3.4

• What is efficiency in the context of market resource allocation?

  Efficiency judges how well the market allocates resources and the relationship between scarce inputs and outputs.
• What are the different types of efficiency in economics?

  • Allocative efficiency
  • Productive efficiency
  • Dynamic efficiency
  • X-inefficiency
• What is allocative efficiency?


  Allocative efficiency occurs when resources are used to produce goods and services that consumers value most highly, maximizing social welfare.
• When does allocative efficiency occur in terms of price and marginal cost?

  It occurs when the value to society from consumption equals the marginal cost of production, where \( P = MC \).

  
• What is productive efficiency?


  A firm achieves productive efficiency when it produces goods at the lowest average cost, using the fewest resources for maximum output.
• Under what condition does productive efficiency exist?

  Productive efficiency exists when firms produce at the bottom of the average cost (AC) curve, where \( MC = AC \).
• What is technical efficiency?


  Technical efficiency is when a given output is produced with minimum inputs.
• Can all technically efficient firms be considered productively efficient?


  No, not all technically efficient firms are productively efficient.
• What is dynamic efficiency?

  Dynamic efficiency is achieved when resources are allocated efficiently over time, focusing on investment and innovation.
• What is static efficiency?


  Static efficiency refers to efficiency at a set point in time.
• What are examples of static efficiency?


  Allocative and productive efficiency are examples of static efficiency.
• What is required for dynamic efficiency to be achieved in markets?


  Dynamic efficiency requires competition that encourages innovation and investment.
• What is X-inefficiency?


  1. inefficiency occurs when a firm fails to minimize its average costs at a given level of output, resulting in organizational slack.
• What causes X-inefficiency in firms?


  1. inefficiency often occurs due to a lack of competition, leading firms to have little incentive to cut costs.
• If a firm produces 125 goods at a cost of £8 each instead of £7, what type of inefficiency is it experiencing?

  The firm is experiencing X-inefficiency.
• What is perfect competition?


  Perfect competition is a market with a high degree of competition, where no single firm can influence the market.
• What does the term 'perfect' in perfect competition imply?


  The term 'perfect' does not mean it maximizes welfare or produces ideal results.
• What is an example of a market that may fit the perfect competition model?


  A possible example is agriculture.
• What are the four key characteristics of perfect competition?


  Many buyers and sellers, freedom of entry and exit, perfect knowledge, and homogenous products.

  
• What does it mean for demand to be perfectly elastic in perfect competition?


  It means that prices are solely determined by the interaction of demand and supply, and firms are price takers.

  
• Why is freedom of entry and exit important in perfect competition?


  It allows businesses to enter when profits are made and exit when losses occur, leading to normal profits in the long run.

  
• What does perfect knowledge imply in a perfectly competitive market?


  It implies that firms know when others are making profits, attracting them to join the market.

  
• What is meant by homogenous products in perfect competition?


  Homogenous products are identical, making it impossible to differentiate between them.
• What is the profit-maximizing equilibrium condition for firms in perfect competition?

  Firms produce where \( MC = MR \).
• What types of profits can firms make in the short run under perfect competition?


  Firms can make normal profit, supernormal profit, or a loss.
• What happens to firms in perfect competition in the long run?

  In the long run, firms can only make normal profits due to the entry of new firms.
• How does the entry of new firms affect prices in perfect competition?


  New entrants increase supply, leading to a fall in prices.

  
• What is the relationship between price and average cost in the long run for firms in perfect competition?


  In the long run, price equals average cost, leading to normal profits.

  
• What is the efficiency of firms in perfect competition?


  Firms are productively efficient since they produce where \( MC = AC \) and allocatively efficient since they produce where \( P = MC \).
• Why are firms in perfect competition not dynamically efficient?


  Firms lack sufficient resources for research and development, and innovations are quickly adopted by competitors.
• What is monopolistic competition?


  Monopolistic competition is a form of imperfect competition with a downward sloping demand curve.
• What are some examples of firms in monopolistic competition?


  Examples include hairdressers, estate agents, and restaurants.
• What is a key characteristic of monopolistic competition regarding buyers and sellers?


  There must be a large number of buyers and sellers, each acting independently.
• What does the absence of barriers to entry and exit mean in monopolistic competition?


  It allows new firms to enter when supernormal profits are made and exit when losses occur, leading to normal profits in the long run.

  
• How do firms in monopolistic competition differ from those in perfect competition?


  Firms in monopolistic competition produce differentiated, non-homogenous goods, giving them some price-setting power.

  
• What is the profit-maximizing equilibrium condition for firms in monopolistic competition?

  Firms produce where \( MC = MR \) in the short run.
• What happens to firms in monopolistic competition in the long run?

  In the long run, firms can only make normal profits due to the entry of new firms.
• What is the limitation of the monopolistic competition model?

  Information may be imperfect, preventing firms from entering the market as predicted.
• How does the efficiency of firms in monopolistic competition compare to perfect competition?


  Firms in monopolistic competition are not allocatively or productively efficient, as \( MR \neq AR \).
• Why might firms in monopolistic competition be dynamically efficient?

  Firms may be dynamically efficient due to differentiated products that encourage innovation for competitive advantage.