Editing Pareto efficiency (section)

=== Constrained Pareto efficiency {{anchor|Constrained Pareto efficiency}}===
'''Constrained Pareto efficiency''' is a weakening of Pareto optimality, accounting for the fact that a potential planner (e.g., the government) may not be able to improve upon a decentralized market outcome, even if that outcome is inefficient. This will occur if it is limited by the same informational or institutional constraints as are individual agents.<ref>Magill, M., & [[Martine Quinzii|Quinzii, M.]], ''Theory of Incomplete Markets'', MIT Press, 2002, [https://books.google.com/books?id=d66GXq2F2M0C&pg=PA104 p. 104].</ref>

An example is of a setting where individuals have private information (for example, a labor market where the worker's own productivity is known to the worker but not to a potential employer, or a used-car market where the quality of a car is known to the seller but not to the buyer) which results in [[moral hazard]] or an [[adverse selection]] and a sub-optimal outcome. In such a case, a planner who wishes to improve the situation is unlikely to have access to any information that the participants in the markets do not have. Hence, the planner cannot implement allocation rules which are based on the idiosyncratic characteristics of individuals; for example, "if a person is of type ''A'', they pay price ''p''<sub>1</sub>, but if of type ''B'', they pay price ''p''<sub>2</sub>" (see [[Lindahl prices]]). Essentially, only anonymous rules are allowed (of the sort "Everyone pays price ''p''") or rules based on observable behavior; "if any person chooses ''x'' at price ''p<sub>x</sub>'', then they get a subsidy of ten dollars, and nothing otherwise". If there exists no allowed rule that can successfully improve upon the market outcome, then that outcome is said to be "constrained Pareto-optimal".