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Compare and contrast the various types of economic efficiencies. [10]



Compare and contrast the various types of economic efficiencies. [10]

The fundamental economic problem is a problem of scarcity, necessitating choice. This is because human wants are potentially unlimited, but resources are limited, and hence choices have to be made, “efficiently”, between competing uses for the same resources. The scarce resources, or factors of production, are land, labour, capital, and entrepreneurship. Land refers to resources, gifts of nature, and other natural factors. Labour refers to human effort and work. Capital refers to any good that can be used to produced another good. Entrepreneurship refers to risk-taking, organisation, and business acumen, among other things. It can be said that efficiency is concerned with the optimal production and distribution of society’s scarce resources. This economics essay compares and contrasts the various main types of economic efficiencies – productive efficiency, allocative efficiency, dynamic and static efficiency, X-inefficiency, social efficiency, and Pareto efficiency.

Productive Efficiency

First, productive efficiency occurs when the maximum number of goods and services are produced with a given amount of inputs. This will occur on the production possibilities curve or production possibilities frontier (PPC or PPF), meaning that any point along the PPC will be productively efficient. On the PPC, it is impossible to produce more goods without producing fewer services. Productive efficiency will also occur at the lowest point on individual firms’ average cost curves (AC curves). This is because productive efficiency can be thought of as the method of least cost production, which means that production costs are minimised. Productive efficiency is not the same as the other types of efficiencies.

Think: how would you draw the PPC?

Allocative Efficiency

Second, allocative efficiency occurs when goods and services are distributed according to society’s preferences or when they are allocated in accordance with maximising society’s welfare. An economy could be productively efficient but produce goods that people that do not need, and this would be allocatively inefficient. In other words, allocative efficiency is a subset of productive efficiency, where productive efficiency is a necessary condition of allocative efficiency. (A necessary condition is a condition for some state of affairs that must be satisfied before the state of affairs can be obtained.) It should be noted that allocative efficiency occurs when the price of the good produced by a firm equals the marginal costs of production.

Dynamic Efficiency

Third, dynamic efficiency refers to efficiency over time, whereas static efficiency refers to efficiency at a particular point in time. The first concept has the element of time taken into consideration whereas the other does not consider time. Dynamic efficiency involves the introduction of new technology and working practices to reduce costs over time, whereas static means “at a fixed point in time”. Basically, this concept of dynamic means that there are changes over time whereas static means that time is held, as it were, frozen.

X-inefficiency

Fourth, X-inefficiency occurs when firms do not have incentives to cut costs. This is usually associated with monopolies, which usually pursue rent-seeking behaviour rather than think of how to lower costs. For instance, a monopoly which makes supernormal profits may have little incentive to get rid of surplus labour. Therefore, a monopolistic firm’s average costs may be higher than necessary.

Social Efficiency

Social efficiency occurs when externalities are taken into consideration and occurs at an output where the social cost of production (SMC) = the social benefit (SMB), or alternatively, the marginal social costs (MSC) = the marginal social benefits (MSB). This is closely related to both the concepts of allocative and Pareto efficiency, also known as Pareto optimality. Pareto efficiency or optimality is defined as a situation where it is not possible to make one party better off without making another party worse off. Hence, Pareto efficiency is socially efficient and also allocatively efficient, at society’s level.

Conclusion

In conclusion, there are many efficiency concepts in Economics and it is important to understand economic efficiency. Many of the concepts are related and can be understood in relation to each other.


JC Economics Essays – Tutor’s Commentary: This is a good introduction to the various “efficiencies” that Economics has to offer, not just at ‘A’ levels, but also at O, AS levels and introductory undergraduate Economics as well. ‘A’ level Economics can be quite esoteric, it is true, and this Economics material might seem difficult. Think positively instead: how could you make this Economics essay comprehensible and easily understood by you? Let’s do some counterfactual experiments here. Put yourself in the role of the Economic tutor, the examiner, or the lecturer, and you were marking this essay paper. If you were an Economics tutor, how would you judge this essay? What were its strengths and weaknesses, and why do you think – as a professional Economics tutor – those parts of the Economics essay were strengths or weaknesses? Thanks for reading, all the best and good luck!

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