Efficiency and Equity
- Created by: Clodagh
- Created on: 24-04-14 20:48
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- Efficiency and Equity
- Economic Efficiency
- This concerns the relationship between the inputs to the production process (land, labour, capital, enterprise) and the output they produce
- This concept relates to the basic economic problem of scarce resources and infinite wants and needs
- Technical Efficiency
- This involves producing a given quantity at the lowest possible average cost
- All points on the long run average cost curve are technically efficient
- The LRAC represents a boundary between those output/cost combinations which are attainable and those which are not
- X-inefficiency
- This is the most common name for technical inefficiency
- X-inefficinecy occurs when there is waste in the production process
- Average costs for producing a given level of output is higher than it needs to be
- All points above the LRAC exhibit x-inefficiency
- Why?
- Weaknesses in the organisation of production and management
- Lack of competition, allowing firms to survive without striving to reduce costs
- A lack of profit motive (especially for state owned firms)
- Productive Efficiency
- Productive efficiency entails producing goods and services at the lowest possible average cost for any level of output
- This type of efficiency is achieved when the average cost curve is at its bottom point and implies that all available internal economies of scale are being exploited
- Minimum Efficient Scale
- The MES of production is the smallest scale of production that allows the exploitation of all internal economies of scale and hence production at the lowest possible average cost
- Allocative Efficiency
- This is achieved when society derives the most possible utility from its scarce resources
- The concepts of technical and productive efficiency are not related to whether people gain utility from the goods and services produced
- Cost Benefit Principle
- It's worthwhile allocating resources to producing an extra unit of a good if the marginal benefit of doing so exceeds the marginal cost
- The price that a consumer is willing to pay for a good is a measure of the benefit or utility that they receive from it
- Externalities
- Social benefit = private benefit + external benefit
- Social cost = private cost + external cost
- When there are no externalities associated with the good, social and private costs and benefits are one and the same thing
- When there are externalities, the condition for allocative efficiency must be amended
- Externalities are third party effects not accounted for in market prices
- When externalities are present, allocative efficiency is achieved when MSB = MSC
- Static vs. Dynamic Efficiency
- Allocative, technical and productive efficiency are static concepts, concerned with efficiency at a specific point in time
- Dynamic efficiency is concerned with the future
- Equity
- Equity can be understood to mean fairness
- In contrast to efficiency, it is a concept that belongs to normative economics
- Market performance is typically evaluated both from a positive perspective of efficiency and a mormative perspective of equity
- Horizontal Equity
- This is concerned with the fair treatment of people whose circumstances are the same
- For example, the idea that people with a similar ability to pay taxes should pay the same or similar amounts
- This is concerned with the fair treatment of people whose circumstances are the same
- Vertical Equity
- This related to the fair treatment of people whose circumstances differ
- For example, the idea that people with a greater ability to pay taxes should pay more
- This related to the fair treatment of people whose circumstances differ
- Equity can be understood to mean fairness
- Trade-off
- Measures that reduce inequality may enhance equity but also blunt economic incentives and cause inefficiency
- Economic Efficiency
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