Unit 3: Economic Efficiency

1. Productive efficiency.

This occurs when the maximum number of goods and services are produced with a given amount of inputs. This will occur on the production possibility frontier. On the curve it is impossible to produce more goods without producing less services.

Productive efficiency will also occur at the lowest point on the firms average costs curve

2. Allocative efficiency

This occurs when goods and services are distributed according to consumer preferences. An economy could be productively efficient but produce goods people don’t need this would be allocative inefficient.

Allocative efficiency occurs when the price of the good = the MC of production

3. X inefficiency:

This occurs when firms do not have incentives to cut costs, for example a monopoly which makes supernormal profits may have little incentive to get rid of surplus labour. Therefore a firms average cost may be higher than necessary

4. Efficiency of scale

This occurs when the firms produces on the lowest point of its Long run average cost and therefore benefits fully from economies of scale

5. Dynamic efficiency

This refers to efficiency over time for example a Ford factory in 1920 would be very efficient for the time period but would now be inefficient by comparison therefore it is necessary for firms to constantly introduce new technology and reduce costs over time.