Chapter 2: Problem 15

What is productive efficiency? Allocative efficiency?

Short Answer

Expert verified

Productive efficiency is achieved when a firm or economy produces goods and services at the lowest possible cost, utilizing resources optimally and minimizing costs. It occurs at the point where marginal cost equals average total cost. Allocative efficiency occurs when resources are distributed in a way that maximizes consumer satisfaction, and is achieved when marginal benefit equals marginal cost, indicating that production and distribution align with consumer preferences.

Step by step solution

1. Definition of Productive Efficiency

Productive efficiency is a situation where a firm or an economy produces goods and services at the lowest possible cost. This occurs when the production process uses the least amount of resources for a given level of production. In the long run, productive efficiency occurs at the lowest point on the average total cost (ATC) curve, where marginal cost (MC) equals average total cost (ATC). In simpler terms, this is the point where the firm is utilizing its resources optimally and minimizing costs.

2. Definition of Allocative Efficiency

Allocative efficiency occurs when an economy distributes its resources in such a way that maximizes the satisfaction of consumers' desires and preferences. It's achieved when the production of goods and the distribution of resources are in line with consumer preferences. Allocative efficiency occurs when the marginal benefit (MB) that consumers derive from a good or service equals the marginal cost (MC) of production. In other words, it is when the value that consumers place on a good or service is equal to the resources used to produce it.

3. Example of Productive Efficiency

Suppose there is a factory that produces smartphones. Initially, the company uses outdated technology and creates each smartphone at a cost of \(300. Later on, it invests in new technology, which allows it to produce the smartphones at a lower cost per unit of \)200. The company now produces smartphones at the lowest possible cost, hence achieving productive efficiency.

4. Example of Allocative Efficiency

Let's consider the market for soft drinks. Suppose the marginal cost for producing each soft drink is \(1. The price determines the marginal benefit to consumers, and in this case, let the marginal benefit be \)1 too. In this situation, allocative efficiency is achieved as the marginal cost equals the marginal benefit that consumers receive from consuming soft drinks. This indicates that the soft drinks production and distribution are in line with the consumers' desires and preferences. To sum up, productive efficiency is about achieving the lowest production cost, while allocative efficiency is concerned with optimally allocating resources according to consumers' preferences and satisfaction.

Unlock Step-by-Step Solutions & Ace Your Exams!

Full Textbook Solutions
Get detailed explanations and key concepts
Unlimited Al creation
Al flashcards, explanations, exams and more...
Ads-free access
To over 500 millions flashcards
Money-back guarantee
We refund you if you fail your exam.

Start your free trial

Over 30 million students worldwide already upgrade their learning with Vaia!