CHAPTER VII
THE THEORY OF THE GENERAL OPTIMUM
THE development of the theory of optimum by the marginal utility economists can be best appreciated by recapitulating where the classical economists had left off in their analysis of the competitive equilibrium. We have seen that the central problem of the classical economists was the problem of economic expansion and not the problem of allocative efficiency but that nevertheless they also possessed a rough workable theory of the competitive optimum (cf. Chap. IV above).The locus classicus of this is Chapters VII and X in Book I of the Wealth of Nations. There Smith had established two general propositions. Firstly, that free competition in the consumers' market would equate the price of each commodity to its cost of production and that this would ensure that the "right" quantity of each commodity was produced. Secondly, that free competition in the producers' market would equalise the Net Advantages of the factors of production in all industries and that this would ensure that the "right" amount of resources was allocated to each industry. These two conditions were quite sufficient for the classical economists' purpose of considering the problem of allocative efficiency as a subsidiary problem. When, however, we want to consider the problem of allocative efficiency as the central problem a more stringent formulation of the optimum becomes necessary; for the classical formulation leaves at least three main gaps to be filled:
i. Smith had shown how the "right" total quantities of different commodities would be produced, but he had not shown how these "right" total quantities would be parcelled out in "right" amounts and in "right" combinations among each of the individual consumers.
ii. Similarly, Smith had shown how the "right" total quantities of resources would be allocated to different industries, but he had not shown how the different factors of production would be combined in "right" proportions and how each of the individual producers would be producing the "right" output. Here, however, the gap left behind by the classical economists is not so clear-cut since they had always implicitly assumed that each producer would be

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