3.4.1 Efficiency Flashcards
Define allocative efficiency
Allocative efficiency occurs when resources are allocated in a way that maximizes overall societal welfare or utility. In a perfectly competitive market, allocative efficiency is achieved when the price of a good or service equals its marginal cost (P = MC), meaning that the market is producing the quantity of the good that maximizes consumer and producer surplus.
Define productive efficiency
Productive efficiency is achieved when a firm or an economy produces goods and services at the lowest possible cost. It implies that resources are being used efficiently to minimize production costs. In competitive markets, productive efficiency is realized when firms produce at the minimum point of their average cost curve (AC = MC).
Define dynamic efficiency
Dynamic efficiency refers to the ability of an economy to innovate and adapt over time. It involves the long-term competitiveness and growth potential of an economy. Dynamic efficiency is linked to innovation, technological progress, and the ability to adapt to changing circumstances.
Define X-inefficiency. How might it occur?
X-inefficiency occurs when a firm is not operating at its lowest possible cost, even in the absence of competitive pressures. This inefficiency can arise due to factors such as poor management, lack of motivation, or the absence of competition. X-inefficiency can persist in markets where firms have market power.
Describe efficiency within perfect competition
- allocative efficiency is achieved: Resources are allocated efficiently: goods and services are produced and distributed according to consumer preferences. It achieves this through the mechanism of price equaling marginal cost and the freedom of entry and exit.
- Productive efficiency is typically achieved because firms are price takers and have no market power. Firms produce at minimum cost and this ensures output is at lowest price.
Describe efficiency within a monopoly
Monopolies often lead to allocative inefficiency because they can set prices above marginal cost, resulting in deadweight loss. However, a monopoly can be productively efficient if it operates at the minimum point of its average cost curve.
Describe efficiency within monopolistic competition
In this market structure, firms may not achieve allocative efficiency because they have some degree of market power, but they compete on product differentiation. Productive efficiency may not be fully realized either, as firms may operate at more than minimum average cost due to product differentiation.
Describe efficiency within an oligopoly
Oligopolistic firms can engage in price competition, leading to allocative efficiency. If firms engage in non-price competition (advertising, branding, product differentiation), they might sustain some pricing power and set P > MC.
Collusion or tacit agreements can limit competition and maintain higher prices, preventing allocative efficiency. However, they may invest in research and development, contributing to dynamic efficiency. Whether productive efficiency is achieved depends on the specific industry.
Describe efficiency within mixed/regulated markets
In some industries, governments may intervene to promote allocative and productive efficiency through regulations, subsidies, or antitrust policies
