Syllabus T. Y. B. A. Paper : IV advanced economic theory with effect from academic year 2010-11 in idol

IR
4
IR
5
S
O
R
O
K
D
Car
Food
C
1

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curve). Therefore, when compared to ‗K‘, ‗P‘ is Pareto efficient. 
Similarly a movement from K to O increases the welfare of Ramesh 
without reducing the welfare of Suresh. Hence ‗O‘ is also Pareto 
efficient. Such as O and P which are points of tangency between 
indifference curves of two individuals, can be considered as Pareto 
optimal points. All such points (M, N, O, P) are connected by the 
line CC
1
and this is known as the contract curve. 
It can be seen that a movement from a point on the contract 
curve to a point of it, results in a decrease of social welfare. Thus 
the contract curve shows the locus of point of Pareto optimal 
distribution of goods between the two consumers.
The contract curve CC
1
is connecting the points of tangency 
of the IC
3
of the two individuals at the point of tangency the slopes 
of the IC
5
are equal. In other words, at each point on the contract 
curve, the following conditions are satisfied. 
Conclusion: Where MRS is marginal rate of substitution. X and Y 
are two commodities and A and B are two individuals. This means 
that in the society as a whole the MRS between the two goods 
must be equal to all consumer in the given distribution is to be 
Pareto optimum. 
6.3.2 Efficiency of allocation of factors 
The Edgeworth box diagram can also be used to find out the 
Pareto optimal allocation of factors. Instead of the indifference 
curves, we have to use iso-quants which are iso-product curves. An 
iso-quant shows the same level of output which can be produced 
by different combinations of the two factors namely labour and 
capital. In the Edgeworth box diagram two sets of iso-quants for the 
two commodities can be drawn and their tangency points can be 
connected by the contract curve, as was done in the case if 
efficiency in distribution of commodity. The point on the contract 
curve is a Pareto optimal point and at this point the slopes of the 
iso-quants of the two commodities are equal. 
The slope of the iso-quant is given by the marginal rate of 
technical substitution between labour and capital (MRTS
LK
). 
Therefore the marginal condition for efficiency in factor allocation 
can be stated as, 
X
Y
MRTS
MRTS
LK
LK
where X and Y are 
commodities and L and K are Labour and Capital.