Three Ways Out
Given this situation, three ways out have been proposed. First, there was the feeling that perhaps the basic problem lay with the adjustment process itself. Despite the Saari and Simon result, various ingenious attempts have been made to construct globally and universally stable price adjustment processes.
Although, some of these attempts, Kamiya (1990), Flaschel (1991) and Herings (1997), seem, in a certain sense, to have been successful, if one looks closely at these results there is always some feature which is open to objection. There is, in general, no natural economic interpretation and, furthermore, in one case the adjustment process depends on the particular parameters of the economy in question. It seems implausible to assume that when something changes in the economy the way in which prices adjust when out of equilibrium should also change.A second route was to argue that there was no particular reason to suppose that when out of equilibrium, in a market, all the individuals should be faced with the same prices. This is what Rothschild’s (1973) seminal contribution on searching for lower prices in markets considered. Were we to make the assumption, implicit in Arrow-Debreu, that the price for any good, in particular labour, is the same across the whole economy, the whole literature on search for lower prices (see, for example, Mortensen 1986; Diamond 1987; Pissarides 1990) would lose any significance. In that literature there is a distribution of prices for the same good or of wages, and individuals match with others in their search for the best opportunity. Indeed, pursuing this line of thought and looking at the evolution of the price distribution, rather than have some sort of centralized price adjustment mechanism, you could just think of individuals bargaining and that the prices at which the goods were exchanged would vary between individuals.
There would, it was argued, be some sort of force which would drive the economy to an equilibrium where prices for the same good were equalized and, furthermore, any excess demand for any particular good would be arbitraged away. This is what lay behind Edgeworth’s (1925) “higgling” and Hayek’s (1945) informal suggestions as to how individuals might react to some change in the economic situation and how prices would be modified accordingly. This is what the latter had in mind when criticizing Walras’s idea of central price adjustment and the idea that there is some central figure that will adjust prices if the economy is out of equilibrium. As Hayek (1945: 519, original emphasis) said:This, however, is emphatically not the economic problem which society faces. And the economic calculus which we have developed to solve this logical problem, though an important step toward the solution of the economic problem of society, does not yet provide an answer to it. The reason for this is that the “data” from which the economic calculus starts are never for the whole society “given” to a single mind which could work out the implications and can never be so given.
Hayek’s famous informal example of a change in the use of tin and resultant price changes was in the spirit of the idea of different agents trading initially at different prices, launched by Edgeworth. This led to a number of efforts culminating in Frank Fisher’s (1989) heroic attempt to build a general model. Yet, as Fisher (2011) himself observes in a recent survey, a favourable answer to the question of stability is still “by no means assured”.
The last route is that which has been widely followed in macroeconomics and consists in assuming directly from the outset that the average behaviour of individuals satisfies the same conditions of consistency, or rationality, that we impose on individuals. It is of little value here to pass in review, yet again, the difficulties with this assumption (see Kirman 1992). Let it just be said that there is widespread dissatisfaction with models based on the representative agent, and that proposals to introduce heterogeneity and individual interaction which undermine traditional macroeconomic analysis have come from many quarters, (see, for example, Trichet 2010; Turner 2010).