This is the third (and last) part of this book.

The first part was the Theory of Consumer Behavior. It modeled a consumer's optimization problem and emphasized deriving a Demand Curve as an important result.

The Theory of the Firm comprised the second part. Firm decisions about inputs and outputs were modeled as optimization problems. The key result was deriving a Supply Curve from the perfectly competitive firm's output profit maximization problem.

This third part will put together consumers' demand and firms' supply in an equilibrium model in order to show how individual markets solve society's resource allocation problem. In addition, we will introduce an equilibrium model that incorporates all markets simultaneously.

Unlike the introduction to the first two parts, which were brief and simple, there are three important ideas that need to be clear before we begin:

• Optimization versus equilibrium

• Society's resource allocation problem

• Partial and general equilibrium.

Optimization Versus Equilibrium

Equilibrium models are similar to optimization problems in many respects, especially in that they both rely heavily on comparative statics, but there are important differences.

Equilibrium means no tendency to change. Optimal means best (from the decision maker's point of view).

Unlike optimization problems, equilibrium models do not have an agent directly controlling or setting values of a variable. Instead, forces within the model drive variables to positions of rest. No agent actually picks the solution in an equilibrium model.