Textbook Notes (368,356)
Canada (161,820)
ECON 208 (113)
Chapter 12

Chapter 12 Economic Efficiency and Public Policy.docx

7 Pages
Unlock Document

Economics (Arts)
ECON 208
Mayssun El- Attar Vilalta

Chapter 12 Economic Efficiency and Public Policy 12.1 Productive and Allocative Efficiency (TABLE p. 280)  Efficiency requires factors of production to be fully employed; however, there may still be waste of resources since factors of production may be used inefficiently: o If firms don’t use the least-cost method of producing their chosen outputs = firms inefficient (cost for a single firm producing some level of output) o If the MC of production isn’t the same for every firm in an industry = industry inefficient (total cost for all the firms in an industry) o If too much of one product and too little of another product are produced = economy’s resources used inefficiently (level of output of one product compared with another) Product Efficiency  Productive efficiency for the firm: when the firm chooses among all available production methods to produce a given level of output at the lowest possible cost  SR – only 1 variable factor – firm uses enough of the variable factor to produce the desired level of output LR – more than one method of production available – firms are locate on rather than above LRAC curve  Productive efficiency for the firm requires the firm to be producing its output at the lowest possible cost; if not efficient – producing at higher costs, reducing profits  Incentive of firms to produce efficiently regardless of market structure (monopoly, perfect competition, oligopoly, or monopolistic competition)  Productive efficiency for the industry: when the industry is producing a given level of total output at the lowest possible/minimum cost.  If industry is productively inefficient, it’s possible to reduce the industry’s total cost of producing any given output by reallocating production among the industry’s firms  Productive efficiency for the industry requires that the marginal cost of production be the same for each firm  Once MC equated btwn 2 firms, there are no further cost savings to be obtained by reallocating output = productively efficient industry Productive Efficiency and the PPB  At productive efficiency, the industry cant increase its output without using more resources  PPB shows the combinations of output of two products that are possible when the economy is using its resources efficiently. At a point inside the PPB, inefficiency – can produce more of one good without producing less of the other – due to individual firms not minimizing their costs or b/c within an industry, MC are not equalized across the various firms.  If firms and industries are productively efficient, the economy will be on, rather than inside, the PPB Allocative Efficiency  Allocative efficiency: a situation in which the market price (marginal value) for each good is equal to that good’s MC; concerns the quantities of the various products to be produced – Pareto efficient  The economy is allocatively efficient when, for each good produced, its MC of production = price  When consumers face the market price for some good, they adjust their consumption of the good until their marginal value is just =price; market price reflects consumer’s marginal value 1  If the level of output of some product is such that MC to produces exceeds marginal value to consumers, too much of that product is being produced; b/c the cost to society of the last uni produced exceeds the benefits of consuming it. BUT if MC is < marginal value, too little being produced, cost to society of producing the next unit is MC) to achieve AE = marginal value (price)>MC – competition preference over monopoly  Monopoly is not allocatively efficient because the monopolist’s price always exceeds its MC Other Market Structures  Imperfectly competitive markets, oligopoly and monopolistic competition (both of which still may produce more satisfactory results that monopoly), are allocatively inefficient.  When firm has market power (-ve sloping D curve), marginal revenue the price of a good minus the MC of producing it, summed over the quantity produced –> area above the MC curve and below price line; the diff between actual price received for it and the lowest price would accept  Produce one more unit; producer’s cost ^ by MC = lowest amount that producer will accept for product. If accepts less than MC, reduces firms profits  For each unit sold, producer surplus is the difference between price and MC  For whole industry, we need to know industry supply curve = overall PS  For perfect competition, the industry supply curve is horizontal sum of all firms’ MC curves = PS is the area above the S curve and below price line The Allocative Efficiency of Perfect Competition Revisited (288)  Market/Allocative efficiency exists in a market if the total economic surplus is maximized  Allocative efficiency occurs where the sum of consumer and producer surplus is maximized  AE under perfect competition since maximizes the sum of consumer and produce surplus at eq.; lower than eq Q, consumer values it more than cost to produce, but then there is no CS or PS between demanded Q and eq Q – loss to economy; total surplus is lower at demanded Q than Q*  If above Q*, consumers value it less than the cost of producing it; better for society to produce less than Q2 since total surplus is < at Q*; producers earn –ve PS on units above Q* since MC>p* and consumers earn – ve CS on units above Q* since marginal valueMC Allocative Efficiency and Market Failure  perfect competition only actually exists in a small # of industries – theoretical ideal  market failure – when market transactions – production and consumption – impose costs or confer benefits on economic agents who aren’t involved in the transaction – externalities – raise the possibility that market outcomes will be allocatively inefficient  when production of good/service causes pollution, the Q produced in a perfectly competitive industry will exceed the efficient amount 3  One of the most important issues in public policy is whether, and under what circumstances, govt action can increase the allocative efficiency of market outcomes  Economic regulation and competition policy – promote AE 12.2 Economic Regulation to Promote Efficiency  Non-competitive/monopoly practices: monopolies/cartels/price-fixing agreements among oligopolists, either explicit or tacit  Competition policy: the laws and other instruments that are used to encourage competitive behaviour and discourage monopoly practices; used to promote AE by ^competition in market  Economic regulations: employed by federal/provincial/local govts, which prescribe the rules under which firms can do business and in some cases determine the prices that businesses can charge for their output o CRTC: federal agency that regulates many aspects of radio/tv/telecommunications industries o OSFI: oversees the regulation of Canada’s bank and insurance companies  When competitive behaviour not possible (natural monopolies: electricity), public ownership or economic regulation of privately owned firms can be used as a substitute for competition; consumers protected from restricted output and high prices from monopoly power Regulation of Natural Monopolies  Natural monopoly: an industry characterized by economies of scale sufficiently large that one firm can most efficiently supply the entire market demand (electricity, local telephone)  Requires establishment of large+expensive distribution networks (transmission lines, pipelines) and the size of the market is such that only a single firm can ach
More Less

Related notes for ECON 208

Log In


Join OneClass

Access over 10 million pages of study
documents for 1.3 million courses.

Sign up

Join to view


By registering, I agree to the Terms and Privacy Policies
Already have an account?
Just a few more details

So we can recommend you notes for your school.

Reset Password

Please enter below the email address you registered with and we will send you a link to reset your password.

Add your courses

Get notes from the top students in your class.