Economic efficiency means scarce resources are used in ways that produce the highest feasible value for society, given current technology and constraints.
Main Types
- Allocative efficiency: goods are produced in quantities people value most.
- Productive efficiency: output is produced at minimum feasible cost.
- Dynamic efficiency: innovation and investment support long-run welfare.
Model Logic
In competitive benchmark models, efficiency emerges when price equals marginal cost and no mutually beneficial trades remain. Departures from this benchmark (market power, externalities, information failures) create deadweight loss.
A common diagnostic is whether policy changes move outcomes closer to Pareto-efficient allocations.
Policy Context
Efficiency is not the same as equity. A policy can improve efficiency while worsening distribution, or vice versa. Real-world policy design usually balances both objectives.
Examples:
- Carbon pricing can improve efficiency by internalizing external costs.
- Poorly targeted subsidies can reduce efficiency by distorting relative prices.