3.4 1 Economic efficiency

Question 1

What is economic efficiency?

Answer 1

• How well a market system allocates our
  scarce resources to satisfy consumers

Question 2

Explain allocative efficiency

Answer 2

• Allocative efficiency occurs when the value that consumers place on a good or service (reflected in the price they are willing and able to pay) equals the cost of the factor resources used up in production.
• The main condition required for allocative efficiency in a market is that AR=MC or MSC = MSB.

Question 3

Explain productive efficiency, mention what it means on the PPF as well

Answer 3

• A firm is productively efficient when it is operating at the lowest point on its average cost curve i.e. unit costs have been minimised (lowest AC occurs when AC = MC)
• Productive efficiency exists when producers minimize the wastage of resources
• On the PPF, An economy is productively efficient (on the curve) if it can produce more of one good only by producing less of another

Question 4

Explain social efficiency in externalities

Answer 4

• The socially efficient level of output and/or consumption occurs when marginal social benefit (MSB) = marginal social cost (MSC) – this is the same as allocative efficiency
• The existence of negative and positive externalities means that the private level of consumption or production differs from social optimum

Question 5

Explain dynamic efficiency

Answer 5

• Dynamic efficiency occurs when businesses supplying a market successfully meets our changing needs and
  wants over time. Crucial to dynamic efficiency is whether the market generates rapid innovation both in the
  processes of supply and the range of products available

Question 6

What is innovation?

Answer 6

Putting a new idea into action.

Question 7

What is product innovation?

Answer 7

Small-scale and subtle changes to the characteristics and performance of a good or a service

Question 8

What is process innovation?

Answer 8

Changes to the way in which production takes place or is organised
Changes in business models and pricing strategies

Question 9

What is creative destruction?

Answer 9

Creative destruction refers to the dynamic effects of innovation – with new products or services, some jobs are lost but new ones are created.

Question 10

What is deadweight loss of welfare?

Answer 10

A deadweight loss is the loss in producer and consumer surplus due to an inefficient level of production perhaps
resulting from one or more market failures or government failure.

Question 11

What is pareto efficiency?

Answer 11

Where it is not possible for households, or firms to bargain or trade in such a way that everyone is at least as well off as they were before, at least one person is better off while another is worse off.
This exists if there is both allocative efficiency and productive efficiency

Question 12

What is X-inefficiency?

Answer 12

A lack of real competition may give a monopolist a weak incentive to invest in new
ideas or consider consumer welfare. Average costs drift higher as a result.

Question 13

What does allocative and productive efficiency look like on a cost/rev diagram?

Answer 13