that at least one person is better off and no one is worse off). I now want to discuss what economists call a market, market prices or, better, market values, and a market allocation. The difference between the idea of a market and bilateral trade is that bilateral trade is, well, bilateral (i.e. always between two people), whereas a market is, at least in some form, a central meeting place in which all participants interact at the same time in this one place by making offers and counteroffers to possibly many other participants. We have two options of how to deal with such a market. One is to try to capture the dynamic protocol of interaction that underlies the market place. This is difficult and probably depends on the exact market we are interested in. So we will not do this here. I also do not know of any very convincing general model of this kind, but there are some for special cases. The other option is to state what we think will be the likely outcome of any such market interaction. Note that what we write down next is an assumption or definition and not derived from any more basic set of assumptions.
The Wachau is a roughly 40km long and narrow part of the Danube valley in Austria. It produces and sells essentially only three things: beauty, wine, and apricots. With “producing and selling beauty” I mean that it tries to and manages to attract tourists. Its wine-growing and trading goes back a long way.
Except for perhaps in pre-historic times, it seems that the Wachau was never autarkic, meaning there was always trade (and probably also migration) between the Wachau and the world around it.
Now suppose, counter-factually, that the Wachau were and had always been completely cut-off from the world. What would the Wachau be like?