Introduction

In the last chapter, we analyzed a model of a pure exchange economy. Although there were only two people, Robinson Crusoe and Friday, and only two goods, bread and rum, our model was a general equilibrium model. That is, it was a model that took everything into account simultaneously: Robinson's preferences for bread and for rum, as well as Friday's, and Robinson's initial endowments of bread and rum, as well as Friday's. To keep that model simple, there were only two people and two goods, and there was no production. The quantities of the two goods were taken as given and fixed.

We now turn to another general equilibrium model, in which everything is taken into account simultaneously. However, in this model we analyze production. To keep this model easy, we assume that there is only one person in the economy, who functions both as a producer and as a consumer. We call that one person Robinson Crusoe. (The reader interested in literature may remember that in Defoe's novel, Robinson was alone on the island for many years before Friday arrived. Our productionmodel can be viewed as an economic analysis of work and consumption on the island, before Friday's arrival.)

In our analysis of the pure exchange economy, we discussed Pareto optimality (or Pareto efficiency) and related concepts, and we analyzed market equilibria. We showed the crucial connections between Pareto optimality and the market, connections that are expressed in the first and second fundamental theorems of welfare economics.