Now we assume that there is an innovation in the clothing industry. This innovation can be of technical or organisational origin, and it causes that the same garment can be produced with a little less labour but a little more capital. To be concrete: the production possibility is discovered that can be stated in the production function clothing = CES[0.2, 0.5]. Is this innovation useful ? The answer appears to be that labour is the factor that is relatively scarce and that this innovation allows its better use, so that welfare can rise to 282 units of food and 269 units of clothing. The allocation of factors of production becomes av/ak = 309/91 and kv/kk = 202/398.
Figure 37: Edgeworth-Bowley diagram for the factors of production
Figure 38 and Figure 39 present the same plots as before so that one may see how the economy changes. The figures speak for themselves. It will be clear that our analysis is comparative statics. How quickly the prices change, and how quickly the agents react, will be a question of dynamics.
Figure 38: SWF and PPC of two situations
Figure 39: Edgeworth-Bowley of two situations
The free lunch
Above model was not perfect but helps us to understand how a free lunch percolates through the economy. It helps us to understand what a free lunch actually is.