Efficiency

Question 1

Productive efficiency

Answer 1

When fully and efficiently using all factors of production
- no spare capacity and you are on the ppf curve
- can produce as much as you can for as cheaply as possible

Question 2

Allocative efficiency

Answer 2

When supply is equal to demand
- when a firm perfectly matches consumer preferences and demand with supply in the market
- P = MC

Question 3

Why is P > MC not allocatively efficient?

Answer 3

• excess demand as people are willing and able to pay higher prices
• the marginal benefit of consuming the good is higher than the marginal cost of producing the good
• consumers want to consume the good but suppliers don’t produce as much and are not willing
• this shows consumer preferences are not being met and so consumer welfare is not maximized
• society would be better off if producers are producing more of the goods that people can easily access

Question 4

Why is P < MC not allocatively efficient?

Answer 4

• excess supply as people are not willing and able to pay higher prices
• people are not deriving as much utility from the good and wasting the good
• the marginal benefit of consuming the good is less than the marginal cost of producing the good
• firms are allocating too many scarce resources and wasting them as society is not using their beneficially
• society would be better off if producers are producing less of these goods and so won’t waste scarce resources which improve basic economic problem

Question 5

Economic efficiency

Answer 5

When both productive and allocative efficiency is achieved