Editing Economic efficiency

{{Short description|Situation in which nothing can be improved without something else being hurt}}
In [[microeconomics]], '''economic efficiency''', depending on the context, is usually one of the following two related concepts:<ref>{{cite journal |last1=Petrou |first1=Anastasia |title=Economic Efficiency |journal=Encyclopedia of Quality of Life and Well-Being Research |date=2014 |pages=1793–1794 |doi=10.1007/978-94-007-0753-5_818}}</ref>
* [[Allocative efficiency|Allocative]] or [[Pareto efficiency]]: any changes made to assist one person would harm another.
* [[Productive efficiency]]: no additional output of one good can be obtained without decreasing the output of another good, and [[Production (economics)|production]] proceeds at the lowest possible [[average total cost]].

These definitions are not equivalent: a [[Market (economics)|market]] or other [[economic system]] may be allocatively but not productively efficient, or productively but not allocatively efficient. There are also [[#Criteria|other]] definitions and measures. All characterizations of economic efficiency are encompassed by the more general [[engineering]] concept that a system is [[Efficiency|efficient]] or [[optimal]] when it maximizes desired outputs (such as [[utility]]) given available inputs.

==Standards of thought==

There are two main standards of thought on economic efficiency, which respectively emphasize the [[Regulation|distortions]] created by ''governments'' (and reduced by ''decreasing'' government involvement) and the [[Market distortion|distortions]] created by ''markets'' (and reduced by ''increasing'' government involvement). These are at times competing, at times complementary—either debating the ''overall'' level of government involvement, or the effects of ''specific'' government involvement. Broadly speaking, this dialog takes place in the context of [[economic liberalism]] or [[neoliberalism]], though these terms are also used more narrowly to refer to particular views, especially advocating laissez faire.

Further, there are differences in views on microeconomic versus macroeconomic efficiency, some advocating a greater role for government in one sphere or the other.

=== Allocative and productive efficiency ===
A market can be said to have [[allocative efficiency]] if the price of a product that the market is supplying is equal to the [[marginal value]] consumers place on it, and equals [[marginal cost]]. In other words, when every good or service is produced up to the point where one more unit provides a [[Marginal utility|marginal benefit]] to consumers less than the marginal cost of producing it.

Because productive resources are [[Scarcity|scarce]], the resources must be allocated to various industries in just the right amounts, otherwise too much or too little output gets produced.<ref>Thomas. Government Regulation of Business. 2013, McGraw-Hill.</ref> When drawing diagrams for [[business]]es, allocative efficiency is satisfied if output is produced at the point where marginal cost is equal to average revenue. This is the case for the [[long-run equilibrium]] of [[perfect competition]].

[[Productive efficiency]] occurs when units of goods are being supplied at the lowest possible [[average total cost]]. When drawing diagrams for businesses, this condition is satisfied if the equilibrium is at the minimum point of the [[Cost curve#Short-run average total cost curve .28SRATC or SRAC.29|average total cost curve]]. This is again the case for the long run equilibrium of perfect competition. For an extensive discussion of many other types of productive efficiency and its measures (Farrell, Hyperbolic, Directional, Cost, Revenue, Profit, Additive, etc.) and their relationships.<ref>[https://assets.cambridge.org/97811070/36161/frontmatter/9781107036161_frontmatter.pdf  Sickles, R., & Zelenyuk, V. (2019). Measurement of Productivity and Efficiency: Theory and Practice. Cambridge: Cambridge University Press. doi:10.1017/9781139565981 ]</ref>

=== Mainstream views ===
The mainstream view is that [[Market economy|market economies]] are generally believed to be closer to efficient than other known alternatives<ref>Economics, fourth edition, [[Alain Anderton]], p281</ref> and that government involvement is necessary at the macroeconomic level (via [[fiscal policy]] and [[monetary policy]]) to counteract the [[economic cycle]] – following [[Keynesian economics]]. At the microeconomic level there is debate about how to achieve efficiency, with some advocating [[laissez-faire]], to remove government distortions, while others advocate regulation, to reduce [[market failure]]s and imperfections, particularly via internalizing [[externalities]].{{citation needed|date=July 2014}}

The [[Fundamental theorems of welfare economics|first fundamental welfare theorem]] provides some basis for the belief in efficiency of market economies, as it states that any perfectly competitive [[market equilibrium]] is [[Pareto efficiency|Pareto efficient]]. The assumption of perfect competition means that this result is only valid in the absence of [[market imperfection]]s, which are significant in real markets.{{citation needed|date=July 2014}}
Furthermore, Pareto efficiency is a minimal notion of optimality and does not necessarily result in a socially desirable distribution of resources, as it makes no statement about equality or the overall well-being of a society.<ref name="Barr">Barr, N. (2004). ''Economics of the welfare state''. New York, Oxford University Press (USA).</ref><ref name="Sen">Sen, A. (1993). [http://www.cs.princeton.edu/courses/archive/spr06/cos444/papers/sen.pdf Markets and freedom: Achievements and limitations of the market mechanism in promoting individual freedoms]. ''Oxford Economic Papers, 45''(4), 519–541.</ref>

=== Schools of thought ===
Advocates of [[limited government]], in the form [[laissez faire|laissez-faire]] (little or no government role in the economy) follow from the 19th century philosophical tradition [[classical liberalism]]. They are particularly associated with the [[mainstream economics|mainstream]] [[schools of economic thought|economic schools]] of [[classical economics]] (through the 1870s) and [[neoclassical economics]] (from the 1870s onwards), and with the [[heterodox economics|heterodox]] [[Austrian school]].

Advocates of an expanded government role follow instead in alternative streams of progressivism; in the [[Anglosphere]] (English-speaking countries, notably the United States, United Kingdom, Canada, Australia and New Zealand) this is associated with [[institutional economics]] and, at the macroeconomic level, with [[Keynesian economics]]. In Germany the guiding philosophy is [[Ordoliberalism]], in the [[Freiburg School]] of economics.

=== Microeconomic reform===
[[Microeconomic reform]] is the implementation of policies that aim to reduce [[market distortion|economic distortions]] via [[deregulation]], and move toward economic efficiency. However, there is no clear theoretical basis for the belief that removing a [[market distortion]] will always increase economic efficiency.

The [[theory of the second best]] states that if there is some unavoidable market distortion in one sector, a move toward greater market perfection in another sector may actually decrease efficiency.

== Criteria ==

Economic efficiency can be characterized in many ways:

* [[Allocative efficiency]]
* [[Distributive efficiency]]
* [[Dynamic efficiency]]
* [[Kaldor–Hicks efficiency]]
* [[Operational efficiency]]
* [[Pareto efficiency]]
* [[Productive efficiency]]
* Optimisation of a [[social welfare function]]
* [[Utility]] maximization
* [[X-inefficiency]]

Applications of these principles include:

* [[Efficient-market hypothesis]]
* [[Microeconomic reform]]
* [[Production theory]] basics
* [[Welfare economics]]

== See also ==
* [[Business efficiency]]
* [[Compensation principle]]
* [[Distribution (economics)]]
* [[Economic equilibrium]]
* [[Pareto efficiency]]
* [[Uneconomic growth]]
* [[Zero-sum game]]

== References ==
{{Reflist|30em}}

== Further reading ==
* Patnaik, Prabhat (1997). "On the Concept of Efficiency". ''Economic and Political Weekly''. October 25, 1997.

==External links==
* [https://www.econlib.org/library/Enc/Efficiency.html "Efficiency"] article by Paul Heyne

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[[Category:Economic efficiency| ]]
[[Category:Microeconomics]]
[[Category:Economic reforms]]