Abandoning Standard Assumptions in Pareto Optimization Models: Simulating Market Scenarios with Incorrectly Estimated Preference Structures

This honors thesis examines the consequences of abandoning specific underlying assumptions of economic models used to describe the distribution of goods among individual agents or parties and the information about each one’s preferences. In microeconomic theory, the Edgeworth Box, Pareto-optimal trade, and convex (especially Cobb-Douglas) preference structures are used to model the process in which consumers and producers make trade-off choices that allocate limited resources among competing agents. This thesis investigates the common underlying assumptions of these economic models by drawing upon mathematical theory to develop both an analytical framework and the tools that help us establish boundaries for these economic problems. The means of investigation involves extensive use of mathematical reasoning and computer simulation. The main focus of this investigation is to determine the consequences of relaxing the theoretical assumption stating that agents participating in Pareto-efficient exchange always operate with complete and correct information. The objective is to first determine the changes in Pareto optimization and price-setting that occur as a result of differences in perception regarding marginal rates of exchange and then to determine which trades are and are not Pareto-efficient